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Riding the Fulcrum Seesaw

By Mark S. Lichtenstein and Matthew W. Cheney
September 26, 2007

Due in large part to prolific liquidity in the marketplace and historically low interest rates, corporate bankruptcy filings are at record lows. Although recent events indicate that liquidity may be beginning to dry up, distressed companies have gorged on this easy credit with the hopes that throwing more money at problems will improve results. Troubled businesses also may have turned to the distressed debt market instead of filing for bankruptcy protection due to recent changes to the Bankruptcy Code, which made bankruptcy a more complicated, expensive and uncertain alternative. As a result, when the next wave of Chapter 11 filings comes, hedge funds and other distressed debt investors will act to protect their unique interests and strategies, which will bring new dynamics to bankruptcy cases.

The Fulcrum Investment Strategy

In recent years, the growing distressed debt market has provided desperately needed cash to troubled companies, permitting them to restructure their balance sheets. Distressed debt investors are willing to accept junior positions, or even equity, in the capital structures of companies. In this way, although motivated to achieve high returns, hedge funds may help distressed companies by infusing money to allow a company a chance to turn around its financial problems.

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