Great Atlantic Bankruptcy and Adequate Protection

Adequate Protection is always as an interesting issue when it comes to investing in distressed bonds and bank debt secured by various assets. Because a creditor's interest is secured by those same assets, it is assumed that the debtor will set up a mechanism to preserve the value of that collateral. Generally speaking, adequate protection comes from periodic post-petition cash payments (i.e. post-petition interest) or granting of additional liens.

A few weeks ago, we introduced The Great Atlantic & Pacific Tea Company's Bankruptcy. Bonds are currently up from our recommended price and are trading in the low 90s context. With that said, we have been following the docket closely and saw an objection coming from a group calling themselves "the Ad Hoc Consortium of Certain Holders of A&P 11 3/8% Senior Secured Notes."

For reference, here is the case's website: GAP's Bankruptcy Docket. You can click on "Court Documents" to access the docket.

Before we get to the objection, it would be useful to explain a number of introductory proceedings on a typical bankruptcy docket. Legal counsel to debtors and creditors must file a "Motion for Admission" to the court to represent their clients. Sometimes, and especially when Ad-Hoc groups are being represented, legal counsel will list the clients they are representing. For example, "Counsel to the Ad Hoc Consortium of Certain Holders of A&P 11 3/8% Senior Secured Notes" listed Secured Note Holders in an Exhibit in Docket #309:

You will note, a number of these funds are listed on our list of distressed debt hedge funds we published late last year (we have also added a few after doing some research on these names).

Now moving to the objection, which I have uploaded below:

It is noted in the opening paragraph of the objection that the ad hoc note holders (holders listed above) own 44% of the outstanding bond issue. Needless to say, this gives them a blocking position. What I found most interesting about this disclosure was the size of this block with the entire street knowing that Yucaipa was also a holder of these bonds. A similar case would be Terrestar, where rumors that a number of bond holders took a blocking position to better the deal they expect to get from Echostar, the interested party in that case:

In essence, the ad hoc note holders are objecting to certain aspects of the DIP financing as well as use of cash collateral. They argue that before the Chapter 11 filing, they were behind approximately $330M of debt and because of the size of the DIP will now be junior to as much as `$950M ("The figure $950.5 million is equal to the sum of $331.7 million plus the $800 million DIP Financing, plus the $15 million Carve Out, less $196.2 million in letters of credit [to avoid “double-counting” them as they would otherwise arguably be included in both the $331.7 million figure as well as the $800 million figure]). And because of the potential for a material drop in the value of their security interests, the Secured Note Holders argue they are entitled to adequate protection.

Now, the Debtors have proposed adequate protection in this case including junior liens on unencumbered property as well as other replacement liens that arguable they would have gotten even if it was not party of the DIP order. But the ad-hoc group is arguing that the debtors have not shown in one way or another, that this adequate protection "cuts it" so to speak.

Outside of the adequate protection requests, the ad hoc group brings up a fascinating argument that because the intercreditor agreement was between the Secured Note Holders and the pre-petition credit facility (which has been repaid by the DIP), and not the debtors or the DIP lenders, the intercreditor agreement is also not enforceable by either the debtor or the DIP lenders.

So what is the ad hoc group of note holders asking for? Adequate Protection (reimburesement of expenses and post petition interest) among other things:
"...provide the Secured Noteholders with the same types of adequate protection that are provided to the DIP Lenders and the Pre-Petition Secured Lenders, including: (1) payment of reasonable expenses, including professional fees and expenses, of the Secured Noteholder Consortium; (2) the current payment of the semi-annual coupon amount as provided for in the Secured Notes Indenture as an adequate protection payment provided for in Bankruptcy Code Section 361(1) and (3) access to information on the same terms as provided to the DIP Lenders, including, without limitation, notice of any offer to purchase any material assets of the Debtors, including any offer to purchase the Debtors as a going concern, or any retail banner owned by the Debtors as of the Petition Date, and notice of any intention to reject any material unexpired leases or executory contracts."
...as well as consent and notice rights comparable to DIP lenders along with disclosures of fees paid to the DIP agent and DIP lenders.

Not only that - but a very interesting request: "Disclosure of Yucaipa’s debt holdings, as discussed in footnote 7 above."

Yucaipa and Footnote 7? In a footnote in the objection:
"Moreover, it has been reported that Yucaipa Cos. (“Yucaipa”), which the Debtors indicate hold a majority of their preferred stock (and control 2 board seats as a result), have recently acquired certain debt of the Debtors, including Secured Notes. Yucaipa has a history with the Debtors’ operations, having sold the Pathmark chain to the Debtors in December 2007 for $1.4 billion. Counsel to the Secured Noteholder Consortium has made a request of Yucaipa’s counsel (Latham & Watkins LLP) to disclose the amount of Yucaipa’s holdings of other Debtor debt issuances, including any Secured Notes, but as of the date hereof Yucaipa has not provided such information. The Secured Noteholder Consortium submits that Yucaipa should disclose the amount of its debt holdings (including holdings of Secured Notes) forthwith."
Very interesting.

To me it seems like they have a pretty compelling argument - It is hard to imagine junior lines here providing true adequate protection. With that said, I am sure the company will comes up with a response and it will be up to the judge (or back door negotiating) to come up with a compromise here - especially given the size of the block here. Maybe they get adequate protection in the form of accrued interest payments at the default rate at the end of the Chapter 11 proceedings? Hard to tell at this point. We will continue to follow Great Atlantic's bankruptcy and any rulings / motions regarding adequate protection.


Anonymous,  1/05/2011  

Hunter, how much of the DIP do you think Great Atlantic will actually use? I got the feeling that they were simply going to pay off credit lines and use part of the remainder for increased working capital requirements (which they get back after Chapter 11), not to actually increase their net credit post Chapter 11.

You have made the point that the Secured Notes are the fulcrum entity. How much if any recovery do you think the unsecured bonds might get?

Anonymous,  2/10/2011  

Asking for such a large DIP might be a way to pay most vendors. they will argue they must keep relations with those vendors and might get away with it.
If I am wrong then they are planning to reduce by a lot their trade payables since many vendors will pay them close to COD. in which case you are talking $900M DIP before $260M secured debt.
The company will have to pay off $135M existing lines and my best geuess is that they will need all together about $650M of the DIP and the rest is to maintain liquidity.
In this case you have $910M coming before unsecured.
The question is how large is unsecured (dark leases will be paid, union pensions will have to be probably provided some money - in case they are underfunded).
The secured investors will push for a very low post bk valuation, so that they can retain majority of ownership at emergence. that is the general rule of thumb.
I bought some unsecured at 35 and I am hoping for the best. by the time you get the equity I should be OK. I might be too optimistic, but time will tell.


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.