For many companies, bankruptcy is an opportunity to gain some breathing space, refinance debt and move on. Most airlines have been through bankruptcy at least once, and many other companies in operation today once had to seek protection from their creditors. It's not often that major companies choose the route of liquidation, but on Thursday, Hostess, the maker of well-known baked goods like Wonder Bread and Twinkies, announced that it was doing precisely that.

Discount Brokers Comparison: Your one-stop shop for finding the perfect broker for your investments.

How Did We Get Here?
In January of this year, Hostess sought bankruptcy for the second time in less than eight years, as it owed more than $1.4 billion in various debts and obligations, including almost $1 billion in pension obligations to the Bakery & Confectionery Union & Industry International Pension fund. While the company reported nearly $1 billion in various plant assets, the company had long struggled to make sustained profits and cash flow from those assets, and the company struggled through numerous leadership changes over the years.

Certainly, management deserves some of the blame here. Hostess had numerous changes in its senior management, and lacked a strong roster of talented baking industry veterans. While the company had much-loved brands and the second-largest share in the U.S. market (after Grupo Bimbo), management couldn't find a way to make sustained profits with that. What's more, companies like Bimbo, Flowers (NYSE:FLO), Mondelez (Nasdaq:MDLZ) and Campbell Soup (NYSE:CPB) were outmaneuvering the company with new product development and in-store promotion activities.

Nevertheless, the final straw would seem to be an unsustainable employee cost structure. Hostess got a bankruptcy judge to sign off an adjustments to union contracts that would cut wages and benefits by about 30%, but the Bakery, Confectionery, Tobacco Workers and Grain Millers International Union (BCTGM) refused to go along and went on strike. In response, management warned that if the strike continued, they would be forced to liquidate the company. While the Teamsters Union warned the BCTGM that the company's management was not bluffing (and was indeed in an untenable state), the BCTGM refused to budge and Hostess management opted for liquidation.

SEE: Distressed Debt An Avenue To Profit In Corporate Bankruptcy

What Happens Now?

With Hostess electing to go into liquidation, what happens next is basically an auction process, where the company's hard assets (such as plants and machinery) and brands/recipes will go to the highest bidder(s).

Successful bidders are not required to take on the employees, so a bidder could acquire brands like Twinkies and HoHos and manufacture them in existing plants - offering no relief for the 18,000 or so workers who will now be out of work.

Although there would seem to be a lot of overlap between Bimbo's products and Hostess, I'm not sure Bimbo will make a bid. Bimbo tried to acquire Hostess during the prior bankruptcy and ultimately ended up acquiring Sara Lee's bakery operations. Adding Hostess would boost its market share to around one-third to 40%, and that may be problematic for some regulators (and retailers like Wal-Mart (NYSE:WMT) couldn't be too happy about it either).

Flowers, Mondelez and Campbell Soup could also be options, and I could perhaps see Kellogg (NYSE:K) having some interest in adding the snack cake brands to its existing Keebler operations. Similarly, I wouldn't be surprised to see the Hostess brands broken up - it would surprise me if Kellogg or Mondelez wanted the fresh bread operations, for instance.

SEE: An Overview Of Corporate Bankruptcy

Did This Have to Happen?
Looking through some of the details of this announcement, I really have to question whether this whole situation was necessary. In particular, I have to wonder about the agenda of the BCTGM union.

What may not be commonly appreciated is that the large pension fund obligation is not at risk; Hostess was part of a multi-party pension plan where others must take on the liability if a member goes bankrupt. As a result, Bimbo will be on the hook for roughly one-quarter of the pension liability, with Mondelez responsible for 15%, and Safeway (NYSE:SWY) and Kroger ( NYSE:KR) collectively responsible for another 15% or so.

So at least insofar as the pension was concerned, the union knew that money wasn't at risk. What's more, while I appreciate the anger and frustration of workers asked to take another 30% hit to wages and benefits due to management's mistakes, I have to ask whether it's better for these 18,000+ workers to have a job that pays 70% of what it paid before or no job at all and lose 100% of their pay (particularly right before Christmas). After all, this isn't an economy where 18,000 workers can easily be reabsorbed. In any case, the workers had their chance to vote and they made their decision.

The Bottom Line
Here again we see an example where even great brands cannot protect a company indefinitely. While it's almost impossible to think that Twinkies and other popular snack cakes won't re-emerge under somebody else's umbrella, the Hostess saga is a painful lesson in how changing industry dynamics along with uncompetitive cost structures and incompetent management can destroy even an otherwise strong collection of brands.

At the time of writing, Stephen D. Simpson did not own any shares in any company mentioned in this article.

Related Articles
  1. Stock Analysis

    Starbucks: Profiting One Cup at a Time (SBUX)

    Starbucks is everywhere. But is it a worthwhile business? Ask the shareholders who've made it one of the world's most successful companies.
  2. Stock Analysis

    How Medtronic Makes Money (MDT)

    Here's the story of an American medical device firm that covers almost every segment in medicine and recently moved to Ireland to pay less in taxes.
  3. Investing News

    Latest Labor Numbers: Good News for the Market?

    Some economic numbers are indicating that the labor market is outperforming the stock market. Should investors be bullish?
  4. Investing News

    Stocks with Big Dividend Yields: 'It's a Trap!'

    Should you seek high yielding-dividend stocks in the current investment environment?
  5. Investing News

    Should You Be Betting with Buffett Right Now?

    Following Warren Buffett's stock picks has historically been a good strategy. Is considering his biggest holdings in 2016 a good idea?
  6. Products and Investments

    Cash vs. Stocks: How to Decide Which is Best

    Is it better to keep your money in cash or is a down market a good time to buy stocks at a lower cost?
  7. Investing News

    Who Does Cheap Oil Benefit? See This Stock (DG)

    Cheap oil won't benefit most companies, but this retailer might buck that trend.
  8. Investing

    How to Ballast a Portfolio with Bonds

    If January and early February performance is any guide, there’s a new normal in financial markets today: Heightened volatility.
  9. Stock Analysis

    Performance Review: Emerging Markets Equities in 2015

    Find out why emerging markets struggled in 2015 and why a half-decade long trend of poor returns is proving optimistic growth investors wrong.
  10. Investing News

    The UAE: An Emerging Economy for Investors

    The learning from UAE on how it succeeded with timely diversification when the BRICS nations and the neighboring oil-rich economies faced challenges.
RELATED FAQS
  1. How do dividends affect retained earnings?

    When a company issues a cash dividend to its shareholders, the retained earnings listed on the balance sheet are reduced ... Read Full Answer >>
  2. What is the difference between called-up share capital and paid-up share capital?

    The difference between called-up share capital and paid-up share capital is investors have already paid in full for paid-up ... Read Full Answer >>
  3. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  4. How does additional paid in capital affect retained earnings?

    Both additional paid-in capital and retained earnings are entries under the shareholders' equity section of a company's balance ... Read Full Answer >>
  5. What types of capital are not considered share capital?

    The money a business uses to fund operations or growth is called capital, and there are a number of capital sources available. ... Read Full Answer >>
  6. What is the difference between issued share capital and subscribed share capital?

    The difference between subscribed share capital and issued share capital is the former relates to the amount of stock for ... Read Full Answer >>
COMPANIES IN THIS ARTICLE
Trading Center