By Vicki M. Young
with contributions from Kari Hamanaka
 on August 12, 2015

To say that things are not looking good for American Apparel Inc. would be an understatement.

Shares of the company on Wednesday dropped 37.4 percent to close at 13 cents. The market capitalization is now just $23.7 million, representing a $14.1 million loss from $37.8 million at the market close on Tuesday.

American Apparel in a regulatory filing with the Securities and Exchange Commission on Tuesday said it is working with key stakeholders in considering “strategic and financial alternatives.” The filing, a Form NT 10-Q, also said the company would be late in filing its quarterly report because it is “potentially” in noncompliance with certain financial covenants in its Capital One facility. The retailer is in negotiations with Capital One for a possible waiver.

Credit analyst Kevin Starke at CRT Capital Group said “given the demonstrated inaccessibility of capital markets, it would seem to us that a company of this size in the midst of an operational restructuring with only $13 million in liquidity might want to avail itself of the protections offered by Chapter 11 of the bankruptcy code.”

According to Starke, American Apparel “burned approximately $18 million in cash during the quarter, while financing activities managed to add only $4 million.” Further, its $10 million “at the market” offering generated $2 million in proceeds on the sale of four million shares. The retailer has about $7 million in cash, compared with $21 million at the end of the first quarter, and $6 million in borrowing availability.

The retailer provided a thumbnail sketch of its financial picture — sales fell 17 percent to $134 million; comps dropped 14 percent in the quarter, and store closures and unfavorable foreign exchange rates cut revenues by $9 million — that included a wider second-quarter loss to $19.4 million from $16.2 million a year ago. Starke noted that adjusted earnings before interest, taxes, depreciation and amortization dropped 74 percent to $4.1 million, versus $15.9 million in the year-ago quarter. “For what it is worth, we calculated that the company would have needed EBITDA of at least $7.35 million to remain in compliance with its financial maintenance ratios, and possibly more,” Starke said.

Whether American Apparel can obtain a waiver is unclear. Hedge fund Standard General, the retailer’s financial sponsor, inked an agreement in March to acquire Capital One’s $34 million facility, although that acquisition hasn’t been completed. Starke said, “Completion of such a deal may well be the company’s only hope of getting a waiver.”

The retailer has been in an “operational restructuring” mode since the ouster of founder Dov Charney in June 2014. It recently said it was implementing new cost-cutting initiatives so it can trim operating expenses by up to $30 million over the next year-and-a-half. Cost-cutting efforts include the closing of stores and workforce reductions.

Starke noted last month that the closing of stores could prove to be “financial problematic” since many locations are in high-end markets in New York and California where the company could face expensive charges to break leases with landlords.

Given waning liquidity and declining cash flow, there might be insufficient funds to effect an operational restructuring as the company’s expense structure requires cash to fund and develop new product lines, pay the associated costs to break leases and develop marketing campaigns to update the brand’s image, Starke noted.

Bob Carbonell, executive vice president and chief credit officer for credit checking firm Bernard Sands, said, “To the best of my knowledge, there is no support in the factoring community. We have no clients extending them credit.”

Another credit analyst at a New York firm, who requested anonymity, said, “The little fixes such as store closures and cutting expenses aren’t enough. The usual fixes haven’t worked up to this point.”

Charles O’Shea, vice president and senior analyst in the corporate finance group at credit ratings agency Moody’s Investors Service Inc., on Wednesday downgraded the corporate family rating to “Caa3” from “Caa2.” O’Shea said, “We believe that the likelihood of some sort of restructuring ahead of the upcoming October interest payment on the bonds is acute. The company’s liquidity is presently untenable given the possible lack of revolver access due to the potential covenant breach, which exacerbates what is an unsustainable capital structure at current levels of operating performance.”

The interest payment in October is $13 million.

O’Shea also noted that Standard General’s plan to step into Capital One’s shoes as revolver provider “further heightens the risk of a restructuring as the specter of a loan to own scenario increases, which we believe would significantly impair existing bondholders.”

The “Caa3” rating reflects the company’s “fragile liquidity, as well as its unsustainable capital structure at present levels of operating performance….Given the significant liquidity, operating and governance issues that continue, an upgrade in the near future is unlikely,” the Moody’s analyst said.

American Apparel on Monday had to deal with a rally inside company headquarters that erupted, prompting the Los Angeles Police Department to be called on site. The company is headquartered in Los Angeles. Videos uploaded to YouTube showed workers rallying inside the break room and other parts of American Apparel’s downtown Los Angeles headquarters and calling for the ouster of Paula Schneider, who became chief executive officer in January.

Union organizers and some workers attempted to enter the company’s offices Monday through the main entrance but were stopped by security. Some then managed to enter the building through a back staircase, according to one former American Apparel executive who participated in the rally.

The rally appears to have been in response to what union organizers later characterized in a letter sent Tuesday, and obtained by WWD, as the “illegal firings” of garment worker Esmeralda Morales along with former merchandisers Maksuda Akter and Stephanie Santos.

It follows a similar rally late last month outside of headquarters, which managed to attract the attention of Los Angeles city councilman Gil Cedillo, who was seen speaking on a microphone in one video recording of the gathering. A spokesman for the councilman said Cedillo “simply wanted to show his support of their efforts to unionize and improve working conditions.”

A source said that Wednesday morning, keypads were installed on each factory floor and employees were not given the codes. To enter the workplace, there were individuals stationed at the keypads to input the number.

The company also is said to have installed a new chain-link fence outside the entryway to the factory, and that Akter, the last controversial poster girl from Charney’s tenure with her “Made in Bangladesh” ad, was fired.

Requests for comment – via phone calls and e-mails – were made to Chelsea A. Grayson, American Apparel’s general counsel, executive vice president and secretary, regarding the rally, the changes at the factory and the firing of Maksuda.

The requests for comment were not returned by press time.

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