AMG data came out earlier today: High Yield mutual funds saw nearly $1B in inflows. This marks three weeks of very large inflows to the high yield market: $3.0B over the last three weeks. Here is a chart of the iBoxx $ High Yield Corporate Bond Fund (an ETF)
Three days ago, the distressed bank debt of Tribune traded as such:
- TLB (Initial): 61.5-62.5
- Incremental: 59.75 - 60.75
- TLB (Initial): 63.75-64.5
- Incremental: 52.25-54.25
- TLB (Initial): 64.25-64.75
- Incremental: 56.25-57.25
The biggest piece of Tribune Co.’s 2007 buyout is likely to survive a court challenge, even though managers used an improper solvency test to justify part of the $8.3 billion deal, an independent examiner said.Creditors who blame the buyout for the newspaper publisher’s bankruptcy are “somewhat likely” to win a lawsuit based on the smaller piece of the two-part deal, attorney Kenneth N. Klee found in a report issued yesterday.Unidentified Tribune managers required consulting company Valuation Research Corp. to use an ‘improper” method to calculate the Chicago-based company’s value, Klee said. When VRC issued its flawed solvency opinion favoring the buyout, Tribune managers claimed the opinion was supported by financial adviser Morgan Stanley.The process of hiring VRC “was marred by dishonesty and lack of candor about the role played by Morgan Stanley in connection with VRC’s solvency opinion and on the question of Tribune’s solvency generally,” Klee wrote.In a letter today, Tribune Chief Executive Officer Randy Michaels and Chief Operating Officer Gerald Spector urged the company’s employees, who include reporters, editors and television producers, “not to be distracted by the media attention.”‘Disagree With Others’“We agree with some of his assessments and disagree with others,” Michaels and Spector wrote of Klee’s report.The judge overseeing Tribune’s bankruptcy case appointed Klee in April to evaluate allegations that the buyout violated bankruptcy law. A summary of Klee’s report provides support for both backers and critics of Tribune’s exit plan.Tribune filed for bankruptcy in December 2008, a year after the buyout led by real-estate billionaire Sam Zell. Some lower- ranking creditors alleged the buyout was a fraudulent transfer because it added more than $8 billion in debt to the company while benefiting only Zell and shareholders.Tribune’s buyout took place in two parts. The $8 billion in primary financing closed in June 2007 and is “reasonably likely” to withstand a court challenge, Klee wrote, a finding in favor of Tribune and lenders including JPMorgan Chase & Co.By the time the second part closed in December, Tribune’s financial situation had changed, making VRC’s solvency opinion more important, Klee wrote. Tribune managers should have known that the second phase of the buyout would leave the publisher insolvent, he said.Approval Opposed“Fiduciaries charged with the responsibility for overseeing management’s actions and determining whether the Step Two Transactions would render Tribune insolvent did not adequately discharge their duties,” Klee wrote.The lower-ranking creditors, who would be paid nothing under Tribune’s reorganization plan, have said they plan to oppose approval when it comes before U.S. Bankruptcy Judge Kevin J. Carey in Wilmington, Delaware, on Aug. 30.Those creditors, who are owed $1.2 billion, have sued JPMorgan and the other lenders. They want the loans that funded the buyout to lose their payment priority.In step two of the transaction, Tribune borrowed $3.6 billion and paid fees to its lenders, according to court documents.Klee concluded that New York-based JPMorgan was likely to be exonerated from any allegations of bad faith for the first part of the buyout. The bank wasn’t likely to be cleared regarding the second part, he said.Creditors DividedCreditors in similar bankruptcy cases filed since 2007 will look at the report carefully, said Harold Kaplan, an attorney in Chicago with Foley & Lardner. The findings may influence creditors of companies that went through leveraged buyouts when values peaked and were forced into bankruptcy by the recession, he said.“Everyone is now asking, ‘Did the buyout overpay and saddle the entity with more debt than was justified?’” Kaplan, who isn’t involved in the Tribune case, said in an interview before the report was filed.The buyout has divided creditors. The lenders behind the deal are split over whether to fight the allegations of lower- ranking creditors or settle with some of them, according to court documents.Creditors have said that Klee’s conclusions may affect how they vote on Tribune’s reorganization plan. Carey must take that vote into consideration before he decides whether to approve the plan and allow the company to leave bankruptcy.Right to SueTribune’s plan asks creditors to give up their right to sue insiders, including Zell, and the lenders who financed the buyout over claims they left the company insolvent.Tribune owns the Los Angeles Times, the Chicago Tribune and broadcasting stations in Los Angeles and other U.S. markets, as well as stakes in cable channels.Tribune complained in court papers earlier yesterday about Klee’s decision to withhold certain details of the report from the company and other parties in the case until after an Aug. 9 court hearing.The case is In re Tribune Co., 08-13141, U.S. Bankruptcy Court, District of Delaware (Wilmington).
Last month we announced to readers that we were helping organize The Global Forum on Investing in Distressed Debt. In the coming weeks, we will be bringing you in depth interviews with a number of conference presenters talking about the major issues going on in the distressed debt market today. Before we get to that though, I wanted to take a little time out to discuss what I think the primary benefits are of attending a conference like this.
At Distressed Debt Investing we have discussed (in detail) Third Avenue Credit Focused Fund, a group I very much respect. What a lot of people don't know though, is that Third Avenue also has a special situations fund (fund name = Third Avenue Special Situations Fund) run by Michael Fineman. While I will not post the entire letter, I will grab snippets which I think are particularly insightful.
"During the quarter we greatly expanded our interest in a private company (“FinCo”) that indirectly owns 100% of Chrysler Financial. At our purchase price we believe we are buying a well-seasoned portfolio of automotive loans and leases at roughly two-thirds of run-off value. Importantly, the underlying portfolio has a very short duration, as the overwhelming majority of the book is expected to be liquidated in approximately two years.By way of background, before the April 2009 bankruptcy filing of automotive manufacturer Chrysler LLC (“CarCo”), FinCo was the captive finance provider for CarCo. During the peak of the crisis and rumors of bankruptcy, FinCo equity was marked in the low to mid 20s. However, since CarCo’s bankruptcy and emergence in later summer 2009, Ally/GMAC has assumed FinCo’s previous duties as the primary provider of retail, lease, and wholesale financing for CarCo-manufactured vehicles. As such, FinCo is currently in run-off, with assets turning into cash on an accelerated basis.Given the seasoning of FinCo’s book, consumer/wholesale default stabilization, and a remarkable turnaround in used vehicle prices, we are confident FinCo’s reported balance sheet is conservatively marked and we have a large margin of safety when you consider the significance of our purchase price discount. The primary uncertainty associated with this investment is the timing of when capital will be returned, which may be dictated by how the managing partner of this private equity interest seeks to re-deploy these funds. Given what we perceive to be an acceptable alignment of interests, we view the downside to this investment to be a mediocre IRR and the upside to be a holding period return in excess of 60% from current levels after already experiencing material appreciation."
Ally 7% Cumulative Perpetual Preferred Stock (“PS”) pricing was volatile during the quarter, and we added to our position (while still leaving substantial room to buy more) as prices have fallen. Regular readers of our letters will recall in 2008 and 2009 that we successfully invested in the unsecured bonds of GMAC on multiple occasions. Now, with the prospect of an Ally Financial IPO over a one-to-two year horizon we believe our preferred shares are well situated in the capital stack: Preferred share pricing results in a 9%+ current yield to us, with upside on an early par takeout if Ally management and the majority common shareholder (United States Treasury) look to facilitate a smooth S-1 filing by redeeming us and removing our common dividend blocker.Of course, we do not hold a contractual right to early redemption, and it is entirely possible Ally could execute a successful IPO with our preferred share common dividend restriction in place. However, even in this downside case we believe we are likely to be credit-enhanced in advance of an IPO when the Treasury converts some or all of its $11.4 billion of mandatorily convertible preferred stock (currently pari passu with our $2.7 billion of PS) into common stock to thicken the common layer and increase Tier 1 common levels to a more acceptable range.
The Fund remains focused on both distressed performing credit and debt-for-equity investments. Since the start of the year we’ve been telling investors that the middle market (companies with total debt less than $3 billion, but less than $1 billion the real sweet spot) is the most attractive environment for debt-for-equity investments. These companies have typically relied on leveraged loans provided by collateralized loan obligations (CLOs) and regional banks for their financing needs, rather than the high yield markets, which serves larger companies who issue larger amounts of debt. The continued shortage of capital available from CLOs and regional banks has made it difficult for middle market companies to refinance or extend the maturities of their existing debt, even as their larger competitors go to the high yield markets to take advantage of still low interest rates. When so many leveraged companies are facing real hard maturities in the near term it creates opportunities for distressed investors.The second quarter saw increased volatility in both the credit and equity markets as investors absorbed news of the Eurozone’s sovereign debt problems and China’s attempts to manage and slow its economic growth. Third Avenue’s “Safe and Cheap” approach to investing serves us well in times like these by providing strong risk adjusted returns. We analyze many companies and attempt to determine the optimum security within the capital structure and at the appropriate pricing level that limits our downside. Such volatility as the markets experienced recently has helped to create those buying opportunities for the fund.We continue to size our positions based on our risk analysis of each issue which has provided for several high-conviction, highly concentrated positions that we believe have limited downside. Fund management has also implemented certain inexpensive hedges to hopefully mitigate the tail risk associated with specific companies as well as macro hedges. Finally, we have initiated and increased certain positions that have hard scheduled events and therefore are capable of generating strong returns no matter how the market behaves.The macro backdrop supporting this middle market thesis remains the same as we had written about in our First Quarter 2010 letter; but recent events noted below seem to further support our thesis:
- Sovereign default risk has expanded from one EU country to several, not to mention austerity measures being taken by many other countries;
- The FDIC list of problem banks has grown from 702 to 775;
- Unemployment rates continue to remain just under 10%;
- Some $1 trillion dollars of maturities come due over 5 years, albeit back end loaded; and
- Many balance sheets remain highly leveraged as earnings are first fighting to return to the levels of 2005-2007; let alone grow into those balance sheets.
Thanks to Jay at MarketFolly for posting Perry Capital's most recent quarterly letter. As always, a fascinating read:
Earlier in the week, we started looking at the distressed debt of Tronox. What I want to do today is to show readers today in a step by step fashion how to create a valuation recovery model in Excel.
As a result of such analyses, review, discussions, considerations and assumptions, Rothschild estimates the total enterprise value (“TEV”) of Reorganized Tronox at approximately $975 million to $1,150 million, with a midpoint of $1,063 million. Rothschild reduced such TEV estimates by the estimated pro forma net debt levels of Reorganized Tronox (approximately $510-$517 million) to estimate the implied reorganized equity value of Reorganized Tronox. Rothschild estimates that Reorganized Tronox’s implied total reorganized equity value willrange from $458 million to $640 million.
- $165M in cash
- $130M in 15% Preferred Stock Convertible to an equity value 10% greater than plan value
- 7 year warrants convertible into 16.7% of reorganized Tronox at an implied equity value of $1.05B
- Certain Nevada assets
"Up to $145 million in Cash in the form of the Funded Environmental Amount (subject to decrease if total funded debt under the Exit Credit Facility on the Effective Date is less than $510 million, provided that in no event will the Funded Environmental Amount be less than $115 million in Cash as contemplated by the current committed exit financing)"So using the Enterprise Values above, here is what we get to (no one really has any idea what Nevada is worth so I skipped that part:
Before I continue my distressed debt analysis of Tronox, I wanted to answer a question I received from a reader:
"Hunter, I intend to apply to the DDIC, but want to make sure I write about an idea not yet covered on the site. Could you send me a list of credit that would suffice?"
- AIG, Amgen
- Fairpoint Term Loan
- Mortgage Insurers
- Gateway Bank Debt
- Insight Health
- Majestic Star
- Foxwoods (MASHTU)
- Sallie Mae
- GGP (an update at least)
- Lehman (no one has braved it yet!)
Investment Idea Synopsis
- Recommend purchase of 9.5% Senior Unsecured Notes (Ticker: TRX) at 75 and subscribing to rights offering at $10.40 per share a 40% discount to implied market value.
- Recommend purchase of L+700 bp (2% LIBOR Floor) DIP/Exit Facility at approximately 96(W/OID) at syndication.
OKLAHOMA CITY, July 8 /PRNewswire-FirstCall/ -- Tronox Incorporated (Pink Sheets: TRXAQ, TRXBQ), on behalf of itself and its affiliated debtors and debtors in possession (collectively, "Tronox") announced today that it has filed a Plan of Reorganization and the accompanying Disclosure Statement with the United States Bankruptcy Court for the Southern District of New York (the "Bankruptcy Court"), where Tronox's Chapter 11 cases are currently pending.The Plan contains the framework of agreements Tronox is formulating with its principal creditors — the United States government, several states, its unsecured creditors' committee, various tort claimants and its equity committee — and is premised upon the transfer of Tronox's legacy environmentaland tort liability to certain trusts to be funded upon Tronox's emergence frombankruptcy.Under the Plan:* Newly created government trusts responsible for environmental remediation at properties located throughout the United States will be funded with a package of consideration that includes (i) up to $145 million in cash, (ii) 88% of Tronox's interest in pending litigation against Anadarko Petroleum Corporation and Kerr-McGee Corporation (the "Anadarko Litigation"), (iii) preferred stock and warrants convertible to common equity of Reorganized Tronox, allowing the trusts to share the benefit of improvements in Tronox's enterprise value, and (iv) certain other realproperty, insurance and financial assurance assets.* Tort claims will be satisfied through separate trusts funded with 12% of the Anadarko Litigation proceeds, $7 million in cash and certain insurance assets. If tort claimants vote to reject the Plan, they will share in the general unsecured pool and Tronox will retain 12% of the Anadarko Litigation and the $7 million in cash.* General Unsecured Claims (including claims held by the company's prepetition noteholders) are slated to receive all of the primary common equity of Reorganized Tronox. Tronox expects general unsecured creditors will recover between 80 and 100% of their claims based on plan valuation.* Existing equity holders will recover warrants to purchase up to 5% of the common equity (subject to certain terms and conditions) if they vote to accept the Plan."The filing of the Plan is a key milestone for Tronox as it focuses on emerging from Chapter 11. We believe the plan contains the elements necessary to achieve a consensual settlement of our environmental and other legacy liabilities," said Tronox Chairman and Chief Executive Officer Dennis Wanlass. "Importantly, the Plan would enable Tronox to emerge from Chapter 11 as a going concern, responsibly capitalized and well positioned to ensure its long-term viability for the benefit of all stakeholders — including the environmental trusts and agencies responsible for serving the publicinterest."Wanlass stated: "We are pleased to be able to propose a fair and comprehensive package to the government while still achieving substantial recoveries for all of our other creditor groups. While there is much work ahead, the end of this complex bankruptcy is in sight and we will continue to work closely with our stakeholders in an effort to garner their support for the plan before votingbegins. We thank our customers, suppliers, business partners and employees for their ongoing commitment to the company through this process, which has helped us to build a stronger Tronox."The hearing to consider approval of the Disclosure Statement that explains Tronox's plan is scheduled for August 5, 2010.Copies of the Plan and Disclosure Statement can be found under the "Reorganization" section of Tronox's website at www.tronox.com . The Plan is subject to receiving the requisite votes from stakeholders, receiving approval from the Bankruptcy Court and satisfying closing conditions. The Plan is subject to change.
Distressed debt funds queue for opportunitiesPhil Craig12 Jul 2010Jumping in near the top of the market goes against almost every rule in the book. But distressed debt managers are expecting investors to do just that. They are preparing for substantial inflows even though hints of another recession suggest asset prices could be set to fall.Weak economic data, such as the US non-farm payroll data released this month, which showed a 125,000 decline in jobs in June, the largest fall since October, suggests a “double-dip” recession is growing more likely, say investors and companies. A survey published last week by accountancy firm Deloitte found that chief financial officers at 125 UK companies believe there is a 38% chance of a double-dip recession.Distressed debt funds made 30% last year, according to data provider HedgeFund.net, and rose a further 7% in the first half of this year. Managers of distressed debt funds already took hundreds of millions of dollars into their strategies in 2010.An economic downturn would cause the prices of distressed assets to fall, implying losses for distressed debt funds. Losses can be substantial. In 2008, this class of fund lost 27%, according to HedgeFund.net. Investors might be expected to pull money away from the funds and avoid the sector until they feel sure that any recession has passed its lowest point.But fears of an economic downturn are making managers more optimistic, not less. Distressed debt funds typically have extended lock-in periods, minimising risks of substantial short-term withdrawals. Moreover, they believe that slowing growth will spur investors to place even more money in the asset class, as more distressed opportunities come to the fore.Iain Burnett, head of distressed debt at BlueBay Asset Management, which manages $1.6bn (€1.3bn) of such assets, said: “Over the last 12 months, maybe $2bn or $3bn have flowed into distressed debt as a whole, but I would expect a much higher figure over the next year. It will be a combination of investors understanding that we are in a stage of the cycle where there will be very good returns, and that the outlook is not so good for other asset classes.“The opportunity is defined largely by the leverage pumped in during 2007. There are hundreds of billions of potentially distressed situations out there. This is the distressed debt opportunity of a lifetime.”Paul Taylor, head of restructuring at M&G Investments, said: “Our view is that there will be an abundance of opportunities in the coming years, and we are putting the work in now.”He highlighted four reasons for expecting an oversupply of distressed debt: a persistently weak economic backdrop; limited credit available for refinancing; “sticking plaster” refinancings enacted in 2008 that need to be restructured; and a wave of approaching maturities over the next few years. He said real estate debt provided particularly good opportunities, as few debt investors specialise in the area.Investors have been placing money with distressed debt managers in recent months.BlueBay launched its second distressed debt fund, focused on Europe, last December. Alchemy Partners has taken commitments of more than £280m (€335m) for its latest distressed debt fund focused on Europe and is targeting £500m, and OakTree Capital Management is preparing to raise its third fund focused on Europe this year, according to sources familiar with the two companies. Other managers that have closed European distressed debt funds this year include Intermediate Capital Group and Apollo, according to data provider Preqin.Why not delay an investment until any second economic dip has begun? Andrew Kirton, global head of investment consulting at Mercer, highlighted distressed debt as a good opportunity for investors in early 2009 and said Mercer’s view had not changed. He said: “There’s a danger of catching the falling knife. Clearly, there is risk involved. But if you are building a diversified portfolio of distressed debt, you will be able to withstand a certain default rate. I remember back in the early 1990s when some managers were buying property debt at 40 cents in the dollar. It took five years, but they made a lot of money for investors.”Damien Miller, global head of special situations at distressed debt specialist Alcentra, said: “It is possible that less sophisticated investors will retrench due to fear, as many did during 2009. The more sophisticated investors will increase allocations to distressed funds on the back of the inevitable increase in the size of the opportunity that a double dip brings. We have already started to see this.”Miller said a pull-back in flows should, on balance, be a net positive for the overall return opportunity in the asset class. He said: “Any interruption to supply and demand for an asset class will serve to create assets or investment opportunities which are mispriced – there is no better example of this than leveraged loans during 2009. We like to pursue actively investments in assets which we believe are mispriced because we think we are able to value them better than other market participants.”Ken Kinsey-Quick, head of multi-manager alternative investments at London boutique Thames River, which runs a fund of funds investing in distressed assets, said: “I think most investors are committed to this space. If anything, we have seen people thinking about adding assets.”There is a fly in the ointment. A weakening economic backdrop could lead banks, which still hold substantial loans on their balance sheets, to avoid selling them, according to BlueBay’s Burnett. He said: “One of the key drivers for distressed debt is that we need banks to start selling their problem corporate loans.“They haven’t done it yet on any significant scale, and we would like to see the banks making big profits, which would give them cover to sell bad loans at a loss. But a double dip would be bad for banks’ earnings, meaning they might put off selling bad loans.”However, a senior executive at a rival asset manager, who declined to be named, said other factors could offset such worries: “It is possible that a bigger driver for banks’ behaviour will be a liquidity crisis. If the European Central Bank stops providing short-term liquidity, the banks will have to shed their assets to avoid the refinancing risk.”
Ankit Gupta has posted a fantastic interview with money managers Roark, Rearden, & Hamot Capital Management on his blog Selected Financials. I have always enjoyed Ankit's pieces and I am sure my readers will as well. You can see the interview below.