Expected 2025 Trends in Restructuring and Distressed M&A

Many of the developments from increased restructuring activity in 2024 will shape the trends we expect to see in 2025, including increased use of liability management transactions, increased distressed M&A activity, a surge in private equity and private credit and increasingly active lenders. This article explores these trends and their implications for the middle-market ecosystem in the coming year.

Increase in Liability Management Transactions

The use of liability management exercises (LMEs) surged in 2024 as companies sought innovative ways to restructure their debt outside of formal bankruptcy. LMEs have become a prominent option in middle-market restructuring strategies and are expected to remain prominent in 2025.

LMEs take several different forms, including drop-down transactions, up-tier exchanges and double-dip structures. In brief, drop-down transactions involve transferring valuable assets from the borrower entity to a new subsidiary or affiliate that is outside the reach of existing creditors. This strategy allows the company to preserve key assets while negotiating with creditors.

In up-tier exchanges, a company offers existing creditors the opportunity to exchange their current debt for new, senior-ranking debt. This exercise incentivizes creditors to participate by providing a higher priority claim in the capital structure, often at the expense of non-participating creditors. Double-dip structures allow creditors to participate in multiple layers of the capital structure simultaneously by holding both secured and unsecured claims, enabling them to maximize recovery potential in a distressed situation.

While these LMEs have increased in use, they have also become more contentious and may face legal challenges, particularly if certain creditors are not allowed to participate because those non-participating creditors’ rights are often severely weakened. Due to increased litigation and high costs related to such litigation, creditors have increasingly turned to cooperation agreements to streamline liability management exercises. These agreements align the interests of multiple creditor groups by establishing a framework for collaboration and negotiation. Cooperation agreements can expedite restructurings, reduce legal disputes, and enhance the likelihood of achieving a consensual outcome. However, cooperation agreements limit a borrower’s flexibility to find solutions with specific creditor groups because those creditors are bound to collective decisions. Additionally, disagreements among creditors may nevertheless arise, particularly if the cooperation agreement lacks clear dispute resolution mechanisms.

Distressed M&A

Distressed M&A was one of the leading exit strategies for distressed businesses in 2024. Distressed M&A offers unique opportunities for both buyers and sellers. For buyers, it provides access to undervalued assets and market entry opportunities at reduced costs. Many private equity sponsors see significant value in picking up distressed assets through distressed M&A transactions as bolt-ons to a current business line or picking up a new portfolio company. For sellers, it serves as a lifeline to preserve value and ensure continuity.

Distressed M&A transactions can take several different forms, including out-of-court sale transactions, 363 bankruptcy court sale transactions, sales in connection with assignments for the benefit of creditors (ABCs) and UCC Article 9 sale transactions.

Middle-market companies often turn to out-of-court sales to sell assets or business units without the significant costs and delays associated with court-supervised processes. These transactions often appeal to buyers seeking speed and flexibility, particularly private equity firms and strategic investors, notwithstanding that they offer less protection than a 363 bankruptcy sale would provide. At the lower end of the middle market, companies are increasingly turning to ABCs to expedite a sale or liquidation process with reduced costs and less judicial oversight.

Private Equity’s Growing Role

Private equity firms have become increasingly active in the distressed M&A space, leveraging their capital reserves and operational expertise to acquire and revitalize struggling companies. In 2024, more than two-thirds of PE firms reported incorporating distressed assets into their investment strategies, and this trend shows no signs of slowing down in 2025.

PE firms also tend to prefer selling distressed portfolio companies in an out-of-court transaction rather than exiting through a more public formal bankruptcy proceeding.

One of the primary drivers of PE interest in distressed M&A is the opportunity to achieve high returns by acquiring assets at discounted valuations and implementing turnaround strategies. Additionally, PE firms are increasingly focusing on bolt-on acquisitions, where they integrate distressed companies into their existing portfolio businesses. This approach allows them to achieve synergies, reduce costs, and expand market share. In 2025, we can expect more PE firms to pursue this strategy, particularly in fragmented industries like healthcare services and consumer goods.

Increase in Private Credit

The financing landscape for middle-market transactions has undergone a significant shift, with private credit managers emerging as key players. In 2024, private credit accounted for a growing share of deal financing, as traditional banks retreated from riskier transactions due to regulatory constraints and rising interest rates. This trend is set to accelerate in 2025, reshaping how middle-market restructuring and distressed M&A deals are structured.

Private credit managers offer several advantages over traditional banks, including greater flexibility, faster decision-making and customized financing solutions. These attributes make them particularly well-suited for distressed transactions, where speed and adaptability are often critical to success. For example, private credit managers can provide bridge loans to companies undergoing restructuring, enabling them to stabilize operations and execute turnaround plans.

More Active Lenders

As companies deal with increased financial pressures and liquidity issues, active sophisticated lenders are increasingly exercising their remedies to recover value from distressed borrowers. In 2025, lenders are expected to take a more active role in enforcing their rights, including the above-discussed LMEs, foreclosures, credit bids, and asset sales.

As noted above, lenders are also driving pre-packaged and pre-negotiated restructurings, where they collaborate with borrowers to streamline the restructuring process. These solutions allow lenders to recover value efficiently while minimizing disruptions to the business. Additionally, lenders are leveraging their positions to influence distressed M&A outcomes, often providing bridge financing or participating in stalking-horse bids to protect their interests.

In conclusion, stakeholders in the middle market have unique opportunities to create value through distressed transactions, which often involve complex legal and regulatory issues requiring careful navigation to avoid pitfalls.

Alex R. Rovira is a partner with Troutman Pepper Locke where he advises financial institutions, private lenders and funds as well as companies, owners, and management on complex in- and out-of-court restructurings, cross-border restructurings, distressed M&A, financing transactions, as well as a range of governance issues in the U.S. and around the world.

Middle Market Growth is produced by the Association for Corporate Growth. To learn more about the organization and how to become a member, visit www.acg.org.