Greenlight Capital: 3rd Quarter 2010 Letter

Greenlight Capital released their 3rd Quarter 2010 letter (courtesy of Dealbreaker) which you can see here: Greenlight Capital's 3rd Quarter 2010 Letter.

Outside of the fantastic commentary on the eventual failure of QE2 to actually accomplish anything substantial (a position I strongly agree with), one of the most interesting things I took away from the letter was Greenlight's activity in distressed debt.

In the letter, Greenlight points out that they purchased the debt and equity of ATP Oil & Gas, a recent favorite of many members of the distressed debt community. As an example, in June, two members of the Distressed Debt Investors Club both pitched the ATP debt as longs with sizable return potential. How have those bonds done since June? Pretty well:

What happened here. Let me see if I can give you a quick run-down of the situation:
  • Deep water drilling moratorium enacted in the Gulf due to the BP spill - a 6 month halt on drilling could cost lots of money for ATP as 60% of their reserves are located in deepwater GOM. That combined with a heavy capex program - people begin to worry about the future cash flow potential of this company. People even begin to mention a possibly bankruptcy due to a cash crunch. Sell side starts downgrading en masse (i.e. time to start looking at it as a long)
  • Bonds continue to weaken. On the 8th of June, bonds are down 4-6 points in thin trading. Reason: The purported second leak that didn't actually exist. A downgrade to CCC+ did not help either.
  • Bonds start moving higher as rumors that the drilling moratorium on deep water drilling could end sooner. Stock moving 10-15% a day up also seemed to help.
  • Louisiana judge lifts ban - bonds shoot up - felt like a short squeeze really as bonds felt heavy post.
  • ATP place a new $150M term loan (with an option to extend to $500M). Market begins to start pricing ATP as a going concern versus a liquidation (despite the possible increased priming)
  • Bonds weaken as representatives from the House begin discussing the $75M liability cap (i.e. insurance would be prohibitively expensive for someone like ATP) and a new moratorium is put into place.
  • Bonds move up on no volume/news until ATP releases disappointing 2Q numbers - then bonds move down on substantial volume
  • Beginning of September there was rumors on another rig explosion: One bold trader made a 75-80 market.
  • Bonds begin to drift higher on seemingly no news. Then company announces a $350M TL to monetize ATP Titan. Bonds continue to move higher.
  • Rumors that the deepwater drilling ban will end early keeps the bonds moving higher still. Sell side starts to get bullish again - i.e. time to possibly lock in some gains.
  • 2nd Telemark Hub begins production. Bonds and stock continue to climb.
  • More rumors about the lift in the drilling moratorium. Bonds and stock climb further.
  • Moratorium conditionally lifted - bonds go bid without (no sellers) in the mid 90s.
That takes us to about 2-3 weeks ago. There has been some positive and negative news since and bonds went out wrapped around 90 this afternoon.

During this entire timeline though, the company could have received at least $500M of assets for the Titan assets, had spent significant amounts of capital at both the Telemark and Gomez wells, had ~90MMbbl of Gulf of Mexico Reserves, and ~40M of North Sea Reserves, and nearly $300M of cash. Using sensible numbers, you could make a case for $2B for these assets vs. $1.65B of 1st lien and 2nd lien debt (before Titan monetization). Yes - you could have made the argument that GOM drilling was done for eternity, but then I would have called you crazy. It was a temporary problem that, yes, could have dragged on, but maybe to the detriment of $250M-$500M of ATP's value - still nearly covering the 2nd liens.

The above timeline shows you a typical distressed situation - sometimes they work out and other times they do not. As noted above and in previous posts, you have to compare how much your assets can be monetized for versus the claims against them. When the ATP bonds dropped to 70%, at market, there was about $1.2B of claims versus the aforementioned $2B of value - in my opinion, a pretty attractive margin of safety. If the moratorium had lasted into 2011, the company would have filed, and the bonds would have gone lower, but at the end of the day, the asset value would still be there and returns to the 2nd lien bonds may have been greater as they would have been the fulcrum security. Quite an interesting story indeed.


Anonymous,  11/03/2010  


The amusing thing about this situation was that ATPG had ~$500m in "working interests" on their properties (essentially vendor financing, which primes first lien debt under maritime law). From the equity holders point of view, this did not show up on their simplistic EV calculations. Anyone who took a second look at the debt realized that more than the term loan sat ahead of the 2nd liens - pushing that asset cushion down to the mid-30s.

Also, the covenants on the 2nd liens were pretty weak - management had leeway to remove Titan from the collateral pool and monetize it in a JV. Although it improves the liquidity profile of the company, the action essentially primes the 2nd lien.

At the end of the day, the trade seems to have worked. I'd hesitate to attribute the bond prices to an improvement on asset value versus a tightening of the overall HY market (some of those '07 LBO bonds have tightened from 12-15% to under 8% over this time frame). The HLX bonds also traded up after their initial collapse; and had a similar priming issue (incidentally, Greenlight was involved across that capital structure as well)

Frankly, this issue is a more attractive short near par than it was a no-brainer buy at 70.

[note: this isn't commentary on Greenlight or their investment acumen - some of those guys are pretty sharp]

Anonymous,  1/06/2012  

This is an old thread, but looks like these guys are up against the wall again - their access to the capital markets looks pretty non-existent (pfd quoted ~40)


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.