Katerra's Bankruptcy: Grand Plans And a Tumbling Set of Dominoes

Construction firm Katerra Inc. had bragged of “breaking new ground in the building industry,” but its recent bankruptcy filing in the Southern District of Texas was a more recognizable collection of issues. Potential over extension, pandemic-driven problems, questions about accounting procedures, and then tumbling support by wary investors complicated business as usual for the six-year-old company with nearly $3 billion invested in the startup.

Its largest investor is the Softbank Vision Fund, which three months ago saw another major bankruptcy in its portfolio: Greensill Capital, which fell apart in March 2021 amid questions about accounting practices, according to the New York Times. SVF had invested about $1.4 billion of the total Katerra financing according to court records. Katerra did not respond to a request for information or an interview before publication, but it would be unusual for a company to discuss an ongoing case.

“In pursuit of a fully integrated business model, Katerra has acquired more than twenty companies that are leaders in their sector of the construction industry, including in general contractor business specializing in commercial, residential, and multi-family projects,” declared Marc Liebman, Katerra’s chief transformation officer in a filing.

A separate company press release quoted Liebman as saying, “While a number of negative factors have led to Katerra’s current challenges, we are implementing initiatives on multiple fronts to maximize value and provide the best path forward for Katerra and its many stakeholders. Our multi-step action plan has rapidly evolved and includes consolidating US activities, continuing our international businesses, advancing key asset sales, securing DIP financing, and commencing an in-court restructuring process.”

The pace of growth was one likely factor in the events. Acquisition and integration of businesses is a challenge to any company. A startup like Katerra doing more than three acquisitions a year is no exception. The positioning of the company may have played another role.

“The company bills itself as a tech company, but it’s really not,” Peter Lewis, chairman and president of Wharton Equity Partners, tells GlobeSt.com. “It’s a very hard sell to scale packages of construction services. Potential clients are slow to move as they have their favorites for each of the services Katerra provides.”

“They had a vision, they borrowed a lot of money on the basis of this vision, then they sought to disrupt the construction industry,” Zev Shechtman, a partner at bankruptcy law firm Danning, Gill, Israel & Krasnoff, tells GlobeSt.com.

Then there was the identification of “potential improper revenue recognition practices related to its Katerra Renovations, LLC business,” according to the court filing. The company froze equity raises while the board of directors undertook an investigation. “As a result of this investigation, [investor] SVF Abode elected to exercise its contractual right to withhold the additional $100 million of financing on the 45-day timeline.”

A result was “worsening liquidity that threatened its operations” as well as “financial and technical setbacks on some of its legacy construction projects due to re-work issues related to earlier-completed work.”

That shouldn’t be necessarily surprising. While “there’s a ton of new work coming in” to construction companies, as Henry D’Esposito, construction research lead at JLL tells GlobeSt.com, not all of it is profitable. One sector being hit hard is modular construction, which is Katerra’s primary focus.

“One of the areas where modular works really well is in multifamily and hospitality,” D’Esposito says. “Any company like this will have a large share of hospitality. In terms of new hotels, that is probably the single most impacted type of construction. It’s a place you wouldn’t want to be over-exposed to.”

Also, there is “an impression some people have” of “a history of modular projects going over budget,” even though it’s “not a fair generalization,” D’Esposito says. But, fair or not, the worry about risk is real.

“There’s a lot in here about this financial problem and I think that’s going to be a big part of the story,” Shechtman says of the filing he reviewed. “There’s a lot to unpack here about what happened financially, which kind of business mistakes were made, what kind of lending mistakes were made, and institutional oversight.”