Crammed Down

What Does Crammed Down Mean?

Crammed down refers to an investor or creditor being forced to accept undesirable terms. Crammed down is mainly used to describe either a dilutive venture capital (VC) financing round or the imposition of a bankruptcy reorganization plan by the court.

Understanding Crammed Down

Historically, the term crammed down mainly came up in Chapter 13 bankruptcy filings, reflecting the debtor being given permission by the court to change the terms of a contract and initiate a reorganization plan for an individual or company. In such cases, the amount owed to creditors would be reduced to reflect the fair market value (FMV) of collateral that was used to secure the original debt. 

Over the years, the term crammed down has become an informal catch-all for any transaction that involves investors being forced into accepting unfavorable terms. That could include selling an asset at a low price or a rights issue that threatens to dilute an investor's ownership share in a company if they refuse to cough up more capital.

Crammed down is especially commonly used in the context of VC fundraising. When a VC financing round is crammed down, it means that the price of each share of a business is below earlier prices, causing the percentage of the company owned by the earlier investors to be lowered. Such deals are also called "burn outs" or "wash outs."

Types of Crammed Down

Venture Financing

A crammed down financing in VC usually happens when companies are financed in multiple rounds. When startups are new and immature, their valuations tend to be very low and the entrepreneur or business owner is not always able to convince investors to fully fund their idea or business through a liquidity event.

It may also be too early to know how much funding is needed. VCs like to withhold funding to further motivate founders and to ensure that operations are lean by rationing operating capital.   

If the earlier (common) investors of the company do not pony up new cash for the next round of financing, then their interest in the company is "crammed down." It is believed that initial investors ought to suffer a penalty if they do not contribute to subsequent financing rounds. The rationale here is that they should not fully be able to enjoy the benefits of more funding being secured from other sources later on down the line.

This form of cramming down also targets founders and other owner-managers for not running the startup well enough to avoid such an action. The process of offering additional shares for sale at a lower price than had been sold for in the previous financing round is also known as a "down round."

Bankruptcies

In a crammed down personal bankruptcy, a debtor will ask the court to change the terms of their contract with a creditor, pleading that debt should be reduced in line with the FMV of the collateral securing that debt. The creditors will still maintain collateral on the company as long as it offers repayment of the "secured portion" or fair market value of the collateral in their repayment plan.

In bankruptcies, crammed down plans are generally disliked by creditors. Most would rather liquidate any assets to get back some of the money owed to them.