1.24.2010

Distressed Debt Ideas for 2010 - General Motors

One of few things I like about dealers in the investment grade, high yield and distressed debt space, is that each year, around this time, the various desk and publishing analysts from the different investment banks put out lists of buy and sells in the corporate debt space. These events are always well attended and can sometimes provide a fruitful ground for generated distressed debt investment ideas for the new year.


Over the next few weeks, in tandem with some work I am doing on a few new websites / blogs, and of course the Distressed Debt Investors Club, I will be discussing a number of these ideas in detail. Given that the HY / Distressed market has backed up in the past week and half, I think we are not going to miss any rip-roaring opportunities...(maybe Visteon on a court decision?).

Admittedly, I am neither long nor short any of the names I am going to be discussing (Sandbag much?). Rather, what I am trying to accomplish is to help the reader understand some of the intricacies involved in analysis ranging from investment grade to distressed debt. We are going to start with a favorite of many in the space: General Motors.

General Motors filed for bankruptcy protection in June 2009. After much public debate/discussion, GM (hereafter referred to as "Motors Liquidation Company"), sold the majority of its assets to the new GM in a 363 sale. As noted above, there was much debate in this sale, as the U.S. Treasury funded the purchase and became new GM's largest shareholder.

The pre-petition bonds of Motor's Liquidation currently trade in the market in the high 20s context. Like we have discussed in previous posts, one now needs to figure out the asset and liability structure of the corporation in question. In other words: What are the assets and liabilities of Motors Liquidation?

The most meaningful asset of Motor's Liquidation (really the only asset) is an equity and warrant stake in new GM ("Newco"). We need to somehow value that which we will get to in a second. The liabilities of Motor's Liquidation are where things get a little trickier...

The unsecured claims pool in large complex cases, like Enron, is a very difficult number to pin down. For example, in GM, here are some of the liabilities that an analyst needs to estimate:
  1. The exact amount of claim from the pre-petition unsecured bond debt...including accrued interest per tranche.
  2. Monies owed to affiliates
  3. Accounts payable
  4. Accrued expenses
  5. Environment reserves
  6. Union obligations
  7. Worker's comp obligations
  8. Litigation and other product liabilities
  9. And other which is a catch-all for everything else (for example: dealer rejection claims).
If you ask two different desk analysts on the street to quantify these numbers, they will give you different answers on each line item. Further, most of these liabilities are subject to compromise, meaning an unsecured creditor might file a claim, and that claim could be rejected. In November, Motor's Liquidation filed a monthly operating report that tried to nail these numbers down. You can see that file here: GM November 2009 MOR. There is also some very specific nuances with double dip claims at two finance Co's of GM. In all likelihood, that number presented in the MOR will be different as claims come and go.

Since we know we now need to compare assets versus liabilities, and our one asset is the equity in NewCo, we need to figure out how much NewCo is worth. For that, we can either use the experts valuation model, or model the company ourselves. From the people I have talked to across the Street, analysts are making assumptions on the SAAR in the outer years, GM's eventual market share of that SAAR, GM's variable profit/vehicle, GM's fixed costs, and then estimating the cash flow of GM's overseas operations. They then apply a multiple to these cash flows, back out the debt, and get the equity value of the equity.

Remember, Motors Liquidation has both an equity stake and a warrant stake in NewCo. After exercising these options, it looks like Motors Liquidation will own a little more than 23% of NewCo (thank you tax payer!). Therefore if you think new GM's equity is worth, $10B, Motors Liquidation would have an asset value of 2.3B. If there were then $35B of claims, all else being equal, those claims would be worth a little more than 6 cents on the dollar.

Let's be a little more realistic. I built a quick little model using the aforementioned variables, and came up with $8B of North American EBITDA in 2012 and $3B of overseas EBITDA in 2012. Capitalizing these numbers 5x and 6x respectively, gives me a valuation of $58B. Backing out the post-petition debt and preferred stock of NewCo of approximately $29B, leaves me an equity value of $29B. But wait...there' more. Lots more.

The cash balance at GM is massive right now. At 9/30/2009 that cash balance was $42B. Assuming a standard burn of $10-12B, leaves us with ~ $30B in cash. Let's add that back to our $29B to give us an equity value of a little less than $60B. Owning 23% of that beast, gives you a valuation of assets to Motors Liquidation of ~$13.8B.

And how does this compare to our claims pool? Let's be conservative, take the MOR number noted above, add in the double dip claims, and then add another billion of allowed claims to get to $35B. Given that ~$28B is claims from these old GM notes we are discussing means that as a % of the claim pool, approximately 80% is related to the notes. Then if our value of the equity is $13.8B, 80% is going to the notes, or $11B. $11B divided by the $28B in bond claims give you a value of approximately 40 cents on the dollar.

Now there are so many variables that can change this number DRAMATICALLY. For example, we could of used a 4x cash flow number for North American EBITDA. We could of used a much lower SAAR number. We could of used a much higher market share number. And even if we ARE getting 40 cent on the dollar, we have no idea when we will be getting distributions. What if it take 5 years? That would be a return in the 11-12% range which would definitely not compensate us for the risks involved.

This is definitely a complicated case. Everyone likes to talk about it. And its definitely a 8 or 9 foot poll if you are using Warren Buffet parlay. It shows you some of the little steps that one goes through in this type of analysis. Hopefully in the future, we will be able to update the analysis with more clarity on our numbers, and feel more comfortable about our distressed debt valuation.

4 comments:

Anonymous,  1/25/2010  

Hunter,

Can you explain the concept of double dip claims? Does this just mean that a specific claim has multiple entities against which it can recover? If claims can only receive 100 cents on the dollar per the Bankruptcy Code, isn't it double counting to list 100% of the claim as a liability against each entity? Thanks

GORDONGECKO 1/29/2010  

i would love to know as well

Anonymous,  2/01/2010  

Perhaps this will shed some light on the double dip issues:

http://www.turnaround.org/Publications/Articles.aspx?objectID=2517

Anonymous,  2/04/2010  

why are you assuming a cash burn of $10-12 billion? And over what time period? Shouldn't an investment produce cash and shouldn't cash flow yield reduce/eliminate the risk of a prolonged bankruptcy process.

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hunter [at] distressed-debt-investing [dot] com

About Me

I have spent the majority of my career as a value investor. For the past 8 years, I have worked on the buy side as a distressed debt and high yield investor.