SHARE THIS ARTICLE Share Tweet Post Email

Sex, money, betrayal: The bizarre brawl between American Apparel Inc. and its founder, Dov Charney, has all that and more.

But now this tabloid tale is coming down to a seemingly staid bit of finance: the bonds.

For all the back-and-forth over American Apparel -- spanning Charney’s alleged sexual antics, management’s wrath and the dueling lawsuits that have followed -- neither side is in control.

Instead, the bondholders are.

That became apparent on Monday, when the company announced a prearranged bankruptcy filing. If approved in court, creditors led by Monarch Alternative Capital, Coliseum Capital and Goldman Sachs Asset Management will exchange their bonds for equity and seize ownership of the reorganized company. Charney, whose 41 percent stake in American Apparel was valued at more than $8 million on Friday, will see his holdings wiped out.

The news comes less than two months after the distressed-debt specialists cemented their grip over the retailer by taking a majority stake in its credit line -- the cash-strapped company’s only source of funding, according to people familiar with the situation.

Ownership Change

“This is a debt-holder-owned company now,” said Charles O’Shea, an analyst who covers American Apparel at Moody’s Investors Service.

The restructuring will give the retailer the funds it needs to execute its turnaround, according to statements from the bondholders, Standard General and American Apparel.

Monarch, which manages about $5 billion, is by far the largest bondholder and will have co-founder Andrew Herenstein oversee its investment in American Apparel, said the people, who asked not to be identified because the matter is private. Monarch was also a bondholder in snack-maker Hostess Brands, which ultimately filed for bankruptcy in 2012 and then was liquidated.

It’s a remarkable turn of events for Charney, as well as hedge-fund manager Standard General, which seemed to ride to his rescue earlier this year. With a few shrewd moves, Standard General extracted substantial shareholder voting power from Charney after giving him a loan and used that leverage and some rescue financing to revamp the board in its favor before they fell out.

‘Betrayed’

Charney, who declined to comment, has said in a lawsuit that he was ousted because other American Apparel executives wanted to sell the company and knew he wouldn’t approve. He also alleged that Standard General promised to reinstate him, and was then “ betrayed” by the firm. Both American Apparel and Standard General have denied Charney’s allegations.

Only now, both have been outflanked by bondholders.

With a $13.9 million bond payment coming due on Oct. 15, and few visible signs of improvement as it kept burning through its remaining cash, the bondholders decided to push the company into a restructuring. Standard General declined to comment.

The strategy isn’t without considerable risks. Bondholders may recoup far less in a bankruptcy than the current market value of the debt, which last traded at about 75 cents cents on the dollar, according to Noel Hebert, a senior U.S. credit analyst at Bloomberg Intelligence.

No Guarantee

There’s also no guarantee the business will become sustainable, but cutting its debt obligations will give it a “fighting chance now” to survive, O’Shea said. American Apparel’s losses have only accelerated since the board suspended Charney in June 2014 and fired him in December for alleged misconduct. Even after embarking on a turnaround plan, which included revamping management, toning down its erotic marketing and closing stores, sales fell 14 percent in the first half of the year.

The proposed bankruptcy aims to reduce debt while keeping the company operating, the company said in a statement on Monday. The reorganization may take six months.

Charney, originally from Montreal, started the forerunner to American Apparel during his freshman year at Tufts University. He never graduated, setting off instead for South Carolina, where he employed 20 women to make T-shirts in a barn with no air conditioning. He moved the company to Los Angeles a decade later, seeking greater manufacturing capacity.

Sexual Innuendo

Charney faced years of allegations that he sexually harassed employees, including a 2011 suit in which a worker accused him of retaining her as a sex slave. While the lawsuits were either dismissed or settled privately, they eventually led the board to investigate him. After finding examples of misusing corporate funds and violating the sexual-harassment policy, they suspended him in June. During a second probe, the company collected a dossier of employee complaints of abuse, sometimes physical. American Apparel made his firing official in December.

The 46-year-old Charney also had a penchant for edgy advertising that critics said looked like pornography. American Apparel’s ads frequently showed half-dressed young women in alluring positions. One of the company’s New York stores even featured mannequins with pubic hair. Since his firing, American Apparel said it went too far in embracing “nudity and blatant sexual innuendo” under Charney.

Standard General was a little-known player until last year, when it made a splash at American Apparel and RadioShack Corp. -- another ailing chain. With both companies, it hoped to cash in on the bet that turnarounds were possible.

RadioShack Gambit

Neither have gone according to Standard General’s plan.

RadioShack filed for bankruptcy protection in February and faced liquidation until Standard General parlayed its role as the largest investor and a crucial lender into acquiring 1,700 of its 4,000 stores. That’s improved the prospects for that investment.

At American Apparel, bondholders have much more sway. Even before they took over the credit line, their bonds were likely to be the first piece of debt that wouldn’t be repaid in full in a default, or if the retailer is liquidated or sold in bankruptcy. That position now gives them the most influence in the bankruptcy proceeding because they have the most at stake. With RadioShack, Standard General led a group of lenders that had the power.

Standard General’s investment in American Apparel has never amounted to more than a small fraction of its $1.3 billion portfolio, but the bankruptcy is yet another blow.

“I wouldn’t say they’ve failed, but it’s not like they are rounding the bases with a grand slam yet either,” Hebert said.

— With assistance by Jodi Xu Klein

(Updates with company comments in eighth paragraph.)