Signs Of Turbulence For Panolam Redux

When San Francisco’s Genstar Capital acquired Panolam Industries International Inc. for the second time in 2005, the buyout shop no doubt hoped to revisit the success it experienced during its first ownership go-round with the maker of decorative synthetic surfaces. But ongoing credit issues stemming from a default by the company earlier this year may mean Genstar Capital’s sequel investment won’t end as happily as the original.

Panolam Industries, which is co-owned by Houston shop The Sterling Group, entered into a forbearance agreement with its senior lenders on March 31 after it tripped financial and reporting covenants earlier in the year. The forbearance agreement, however, brought on more problems as it prohibited the Shelton, Conn.-based company from making an April 1 interest payment on its senior subordinated notes due 2013.

The missed payment set the clock ticking on a 30-day grace period that has now lapsed without payment being made. This puts Panolam Industries’s noteholders in a position to declare the notes immediately due and payable, according to a regulatory filing dated May 5. Phone calls to Genstar Capital, The Sterling Group and Panolam Industries were not returned.

The consequences for Panolam Industries would be severe if its lenders were to exercise those rights.

“In the event that most or all of our obligations under our credit facility and notes become due and payable, we would be unable to fund our payment obligations,” the company said in its most recent 10-K filing. “The failure to meet those obligations would have a material adverse effect on our operations and the interests of our creditors and stockholders.”

Panolam Industries designs and manufactures decorative laminate panels and surfaces that serve as economical substitutes for natural surfacing materials such as wood and stone. It also makes a laminate that’s approved by the Federal Aviation Administration for use in the protection of aircraft cargo bays.

The company has hired financial advisor Perella Weinberg Partners LP and legal counsel Weil Gotshal & Manges LLP to assist in its discussions with senior lenders and general restructuring efforts.

As of May 4, Panolam Industries had approximately $43 million of cash on hand, according to the May 5 regulatory filing.

“Given our strong liquidity position, we anticipate conducting business with our customers and suppliers in the ordinary course and on customary terms while we negotiate a restructuring of our indebtedness,” Robert Muller, the company’s CEO, said in a prepared statement. “We believe that by promptly restructuring our balance sheet, we will be able to preserve our core business without disruption and emerge as a stronger company.”

Genstar Capital first acquired the Panolam Industries in 1996 for approximately $90 million. It sold the company about three years later to The Carlyle Group for $402 million, after inserting Muller as CEO and executing the $160 million add-on of Pioneer Plastics Corp., according to a Buyouts article written at the time.

In late 2001, however, Panolam Industries faced headwinds related to the 9/11 terror attacks and the subsequent economic slowdown. The business suffered a severe decline in revenues due to a weakened airline industry as well as the loss of its biggest customer, U.K.-based building-products producer The Rugby Group.

In 2005, Carlyle sold Panolam Industries back to Genstar Capital (and its investment partner The Sterling Group) for $345 million, approximately $57 million less than the Washington D.C. firm bought it for six years earlier.

Genstar Capital and Sterling Group split the equity portion of the deal equally between Genstar Capital Partners IV LP, which closed in 2004 with $475 million, and Sterling Group Partners II LP, a vintage-2004 vehicle that raised $470 million from limited partners.

The change in ownership hasn’t fended off the company’s difficulties, as evidenced by consistent year-over-year sales declines. In 2008 Panolam Industries reported $366.7 million in net sales, down from 2007’s $424.4 million and 2006’s $460.1 million, according to its most recent 10-K.

Meanwhile, Panolam Industries reported a net loss of $121.7 million in 2008 versus net income of $8.3 million and $10.9 million in 2007 and 2006, respectively.

A significant portion of Panolam Industries’s business comes from companies that manufacture cabinetry, store fixtures and furniture for use by the construction industry and, in particular, the residential housing market. Sales of decorative laminate products in the United States have historically correlated closely with commercial and residential construction activity.

“The recent significant downturn in the construction industry has resulted in a material reduction in demand for decorative laminates which in turn has adversely affected our business,” Panolam Industries said in the 10-K filing.