It has been too long since we wrote a lengthy post on a particular distressed debt investing concept for some of our newer readers. As most types of investing, distressed debt investing has some certain intricacies that morph from situation to situation. One action by a high yield issuer might portend something completely different from the next high yield issuer. If it were the case that doing a certain action, meant XYZ was going to happen, it would be mechanical and more than likely boring. What makes it interesting (and my opinion, damn near fascinating) is making the educated guesses, placing your bets, and making money in the long term.
Here at Distressed Debt Investing, we get a lot of requests for advice on getting hedge fund jobs or better yet breaking into the hedge fund industry.
- Use your network
- Get lucky
- First: Don't waste the other person's time - always demonstrate that you have respect for their goals in life and that you want to help them to further their goals.
- Second: Look for ways in which you can help them.
- Lastly: Get in touch with them when you have something for them that is tangible, desirable and relevant."
If you remember, a while back, we discussed the distressed debt opportunity that was Six Flag's bank debt. Well since then, and as expected, Six Flags filed for Chapter 11. Here is an update.
Many readers of Distressed Debt Investing have asked what books to read to get a better understanding of the principles behind distressed debt investing.
Distressed Debt Investing apologizes for the lack of posting. I was on a much needed vacation. As it were, going forward, I will try to post one to two times a week. If bond and bank debt prices get back to early March levels, there will be a lot more to write about and you can expect possibly multiple posts per day. In the meantime, I am working on a side project that I am very excited about (which I will talk about in the coming weeks).
Last week we posted a quick note on the HBSCNY distressed debt round table. Well, our spies have performed, and now we some notes from the event. Enjoy.
• Eric Edidin, Managing Partner, Archer Capital Management (“EE”)
• Jed A. Hart, Senior Managing Director, Centerbridge Partners (“JH”)
• Tiffany Kosch, Managing Director, H.I.G. (“TK”)
• Victor Khosla, CIO and Managing Partner, Strategic Value Partners ("VK")
• John Reiss, Partner, White & Case ("JR")
JR opened by pointing out the enormous uncertainty and asked panel about their firms and what they were doing:
VK opened by saying they manage $3.3 billion and have 165 people globally (they have some CEO and CFO types that they can drop into operational roles, if necessary). He said they are not US centric and see lots of opportunities in Europe. They have 60 people in London and Frankfurt. They are salivating over the opportunities.
TK said that her group overall manages about $3.5 billion. She invests the Bayside Fund. They are also in London, Germany, and Paris. She said that Europe had greater dislocations and, thus, offered more opportunities. It wasn’t a contagion – it hit all at once. She commented that they look at deals like PE investments (not trades) and they focus on enterprise value and the potential optimal capital structure.
JH said that Centerbridge was formed 3 years ago by people from Angelo Gordon and Blackstone. They have about $7.5 billion of which $3.2 billion is control and about $4.0 billion is non-control focused (can’t reconcile the missing $300 million). They are currently only in NY and have 35 investment professionals. They are looking at non-control distressed investments. They are focusing on credit investing on a control or non-control basis.
EE said that Archer is a Hedge Fund that focuses on middle market. They primarily focus on secondary purchases, but do have some direct lending capacity (for DIP/Exit/Bridge). He said it’s a great time to be a capital provider. Noted that this cycle is different from prior cycles due to changes in Code and changed dynamics (shortened exclusivity, lack of DIP). Also the health of the primary investor is different (harder for them to inject additional capital). Expects cycle to be different.
VK noted that any investments made prior to Lehman bankruptcy (September) are hurting and it will take time for those to return to cost. He mentioned that they had purchased First Lien loans of a German company for $0.50 on the Dollar. The company will soon blow through covenants. He mentioned something about debt being priced at 2x EBITDA. Noted that Europe is less efficient since fewer experienced investors and less money chasing deals. Pointed out that there was still tail risk. If the economy gets worse, if the borrower has had fraud, etc. He said he manages these types of risks (although not overall economy) by having some diversification.
TK said they her firm tries to look at companies differently from others so as to create an advantage. She gave an example of a company that needed cash. She purchased the 2nd lien from a hedge fund. The company was losing $35 mm in EBITDA. They put in an executive who quickly was able to stop the burn and bring to break-even. The company was complicated (screwed up balance sheet, fraud claims, etc.) but it was resolvable. She said they need to look at lots of deals (reading lots of credit documents) to identify opportunities.
JH said they are focusing on cyclical versus secular declines. They identified a world class construction company with tremendous operating leverage that was suffering a cyclical decline in the building market. The company had been LBOed in 2005. Now had BEV of 25% of 2005 cost. PE firm walked away. Expected that his cost will end up being 1x EBITDA when the market recovers (thus >100% potential returns). They look for situations where they will get >100% through getting equity participation.
EE stated that they are trying to be market neutral. They have a sourcing effort where they look to private deals, call on PE firms and private companies. They were able to get great returns by loaning money to a company that had GECC as their lender. GECC wouldn’t extend the lines, so Archer lent money secured by the receivable of customer (Eastman Chemical). Had 20% IRR on project, and they purchased a CDS on Eastman from Morgan Stanley that cost only 1% (leaving their credit risk with MS). Seeing arbitrage opportunities in bankruptcy (like WaMu, and arb on liquidation/litigation). Can buy Chrysler Financial bank loans with 30% IRR (not part of Chrysler bankruptcy, in run-down mode).
JH said that they try to build a portfolio of companies that WILL DEFAULT. Looking for near term defaults. The increased speed of the process makes these investments attractive. Thinks Chrysler would have gone Government’s way regardless (not a good party to challenge).
TK said she spends a lot of time reading credit docs (remarked about not expecting to need a legal degree). Looking for shorter time frame. Look to avoid bankruptcy, which is a costly process, and negotiate out of court restructurings. Invested with a firm that services ATMs for banks. Since they hold cash for the banks to resupply the ATMs, the banks DID NOT WANT A BANKRUPTCY. She mentioned that there are a lot of people who think they can do the business and think they know companies because they read docs; but they respond “no” when asked if they’ve spoken with the companies themselves or their customers.
VK said that his firm does event driven investing. They buy in expectation of default. If the restructuring can’t be done outside of court, then they are not afraid to go through process. Typical time frame is 2 years with multiple upside.
JR mentioned that White & Case is finding that strategic investors (corporate) are willing to play the distressed game now, while PE firms are less willing.
TK said that she only sees strategics in 363 sales. She noted that many more PE firms are attempting to invest in the distressed space, but they have problems (their analysts are used to running models with stable or rising earnings – they are NOT used to projecting a period of deterioration in margins – which is typical in distressed/bankruptcy).
The panel discussed Europe. There have been big changes. In 1996-98 one of them had a bad experience in France where labor was put ahead of the secured lenders. They note that the UK is doable and similar to the US. Germany changed four years ago and now doable. The Netherlands is okay. France, Spain and Italy are not good spots for this type of investment (local laws not predictable/friendly).
Incredible stuff on the distressed debt market. If anyone else attended and can shoot me their notes, it would be greatly appreciated!