Lunya Bankruptcy Breakdown: Inventory Missteps, Retail Woes

Lunya, the direct-to-consumer sleepwear brand known for its luxurious washable silk pajamas and loungewear, has completed one of the more instructive Chapter 11 journeys in recent DTC history. In June 2023, the California-based company filed for bankruptcy under the small-business Subchapter V provision, seeking to reorganize after pandemic tailwinds reversed into headwinds. At its peak, Lunya rode the COVID-19 e-commerce boom to over $50 million in annual revenue. But the tides turned quickly as consumer behavior normalized, Apple's privacy changes disrupted digital advertising, and costly retail expansions drained resources.

The case moved swiftly through the Delaware bankruptcy court. Despite creditors voting to reject the proposed plan, the court confirmed Lunya's reorganization in November 2023 via cramdown under Section 1191(b). By June 10, 2024—less than twelve months after filing—the case was closed, and the company emerged with $2.5 million in exit financing and a streamlined operation. This article breaks down what led to Lunya's bankruptcy, how the company restructured, and what other direct-to-consumer brands can learn from this case study in pandemic-era overextension.

Company Background: From Living Room Startup to $50 Million Brand

The Founder's Story

Ashley Merrill launched Lunya from her living room in 2012 after a moment of clarity in front of a mirror. She had been wearing her husband's old frat T-shirt and rolled-up boxer briefs to bed—comfortable, but hardly empowering. That observation sparked the idea for a sleepwear line combining comfort with sophistication. The news that she was pregnant while enrolled in business school "lit a now-or-never fire" that pushed her to launch the company she had been contemplating.

Merrill's husband, Marc Merrill, is president and co-founder of Riot Games, the video game developer behind League of Legends that generates more than $1 billion in annual revenue. While Ashley built Lunya, she also took on the role of chairwoman of Outdoor Voices, the activewear brand, demonstrating her broader involvement in the DTC ecosystem.

Building the Brand

Founded in 2012 and officially launched in 2014, Lunya built a reputation for "thoughtfully designed" sleepwear. The Santa Monica-headquartered company initially sold exclusively online for its first five years, positioning it well when pandemic lockdowns propelled e-commerce growth. The brand differentiated itself through fabric innovation, developing Meneya, a proprietary fabric made from Pima cotton, Lycra, and Celliant—a technical fiber that uses infrared energy to stimulate cell performance and increase circulation.

In October 2019, Merrill introduced Lahgo, a men's sleepwear line. The name is a play on "lago," meaning lake in Italian and Spanish, connoting "peaceful waters and flexibility." The brands operated separately until merging in August 2022. Premium pricing reflected the luxury positioning—a washable silk pajama set retails for approximately $248, with the women's bestselling washable silk set at $188.

At its peak, the company grew 400% year-over-year, eventually expanding from sleepwear into a broader "rest" category including dresses, sweaters, loungewear, bedding, and sleep masks.

The Sleepwear Boom and DTC Reckoning

Pandemic-Driven Growth

Lunya's trajectory aligned perfectly with broader market dynamics. The global sleepwear market grew from $10.6 billion in 2020 and is projected to reach $22 billion by 2028, representing a 9.9% compound annual growth rate. The COVID-19 pandemic accelerated demand for comfortable home attire as remote work and stay-at-home orders fundamentally changed how consumers dressed.

In 2019 and 2020, Lunya experienced a surge fueled by skyrocketing demand for loungewear during COVID-19, an e-commerce boom as consumers shifted spending online, and efficient customer acquisition through highly targeted Facebook and Instagram advertising. Revenue climbed beyond $50 million in both 2020 and 2021.

The iOS 14 Disruption

The party ended abruptly in April 2021 when Apple's iOS 14 privacy update fundamentally changed digital advertising. Only a small percentage of Apple users agreed to allow their online activity to be tracked, spelling trouble for direct-to-consumer players who relied heavily on social media apps for customer acquisition. Without efficient ad targeting, customer acquisition costs increased significantly, and brands built on Facebook advertising—termed "DTC 1.0" brands—faced particular difficulties scaling.

The broader industry was experiencing what Business of Fashion called a reckoning. Rising digital marketing costs as social media platforms became more crowded, combined with new privacy regulations restricting customer targeting, fundamentally altered the economics. As one industry observer noted, "DTC as we knew it—from the Warby Parker and Dollar Shave Club days—is dead. The playbook has changed."

Financial Distress: Inventory, Marketing, and Operational Gaps

The Inventory Trap

One of Lunya's biggest errors was overestimating post-pandemic demand. Bolstered by strong 2020 sales, the team placed orders about 60% higher than needed for 2021, resulting in a massive inventory glut. Court documents revealed the company accumulated 66 weeks of supply on hand—far above the typical 13-16 weeks that a healthier apparel business would maintain.

This excess inventory locked up crucial cash, limiting Lunya's ability to pivot as market conditions deteriorated.

Revenue Decline and Debt Accumulation

The iOS 14 changes severely impaired the brand's ability to effectively target advertisements on Facebook and Instagram—Lunya's primary customer acquisition channels. Customer acquisition costs soared, new customer counts fell, and monthly revenues began declining year-over-year starting in June 2021.

By the petition date, Lunya's debt structure included approximately $6 million in unsecured debt (mostly trade and credit card obligations), roughly $500,000 owed to a third-party logistics provider, and significant insider debt from the Merrill Living Trust totaling approximately $27 million ($7 million revolving credit line plus $20 million in convertible notes). Notably, the company had no secured funded debt.

Operational Shortcomings

Company filings indicate that from 2020 to 2022, finance and operations leadership lacked specialized e-commerce or retail experience, leading to high logistics costs, ongoing over-ordering, and bookkeeping delays. Without accurate weekly cash flow modeling, Lunya lacked real-time financial visibility during a period of rapid change.

Brick-and-Mortar Bet Gone Wrong

While fighting inventory and marketing headwinds, Lunya also made a major bet on physical retail. Blair Lawson was named CEO in mid-May 2022, replacing founder Ashley Merrill who transitioned to an advisory role. Lawson, who previously served as Chief Merchandising Officer at Goop, inherited ambitious expansion plans. The brand had expanded from four to eight boutiques and was striking partnerships with Neiman Marcus, Bloomingdale's, and Saks Fifth Avenue.

By 2023, Lunya operated seven owned retail stores in high-rent locations including Los Angeles, New York, San Francisco, Atlanta, Houston, and Boston. However, the company had entered into leases "for locations that were too large and with rents that were too high." The stores collectively lost approximately $135,000 per month—roughly $1.62 million annually—while contributing only 8% of total revenue.

As part of bankruptcy proceedings, Lunya moved to reject leases at three locations:

The company also rejected contracts with Leap Services (retail platform), Klarna (buy-now-pay-later), and Catch Inc., describing these obligations as "an unnecessary drain on the company's limited resources."

Chapter 11 Subchapter V: Restructuring Strategy

Why Subchapter V

Lunya filed under Subchapter V of Chapter 11—a streamlined process added through the Small Business Reorganization Act of 2019 for businesses with unsecured debts below $7.5 million. The provision offers several advantages: plans can be confirmed even if no impaired class of creditors accepts, the absolute priority rule is eliminated, no creditors' committee is required, and only the debtor may file a plan.

Pre-Filing Turnaround Efforts

Before filing, CEO Blair Lawson had already implemented significant operational changes over 13 months:

Despite these improvements—achieving a 45% reduction in EBITDA losses despite a 29% revenue decline—the company remained unable to pay vendors in full while covering ongoing operating expenses.

DIP Financing and Professional Team

The court approved $700,000 in debtor-in-possession financing on October 5, 2023, providing working capital during the proceedings. Lunya retained Pashman Stein Walder Hayden, P.C. as counsel and Stretto, Inc. as claims and administrative agent. David M. Klauder served as Subchapter V Trustee.

Plan Confirmation and Emergence

Cramdown Confirmation

Lunya filed its initial plan in September 2023 and a First Amended Plan in October 2023. General unsecured creditors (Class 2) voted to reject the plan. However, on November 6, 2023, the court confirmed the plan via cramdown under Bankruptcy Code Section 1191(b), which permits non-consensual confirmation when the plan meets specific requirements including that all projected disposable income be applied to payments over a three-year period.

Exit Financing and Case Closure

In April 2024, Lunya secured a $2.5 million exit credit facility from Assembled Brands Capital Funding LLC, with an initial term through April 1, 2026. The facility requires first-priority security interests in virtually all assets and a minimum cash reserve of $300,000. Proceeds were used to repay the DIP loan, satisfy outstanding claims, cover bankruptcy expenses, and provide working capital.

The plan became effective on April 1, 2024. Distributions commenced on April 11, 2024. On June 10, 2024—less than twelve months after filing—the court entered a final decree closing the case. Blair Lawson remains as CEO of the reorganized company, with quarterly distributions to unsecured creditors scheduled through Q4 2026.

Lessons for DTC Brands

Lunya's bankruptcy journey underscores the turbulence that can arise when strong short-term gains lead to overextension. Several key lessons emerge:

1. Avoid Overestimating Short-Term Trends: Temporary spikes—such as those seen during COVID—don't always translate into lasting demand. Ordering 60% above needs created a cash trap.

2. Diversify Acquisition Channels: Over-reliance on Facebook and Instagram created a single point of failure when iOS 14 disrupted targeting. First-party data became increasingly valuable as third-party tracking eroded.

3. Test Retail Concepts Prudently: Committing to expensive stores contributing only 8% of revenue while losing $135K monthly drained resources needed elsewhere.

4. Strengthen Operational Foundations: Leadership gaps in finance and supply chain management undermined stability during rapid change.

5. Use Bankruptcy Strategically: Subchapter V offers smaller companies a viable path to restructure rather than liquidate—Lunya completed its case in under twelve months while retaining equity.

Conclusion

Lunya's journey from pandemic-era success through bankruptcy and emergence illustrates both the fragility and resilience possible in the DTC model. The brand capitalized on lockdown-driven growth, only to be hobbled by inventory miscalculations, marketing disruptions, and retail overexpansion. But unlike many distressed DTC brands, Lunya used Subchapter V strategically—shedding unprofitable leases, rejecting burdensome contracts, securing exit financing, and emerging as a leaner operation focused on its core e-commerce business.

With the case closed and the reorganized company operating under Blair Lawson's continued leadership, Lunya now faces the test of executing its post-emergence strategy. The quarterly distribution schedule running through late 2026 means creditors and the court will continue monitoring performance. For restructuring professionals and DTC operators alike, Lunya offers a case study in how pandemic-era overextension can be addressed through disciplined restructuring—and how Subchapter V can provide a faster, more efficient path to reorganization than traditional Chapter 11.

For more insights on bankruptcy cases and restructuring trends, visit the ElevenFlo blog.