Wednesday, January 24, 2001
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Posted on: Wednesday, January 24, 2001

Liberty House may go to 'vulture funds'

By Andrew Gomes and John Duchemin
Advertiser Staff Writers

Previous stories:
Liberty House, creditors settle
Liberty House continues to gain strength
Bankruptcy claimants vying to determine Liberty House's future
Liberty House finding its way
The two private Mainland investment firms that would be the new majority owners of Liberty House under a pending reorganization plan have extensive histories of acquiring distressed companies out of bankruptcy.

Although it isn’t clear what they plan to do as owners of Hawai"i’s oldest and largest department store, their investment strategies, as well as analysts’ observations, suggest they may be likely to sell Liberty House in three to five years.

Oaktree Capital Management LLC of Los Angeles and DDJ Capital Management LLC of Wellesley, Mass., would control about 80 percent of Liberty House under a reorganization plan still pending before U.S. Bankruptcy Court Judge Lloyd King.

Yesterday, King heard arguments on an estimated Internal Revenue Service tax claim against the retailer in an effort to remove the last major sticking point of the nearly three-year-old case. The matter was continued until today and, if settled, would allow Oaktree and DDJ to move ahead with assuming majority ownership of Liberty House.

Both DDJ and Oaktree have said they do not discuss specific investments as a matter of policy, and therefore would not comment on their plans for Liberty House.

Although they are commonly referred to as "vulture funds," the investment firms are not in the business of devouring assets of near-death companies and leaving the remains behind. Instead, these funds seek undervalued or distressed properties with the intention of improving them for future divestment and profit.

Firm attracted to faltering economy

Oaktree is an $18 billion investment firm formed in 1995 by seven former investment managers of Los Angeles-based Trust Company of the West. About one third of its investments are in debt of distressed companies, which have included retailers Federated Department Stores, Macy’s and Barneys.

The firm was quickly attracted to Hawaii because the company was established in the midst of the state’s faltering economy, during which the availability of distressed property began to balloon.

In 1995, Oaktree acquired the $155 million mortgage on the Waikiki Landmark condominium for an estimated $50 million, and paid $12.6 million for six properties near the Ala Wai Canal and Kalakaua Avenue from a Japanese investor who paid more than twice as much in 1990.

In 1998, Oaktree invested in the Turtle Bay Hilton Golf & Tennis Resort by lending local developer Bill Mills $52 million to acquire and refurbish the North Shore resort. Last month, Oaktree assumed complete ownership of the Turtle Bay after settling a lawsuit against Mills. Oaktree is proceeding with a roughly $20 million renovation.

More recently, Oaktree has invested in a 150-store supermarket chain on the Mainland, a Canadian funeral services company, and the nation’s largest movie theater chain.

Oaktree acquired debt of Liberty House from other lenders early on in the bankruptcy case, and would come away with about 38 percent of the retailer upon reorganization.

DDJ Capital was formed in 1996 by David Breazzano and Judy Mencher, two veterans of Fidelity Investments. The company, which has put money into industries including health care, semiconductors and chemical production, has developed a reputation as a "bottom feeder" that buys stock in troubled retail companies.

DDJ manages or advises 40 percent of Liberty House’s secured debt, which would be converted to equity shares under the proposed plan, for three owners. Those owners are a pair of capital funds (B III and B III-A Capital Partners, which have participated in past DDJ deals) and one trust (the General Motors Employees Global Group Pension Trust, which will use State Street Bank & Trust as its Liberty House custodian).

History of dealing with bankruptcies

DDJ has been in many similar situations. The firm bought part of California lawn-and-garden store Smith & Hawken to rescue the company from bankruptcy in 1999. As with Liberty House, DDJ entered the Smith & Hawken bankruptcy settlement as one of the largest creditors. Under DDJ and other new owners, Smith & Hawken has opened several new stores to increase revenue and has trimmed its catalog to cut costs, according to several news reports.

In Ohio, DDJ and several affiliated funds and investors together own about 15 percent of formerly bankrupt Penn Traffic Co., parent company of Big Bear supermarkets, according to Business First, a business journal in Columbus, Ohio. Despite a Chapter 11 reorganization completed in 1999, Penn Traffic continued to lose money, according to SEC filings. Its publicly traded shares sank last year from more than $8 a share to about $3 a share. DDJ affiliates snapped up shares at that price. Yesterday, Penn Traffic was trading at $4.13 per share.

Among other deals, DDJ has participated in the bankruptcy reorganization of other companies including Barry’s Jewelers Inc., clothing wholesaler Salant Corp. and Waste Systems International.

Richard Dole, principal of the Honolulu-based private equity investment banking firm Dole Capital LLC, said vulture funds typically maintain their investment for three to five years. In some cases, such investors hold assets for longer.

More often, vulture funds strengthen an asset, take profits and move on. "They’re in it as investors, not as owner of a business," Dole said. "I don’t expect them to be 30-year investors. They are going to do something."

Local retail analyst Douglass Smoyer said he doesn’t expect any other big department store or retail chain to emerge as an eventual buyer for Liberty House. That’s because Liberty House has unique assets, such as a localized distribution network and varying store sizes at locations spread around the state at malls and hotels, that don’t appeal to retailers coming to Hawaii.

"Macy’s, Nordstrom, Dillard’s just wouldn’t be interested in that," he said.

Who would be interested in owning Liberty House for the long term? Probably another investment company. But in the meantime, Smoyer notes, the kamaaina department store has its work cut out for it. "They have to produce for very astute owners," he said.

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