Restructuring basics
5 min read · updated July 8, 2026
Sooner or later some company borrows more than it can pay back. A downturn hits, sales drop, and the interest bill outruns the cash coming in. The business is not necessarily worthless, it just owes more than it is worth. Fixing that mismatch between a company and its debts is restructuring, and it is one of the most active corners of banking when the economy turns.
There are two ways to fix it, and the first thing to know is which door the company walks through.
Two paths: out of court versus Chapter 11
The cheaper, faster path is an out-of-court restructuring. The company sits down directly with its lenders and negotiates. Maybe they agree to push out the maturity date, cut the interest rate, or swap old debt for new debt worth less (a distressed exchange). No judge, no courtroom, lower fees. The catch is that it usually needs almost every lender to agree, and a single holdout can block the deal.
When the debt is too tangled or too many lenders disagree, the company files for Chapter 11, the court-supervised reorganization used in the United States. This is the part people get wrong: Chapter 11 is not the company shutting down. The business keeps operating, keeps paying employees, keeps selling to customers, all while a judge oversees a process that fixes the balance sheet. A court can also force a restructuring on holdout creditors that would have blocked an out-of-court deal, which is often the whole reason to file.
Chapter 11 is a reorganization, not a funeral. The company stays alive and fixes its debts under court protection. Liquidation, where the business is shut down and its assets sold off for parts, is a separate process (Chapter 7). Confusing the two is a fast way to look green in an interview.
To keep operating during the case, a company often needs fresh cash. That comes from DIP financing (debtor-in-possession financing), new money lent to a company already in bankruptcy. Because it jumps ahead of everyone else in line, lenders are willing to provide it.
The waterfall: who gets paid, in what order
Inside a bankruptcy, value is paid out in a strict order of seniority. This rule is the absolute priority rule: a junior claim gets nothing until the claim above it is paid in full. Line the claims up top to bottom and the money pours down like a waterfall, filling each level completely before any spills to the next:
| Rank | Who gets paid |
|---|---|
| 1 | Secured lenders |
| 2 | Unsecured and senior bondholders |
| 3 | Subordinated debt |
| 4 | Equity holders |
Secured debt sits at the top because it has a claim on specific collateral, so it gets repaid first. Below it, unsecured and senior bonds are paid only after the secured lenders are made whole. Then subordinated debt, which by contract agreed to wait behind everyone else. Dead last is equity. Owners are the residual claim, they get whatever is left, and in a company that could not pay its debts there is usually nothing left. That is why equity is typically wiped out in a restructuring.
A clean waterfall example
Say a company in bankruptcy is worth $600 million as a going concern. Its debts are $400 million of secured loans and $300 million of unsecured bonds, so it owes $700 million against $600 million of value.
Walk the waterfall. The secured lenders are first and are owed $400 million, so they take $400 million and recover in full. That leaves $200 million. The unsecured bonds are owed $300 million but only $200 million remains, so they collect $200 million and are left short. Equity gets nothing.
The recovery rate is the percentage of what a creditor is owed that it actually gets back. A bond that pays back 40 cents on the dollar has a 40% recovery. Here the secured lenders recover 100% (400 of 400) and the unsecured bonds recover about 67% (200 of 300). Equity recovers 0%.
The fulcrum security
Notice where the money ran out: partway through the unsecured bonds. That layer, the one that is only partly repaid, is the fulcrum security. It is the pivot point of the whole restructuring. Everything senior to it gets paid in full; everything junior gets little or nothing.
The fulcrum matters because it usually does not get repaid in cash. Instead it converts into the new equity of the reorganized company. In the example, the unsecured bondholders swap their shortfall for ownership and walk out controlling the business. Distressed investors hunt for exactly this: buy the fulcrum debt cheaply, and you own the company on the other side.
Assuming the biggest or highest-coupon lender gets paid first. Priority is about seniority and collateral, not size or interest rate. Secured debt is repaid ahead of a larger unsecured bond every time, and equity, no matter how big the market cap was yesterday, is last.
Where the bankers sit
Restructuring bankers advise one side of the table. Company-side (or debtor) advisors help the business negotiate with its lenders and design the new balance sheet. Creditor-side advisors represent a group of lenders fighting for the best recovery they can get. It is one of the few advisory businesses that gets busier when markets get worse.
If asked to walk the waterfall, do it out loud in order: secured, then senior unsecured, then subordinated, then equity, and say the absolute priority rule as you go (nothing junior is paid until the layer above is full). Then land the depth point: name the fulcrum security as the layer that runs out and note it usually converts to the new equity. Add that equity is almost always wiped. That sequence, order plus fulcrum plus the equity point, is a complete answer.
Glossary
New to the lingo? Every term used above, in plain English.
- Restructuring
- Fixing the mismatch when a company owes more debt than it can pay, by renegotiating that debt either directly with lenders or through a court process. The business itself often stays alive.
- Chapter 11
- A US bankruptcy process where a company keeps operating while it restructures its debts, rather than shutting down and liquidating. Creditors get repaid based on seniority.
- Absolute priority rule
- The bankruptcy rule that value is paid out in strict order of seniority, so a junior claim receives nothing until the claim above it is paid in full. It is why equity, the last in line, is usually wiped out.
- Waterfall
- The picture behind the absolute priority rule: recovered value pours down through the claims by seniority, completely filling each level before any spills to the level below. Secured lenders fill first, equity catches whatever reaches the bottom.
- Recovery rate
- The percentage of what a creditor is owed that it actually gets back in a default. A bond that pays back 40 cents on the dollar has a 40% recovery rate.
- Fulcrum security
- The layer of debt in a bankruptcy that gets only partly repaid, so it converts into the equity of the restructured company. Owning it is how distressed investors take control.
- DIP financing
- Debtor-in-possession financing: new money lent to a company already in bankruptcy. It jumps to the front of the repayment line, which is why lenders are willing to provide it.
- Secured debt
- Borrowing backed by a claim on specific collateral, such as the company’s assets. That collateral puts it first in line to be repaid in a bankruptcy, so it is the cheapest layer of debt.
- Subordinated debt
- Debt that has agreed by contract to be repaid only after more senior lenders are made whole. It sits near the bottom of the capital structure, just above equity, so it demands a higher return.
- Equity Value
- The slice of a company that belongs to its shareholders. For a public company this is the market capitalization (share price times shares outstanding).
Make it stick
Drill what you just learned