The industry scrambled for financing Thursday as CIT Group Inc. tried to raise capital and avoid bankruptcy after being refused a government bailout.
With CIT on the brink of insolvency, thousands of fall orders booked with the vendor clients of the commercial lender’s factoring arm were pushed into limbo, and thousands of small and midsize manufacturers and retailers sought to figure out financing alternatives in a turbulent and uncertain economic climate.
CIT accounts for about 60 percent of the industry’s factoring volume and lent the apparel industry about $4 billion last year, a 20 percent drop from 2007, according to estimates from trade associations and analysts. The commercial services unit provides factoring services for 2,000 vendors who collectively sell to 330,000 retailers. The firm advances suppliers cash for shipments and lends to small and midsize retailers in a variety of industries.
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The 101-year-old lender did not appear at press time to have made any discernible progress in what many deemed to be a long-shot bid to arrange financing. There are some hopes the profitable factoring arm that guarantees shipments to stores could be separated from the company or sold and kept afloat.
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Sources familiar with discussions at CIT said the firm was considering having the holding company file for Chapter 11 while some subsidiaries, such as the factoring arm, are excluded from the filing.
A financial executive familiar with CIT’s operations said the factoring business is set up as a separate corporation. CIT spokesman Curt Ritter declined comment.
Many vendors who use CIT as a factor were clearly panicked.
“I’ve had 26 calls from garment center companies since 12 p.m. yesterday,” said bankruptcy attorney Jerry Reisman, a partner at Reisman, Peirez & Reisman. “It’s going to have such a ripple effect that the government doesn’t understand. Tomorrow, if it’s payroll day, how will these manufacturers be able to obtain money for payroll?”
Steven Kolb, executive director of the Council of Fashion Designers of America, said designers were concerned.
“They don’t really know where to turn when the government isn’t going to bail out CIT,” Kolb said. “There is a level of unfairness when you look at some other industries that have been bailed out.”
Fitch Ratings said there was a “high probability” that CIT would file for bankruptcy soon and also cut the firm’s credit rating on $35 billion in debt to “C” from “BB-minus.”
Ultimately, it might be CIT’s own clients who sink the company by drawing down their credit lines, in effect making a run on the bank and soaking up its reserves.
“The company’s already tenuous liquidity position has been further eroded as its customer base has likely been drawing down on its availability credit lines,” Fitch analyst Vincent Arscott wrote in the downgrade.
The ramifications of a failure could be both subtle and dramatic. “A lot of easy money that helped this industry for a long time is not going to be around,” said David Strasser, an equity analyst with Janney Montgomery Scott. “There’s going to be a product that nobody’s going to expect to be big…and they’re not going to be able to get it out there.”
The industry hoped to dodge this bullet with an assist from Washington, which gave CIT a $2.33 billion boost from the Troubled Assets Relief Program in December. But late Wednesday, after days of negotiations with federal officials, the New York-based lender said there was “no appreciable likelihood of additional government support being provided in the near term” and that it was “evaluating alternatives.”
The government apparently concluded the U.S. economy would sustain a CIT failure without damage to the financial system.
With bankruptcy looming, more than $1.3 billion in debt coming due at the end of September and a total of $8 billion in unsecured debt outstanding, shares of CIT Group Inc. fell 75 percent in trading Thursday. Shares closed at 42 cents, down $1.23, with 436 million shares exchanged, more than 18 times their usual volume.
“The President, when he came into office, was clear that he would have a very high standard for what companies received assistance from the federal government, from American taxpayers, and a lot of that had to do with whether or not they could show themselves to be sustainable in the long term,” White House deputy press secretary Bill Burton told reporters on Air Force One.
Burton declined to comment specifically on CIT, but said President Obama did not make the final decision to end talks with CIT. Burton pointed to the Treasury Department, which declined to comment on CIT.
Unlike the financial turmoil last fall, when the bottom fell out of almost every sector at once, the upheaval at CIT hits fashion more directly. And the meltdown couldn’t come at a worse time for the lender’s middle-market and mom-and-pop clients who are just about to start shipping fall goods.
If the lender does go belly-up, it’s possible that vendors who shipped goods but haven’t yet received full payment from CIT would have to wait in line with other unsecured creditors to salvage what they can from the wreckage.
While vendors face specific problems in the realm of factoring, retailers might have to be especially flexible in their dealing with their vendors.
“It will be very bad for the industry if CIT goes bankrupt,” said Richard Baker, chairman of Lord & Taylor and parent Hudson’s Bay Trading Co. “Fortunately, L&T has no financial exposure and a very small percentage of vendors who are factored by CIT.”
Vince Phelan, senior vice president and treasurer of Barneys New York, said, “Barneys enjoys a solid relationship with CIT and fully expects that they will manage through this crisis. Barneys is willing to work with CIT and all of our vendor partners to solve any issues that may arise.”
Although Belk Inc. said it does not have a financing relationship with CIT, the company said: “A number of our vendors do have relationships with CIT. However, we are not in a position to speculate on how they might be affected.” Similarly, The Bon-Ton Stores Inc. and Dillard’s Inc. both stated that CIT is not involved in their revolving credit facilities.
Justin Remeny, president of Remy Leather, a CIT client, said if the bank does go under, he expects to transfer his business to a competing factoring company, mentioning Continental Business Credit, based in Woodland Hills, Calif.
Sameer Ramani, president of the privately financed sportswear vendor Contrepoint Industries, said “rescue orders” could start rolling in from retailers if other suppliers have trouble shipping.
“The fall goods are starting to be shipped in the next few days, if not hours,” Ramani said. “I’m not going to be a vulture and try to chase the opportunity, but I want to help all my close accounts and I’ll certainly be there when they need it.…It is what it is. Life moves on.”
Rousso Apparel Group Inc., which has been in business 35 years, has been using CIT Group as factors for the past 20 years, through the acquisitions of Republic Factors and HSBC factoring.
“It’s too early to tell what they’ll look like in the future,” said Victor Rousso, chief executive officer of Rousso. The company is under contract with CIT, and those agreements generally run for two years.
“They sort of lock you in and you can’t get new financing,” Rousso said. “Most of your assets are assigned to them.”
Marc Crossman, president and ceo of Joe’s Jeans Inc., was questioned about the level of his company’s exposure to CIT during a conference call with analysts on Wednesday to discuss second-quarter results.
“We ended the quarter with about $6.8 million worth of cash on the books, so from a working capital standpoint, we’ve got plenty of time and plenty of capital to be able to weather any storm, if there is a storm,” he said.
According to the company’s quarterly filing with the Securities and Exchange Commission, as of May 31, Joe’s had $9.1 million of factored receivables with CIT and owes them $4.6 million. Crossman believes if CIT fails, the company could continue operating normally for up to 30 days, which he believes would be plenty of time to make new arrangements with another factor like Wells Fargo.
Some took a tough-love approach view of the situation. Larry Wade of Wade’s Clothing in Zanesville, Ohio, said vendors should have foreseen the CIT crisis and left the bank.
“I hate to see anybody fail, but as a country, we can’t keep bailing people out,” Wade said. “In a way, maybe this is a good thing because we have too much of everything and it could be the time for other factors to step in.”
As for the Obama administration’s position on a bailout, Tracy Mullin, president and ceo of the National Retail Federation, said, “It certainly doesn’t sound like the people who can have an impact on CIT, at least at this very moment, have indicated any interest in making any changes to help them.…It may not be anything more complicated than just bailout fatigue.”
CIT was not technically considered a bank until December, when it was allowed to morph into a bank holding company at the same time it received TARP funding.
Unlike mainstream banks, which have had more than their share of problems, CIT’s business is not funded through deposits for personal accounts. It depends on its ability to borrow on the open markets, something that has become practically impossible given its “junk” debt rating and the credit crisis that swept through Wall Street and the global economy last year.
Along with other financial executives, Jeffrey Peek, chairman and ceo of CIT, has been criticized for expanding into the subprime mortgage business.
Across the financial sector, bets on less-than-creditworthy mortgages began to unravel in the summer of 2007 and eventually forced Wall Street to cede some control to Washington. For some, the luxe life also had to be reinvented.
Sources said the situation at CIT is “fluid,” although a Chapter 11 bankruptcy filing could come as early as today. Such a filing would be the first for a firm that was a recipient of TARP funds.
However, there is precedent for a filing by a financial institution that excludes subsidiaries. Lehman Brothers Holdings Inc. filed for Chapter 11 in September, but none of its broker-dealers were part of it.
If the factoring business were able to operate without interruption, it would be a welcome relief for vendors and retailers, which are gearing up for back-to-school and early fall shipments.
While CIT’s options have narrowed, the lender could avoid bankruptcy if its debt holders agreed to exchange debt for equity and shore up CIT’s balance sheet. Financial sources said negotiations hadn’t progressed.
Executives at competing factoring firms believe the factoring business might be sold, possibly to J.P. Morgan, to raise cash. J.P. Morgan doesn’t operate a factoring division. A spokeswoman for J.P. Morgan declined comment.
However, CIT’s stock and bonds were trading as if investors were expecting a bankruptcy filing.
Anders Maxwell, managing director at investment banking firm Peter J. Solomon Co., who specializes in restructuring, said, “If the market is right, it is saying CIT is failing and is going into bankruptcy. Based on the volume of the stocks [being traded] and the direction, there is no ambiguity as to what the market thinks. Something had to give when CIT lost its investment grade rating. You can’t operate a finance company without an investment grade rating.”
Like many within the apparel industry, Maxwell struggled with why the Obama administration felt compelled to bail out Chrysler and General Motors but put a finance company at risk when the firm provides financing to small businesses, a major area of employment in the U.S.
Gilbert Harrison, chairman of investment banking firm Financo Inc., said, “Should CIT fail, it will have a ripple effect to the retail community, which will be damaged especially if advances are not made to many of the vendors that they service. CIT acts as a bank and the people they service will be unable to pay their employees, buy goods and deliver them to the retailers.”
CIT has already pulled back on some lending to clients.
Ian Varley, managing director at Bibby International Trade Finance, a division of Bibby Financial Services, said, “We have been getting many calls today from clients funded by CIT. A few called and said they didn’t get funding yesterday, and not today. In the last few days, we’ve gotten calls from people funded by CIT looking for options.”
Although Varley noted there are “hundreds of small factors,” he acknowledged not all have the capacity to pick up the slack. He’s seen more applicants for factoring services as those who would have received loans from banks find themselves seeking alternatives now that banks have tightened lending standards.
A research note from CreditSights said CIT needs between $4 billion and $6 billion in financing to avoid a filing, even though CIT believes it needs just $2 billion in the next 24 hours. The CreditSights analysts said the Treasury Department has indicated it expects to lose the $2.33 billion in TARP funding it loaned to CIT. The analysts advised bondholders to “brace for bankruptcy.”
Chris Brendler, analyst at Stifel Nicolaus, wrote in his note on Thursday, “We expect the company to file for bankruptcy in short order.…We think CIT’s poor credit quality ultimately led to its demise.”
Brendler added that CIT “clearly had the wrong business model for the new world of deleveraging.” He also noted, “Although CIT management is working desperately on rescue financing from existing debt holders, we think this is a tall order on such short notice, especially given the size of the hole.”
Sources said even up until early afternoon Wednesday, there was hope within CIT that a deal for a government bailout could be worked out. Those sources also said there was disagreement among the Treasury Department, Federal Reserve and Federal Deposit Insurance Corp. on whether a bailout would even stem the problems at CIT.
These sources said even if a deal could be worked out where assets were transferred to CIT’s bank and then to the holding company, it would still need FDIC’s approval, and there’s no assurance that approval would be granted.