Lumenate Files For Chapter 11: How The Company Ended Up $25.5M In Debt To Avnet Technology Solutions And Got Cut Off

Lumenate and Avnet Technology Solutions enjoyed a long and fruitful union.

The solution provider and value-added distributor struck up a relationship in September 2005, just two years after Lumenate's founding.

The bond helped the Addison, Texas-based solution provider grow from just five people in a single location to a $150 million converged infrastructure powerhouse with more than 150 employees across a dozen offices in the United States. Lumenate also had top-tier partner program status with the likes of Cisco, EMC, NetApp, AT&T, Hitachi, McAfee, Quantum, and Riverbed.

[RELATED: How Lumenate Turned Itself Into One Of The Fastest Growing Solution Providers]

Lumenate -- No. 148 on the 2017 CRN Solution Provider 500 -- was featured at Avnet's Healthcare Information and Management Systems conference alongside multibillion-dollar solution provider behemoths like SHI International and Sirius Computer Solutions. And just four months ago, Avnet quoted Lumenate in a news release, praising its healthcare-focused breach assessment tool.

But the relationship turned sour sometime after the Feb. 27 closing of Tech Data's $2.6 billion blockbuster acquisition of Avnet. Following that deal, the distributor cut off its vendor financing to Lumenate, stopped selling or shipping equipment to it, and refused to engage in further business activity, according to a creditor's filings after Lumenate petitioned last month for Chapter 11 bankruptcy protection with the U.S. Bankruptcy Court for the Northern District of Texas.

Without any product to sell, Lumenate said in court filings that it was unable to generate any new sales or accounts receivable, which in turn generated a liquidity crisis.

By the end of May, Lumenate said it owed $25.5 million to ATS, and as much as $24.5 million to a range of other creditors, including IT vendors and distributors such as Cisco, Westcon, Ingram Micro, Veritas, Pure Storage and Symantec. The company also owes as much as $500,000 to the Texas state comptroller for unremitted sales tax, according to court filings from a creditor.

As a result, Lumenate said in court filings that it was left with no other option but Chapter 11. "After considering its various options, the debtor determined the bankruptcy filing was necessary to continue operations and preserve going-concern value," Lumenate wrote in a May 30 motion to the bankruptcy court.

Since the filing, Lumenate said it has focused on addressing immediate concerns related to employee payroll and money owed to the state comptroller, as well as working out a long-term budget that paves the way for either a successful reorganization or sale, according to a June 9 court filing.

Lumenate President Reagan Dixon didn't respond to multiple requests for comment, Avnet referred inquiries to Tech Data – which now owns Avnet Technology Solutions –and Tech Data declined to comment.

But the court filings detail just how bad things had gotten for Lumenate, which had acquired five companies in 2012 and 2013. Only four years ago, Lumenate was thesecond-fastest growing solution provider in all of North America, according to CRN's Fast Growth 150 list.

Lumenate indicated that its landlord was threatening to lock the company out of its primary office, according to MidCap Financial, a specialty finance creditor that says it is owed $2.1 million by Lumenate. MidCap said it holds a $17.5 million revolving loan note taken out by Lumenate in June 2015.

Lumenate's website was last viewable June 15, with a message now telling visitors that the HubSpot account associated with Lumenate's domain has expired.

The company's accounts receivable had decreased from $8.5 million at the end of April to just $2.5 million at the end of May, according to MidCap, which the creditor says is a sign that Lumenate has "essentially been in liquidation mode."

"The debtor is hopelessly insolvent and appears to be administratively insolvent," MidCap wrote in a June 9 motion to dismiss Lumenate's bankruptcy case. "The debtor has no reasonable likelihood of reorganizing."

MidCap claimed in early June that Lumenate's employees hadn't been paid since April 30, and that the company diverted funds from its lockbox account to pay legal counsel. MidCap additionally said it wasn't made aware of Lumenate's financial issues and only learned of the company's bankruptcy petition after the case commenced and claims it was "blindsided" by the Chapter 11 filing.

Lumenate has lost some senior-level employees, MidCap Financial claimed, including its CFO and a number of skilled engineers. Lumenate confirmed in court filings that multiple employees have left the company, with other employees communicating to the firm that they're looking for work elsewhere.

LinkedIn data indicates that Lumenate has 91 employees, down from 131 in June 2016 and 146 employees in June 2015. Lumenate said at the time of its Chapter 11 filing that it employed 80 people, though MidCap said that Lumenate's emergency motion to compensate its workforce appears to cover just 65 employees.

Four of the nine members of Lumenate's leadership team have left the company since the start of May, according to their LinkedIn profiles.

The departures include: Denisa Bravenec, VP of human capital, who left in June with no new position indicated; Terry Murray, CTO, who left in May and became president of Prescriptive Data Solutions; Jamie Shepard, SVP of transformative advisory services, who left in May and became a managing director at Accenture; and Sandie Zalud, director of data analytics, who left in May and became a program director at Alert Logic.

MidCap has called for the court to dismiss Lumenate's Chapter 11 filing entirely rather than convert it to a Chapter 7 liquidation since MidCap believes there are essentially no assets to be liquidated and doesn't need the assistance of a trustee to collect its debt. Avnet Technology Solutions also called on the judge to dismiss the case so that creditors can pursue other options under state law.

"AVT [Avnet Technology Solutions] agrees with MidCap that there is no evidence that the debtor can successfully rehabilitate its business and reorganize," the company wrote in a June 12 filing.

Lumenate executed a promissory note to Avnet in June 2014 to provide payment terms for $3 million for past due receivables, and entered into a credit agreement with the distributor to provide vendor financing. On June 11, Avnet said it agreed to subordinate its secured debt to that of MidCap.

MidCap indicated that Lumenate is attempting to refocus its business around managed services. But Lumenate's managed services business is projected to generate $5 million in annual sales, according to MidCap, which said that amount of revenue would be insufficient for Lumenate to operate at even a break-even level.

U.S. Bankruptcy Judge Stacy Jernigan allowed Lumenate on June 8 to compensate its employees, but only those doing work related to the company's managed services revenue or those needed to continue carrying out the collection of Lumenate's accounts receivable.

The following day, Jernigan approved roughly half of Lumenate's requested $855,000 for the first half of June. The judge authorized $84,000 of spending on managed services, $22,000 on ERP systems and $15,000 on telecom expenses, but slashed Lumenate's personnel budget from nearly $500,000 to just $200,000 and denied nearly $50,000 of requested expenses associated with office rent and utilities.

The next action will take place June 26, when there will be hearing on MidCap's motion to dismiss the case, as well as a meeting of the creditors, for which a Lumenate representative is required to attend and answer questions under oath. Avnet said it plans to call Jolea Kidd, its vice president of credit and collections, as a witness during the hearing on dismissing the case.

Meanwhile, much of Lumenate's workforce has moved to greener pastures. In late May, former CTO Murray joined forces with three other ex-Lumenate workers - former principal consultant Joe Galvan, and former data center practice managers Justin Richards and Ian Evans - to create San Antonio, Texas-based technology consulting firm Prescriptive Data Solutions.

The quartet also brought over Mike Von Eper – Lumenate's longtime data center champion – to serve in the same role at Prescriptive, according to LinkedIn. Prescriptive didn't respond to requests for comment.

Prescriptive plans to specialize in data management, infrastructure, and cloud computing, according to the company's website, and intends to leverage many of the same relationships that once turned Lumenate into a fast-growing channel superstar. Both firms share tight bonds with Avnet, as well as key vendors including Cisco, VMware, Hitachi and Quantum.

"In a single week, we have been able to completely launch this new organization, getting distribution in place as well as establishing eight critical vendor partnerships," Murray wrote in a May 31 blog post to Prescriptive's website. "There is no way we could have pulled this off without all our friends in the channel and the great onboarding team at Avnet."

The loss of vendor financing is a fairly common reason for a bankruptcy, especially for firms with large working capital requirements, according to Adam Stein-Sapir of bankruptcy claim buyers Pioneer Funding Group, which said it has no relationship with MidCap or the other creditors in this case. This often happens in retail should a vendor suddenly pull back on trade credit, Stein-Sapir said.

What is unusual, he said, is that creditors were caught off guard by Lumenate's Chapter 11 filing. The credit agreement between a borrower and lender typically requires the borrower to communicate any major changes in their operations, such as an acquisition or change in a business line to their lender, according to Stein-Sapir. It's "very unusual" for a major creditor to be blindsided by a borrower's bankruptcy filing, Stein-Sapir said.

Creditors also typically ask for a Chapter 7 liquidation rather than an outright dismissal so that there's a trusted third party managing the debtor, Stein-Sapir said. When creditors take the unusual step of asking for dismissal, Stein-Sapir said, they're typically looking to expedite the process or avoid the steep expenses associated with debtors' counsel, trustee fees and accounting fees.

"They just want to go in there, grab their equipment, and take it or sell it themselves," Stein-Sapir said. "It's a pretty extreme step to take. You don't normally see it."