Distressed Debt Investing

Reorg Research Coverage of Rescap PSA

noreply@blogger.com (Hunter) — Thu, 23 May 2013 21:14:00 +0000

Because of Reorg Research's technology, our subscribers will be among the first to receive and review bankruptcy dockets in a litany of cases. Likewise, our reporters, analysts and I have first mover advantage in analyzing key documents in cases. We put out stories on developments in bankruptcy cases, whether for new docket filings or for court proceedings, before other services on the market. And I take pride in the depth of our analysis, about which we've heard unanimously positive feedback.

Here is our piece on Rescap's PSA that was filed shortly after the PSA hit the docket. Enjoy!

Ally Agrees to Pay $2.1B in ResCap Settlement

Residential Capital’s former parent Ally Financial agreed to pay a maximum of $2.1 billion in order to free itself from potential litigation after ResCap’s bankruptcy process has been completed.

ResCap filed the previously announced plan service agreement, the “global agreement”, the former mortgage servicer reached with Ally and multiple constituents after months of negotiations.

Ally will increase its contribution to the ResCap’s estate by $1.35 billion over the amount agreed to in the PSA to a total of $2.1 billion comprised of:

$1.95 billion in cash
$150 million from a settlement between Ally and its insurers (paid no later than Sept. 30, 2014), for any Director and Officers or Errors and Omission claims

The Ally Contribution, per the PSA term sheet, is capped at $2.1 billion. In exchange Ally will receive, among other things, ResCap releases and third party releases in favor of Ally. The releases do not release any claims against Ally held by the FDIC.

The contemplated plan provides for partial consolidation (for distribution purposes only) of ResCap’s estate into three groups (1) The ResCap debtors (which includes the holding company, GMAC Residential Holding Company, LLC, and GMAC-RFC Holding Company, LLC), (2) the GMAC Mortgage debtors (includes GMAC Mortgage, LLC and its direct and indirect subsidiaries), and (3) the RFC debtors (which include Residential Funding Company, LLC and its direct and indirect subsidiaries.) Plan distributions will be funded by a combination of $4.5 billion in proceeds from previous asset sales, assets remaining in the estate, the Ally contribution with certain security litigants and borrowers receiving distributions through three trusts.

Key points from the PSA also include that the creditors’ committee and supporting parties will support a partial paydown of no less than $800 million of the 9.625% junior secured notes due 2015 secured claim, provided that Ally is paid prior to any such paydown of the JSN secured claim in cash in full satisfaction of the outstanding Ally loan. The PSA term notes that the “Plan will provide payment in full on the Effective Date of the allowed prepetition claims of the

Junior Secured Noteholders” and that “The Plan will provide that the Junior Secured Noteholders are undersecured and not otherwise entitled to payment of any post-petition interest."

Also party to the settlement, Paulson & Co. may not seek to terminate this agreement if Wilmington Trust ceases to be a party to it.

The breakdown of the distributions to unsecured creditors is as follows:

Holders of allowed private securities claims will get their share of $225.7 million
Holders of allowed borrower claims share $57.6 million
Holders of allowed NJ carpenters claims share $100 million
Allowed estate unsecured claims at ResCap debtors get their pro rata share of available unsecured assets totaling $752 million
Allowed estate unsecured claims at the GMACM debtors share in $600 million
The allowed estate unsecured claims at the RFC debtors receive unsecured assets valued at $789.6 million

A Liquidating Trust will be established: Assets of this trust will include the Ally Contribution and Rescap’s remaining assets. From the term sheet: “Holders of allowed unsecured claims and the Private Securities Claims Trust will receive units of beneficial interests in the Liquidation Trust (“Trust Units”),allocated in accordance with the treatment under the Plan and the Allocation Percentages set forth on Annex I.

Of particular note, the senior unsecured notes claim recovery will be $351.4 million versus an allowed claim of $1.003 billion.

The plan shall provide for the allowance, priority, and allocation of the monoline claims, as follows:

MBIA claims fully and finally allowed as non-subordinated unsecured claims of $719 million against the ResCap Debtors, $1.45 billion against the GMACM debtors, and $1.45 billion against the RFC debtors.
FGIC claims shall be fully and finally allowed as non-subordinated, general unsecured claims in the aggregate amount of $596.5 million. The settlement and release of FGIC’s ResCap-related insurance indemnity obligations pursuant to the FGIC Settlement Agreement shall be approved by the bankruptcy court, by separate 9019 motion, and by the FGIC Rehabilitation Court

Conditions of the plan include court approval of the disclosure statement and the RMBS Settlement, a preliminary hearing for which takes place today. In addition, a termination even includes “the Examiner’s Report is disclosed to any party on or before the Bankruptcy."

Court enters the PSA Order;” From the PSA Term Sheet “The Examiner Report shall be sealed through and including the earlier of (a) the date the Bankruptcy Court approves the Plan Support Agreement, and (b) July 3, 2013, provided that if the Plan Support Agreement is terminated, the Examiner Report may be filed publicly the next Business Day after the effective date of such termination.”

PSA milestones include:

July 3 - deadline to file plan and disclosure statement, receive court approval of the PSA

Aug. 19 - court approval of a settlement agreement with FGIC and RMBS trustees

Aug. 30 - approval of adequacy of disclosure statement

Earlier of 30 days post-confirmation order and Dec. 15- plan effective date

Prior to the closing of ResCap’s court-approved asset sales, the company and its non-debtor affiliates operated the fifth largest mortgage servicing business and the tenth largest mortgage origination business in the U.S., according to the company description in the PSA.

For those looking for more information on Reorg Research and our product offerings, here is a direct link to our trial request: http://www.reorg-research.com/trial_signup.php . You can also reach me at hunter[at] distressed-debt-investing [dot] com for additional questions

Emerging Manager Series: Bowery Investment Management

noreply@blogger.com (Hunter) — Fri, 17 May 2013 00:58:00 +0000

Over the last few months, we have profiled a number of managers sub $250 million of assets that I have come to meet through various channels. I met Vladimir Jelisavcic over 5 years ago when he was co-portfolio manager at Longacre. He has always impressed me with his incredible analytical abilities and knowledge of the trade claims market where he is regarded as one of the most prominent players out there. This is an incredible interview. For more information on Bowery, you can visit their website here: http://www.boweryim.com/

Could you please give us a brief run down on your background?

I received my BS from NYU in 1987 and my JD from the University of Iowa in 1993. After graduating from law school, I began working at Bear Stearns trading distressed claims and loans where I became a Vice President. In 1998, I left Bear to found Longacre Fund Management with 2 partners, also from Bear. We ran Longacre from 1998 to 2012, where I served as co-portfolio manager, building assets from $1 million to $2.7 billion. In 2012, when my partners and I decided to return capital to Longacre investors, I founded a new firm called Bowery Investment Management where I continue to manage the Opportunity Strategy. In all, I have been in the distressed debt investment business for 20 years.

How has the investment strategy for Bowery evolved over time, or how is it different from previous iterations?

Longacre’s strategy was a fundamental, bottom-up, value-driven approach to distressed debt investing. We could invest up and down the capital structure in bank debt, bonds, trade claims and some reorganized or leveraged equities. By mandate we could invest up to 20% of the capital managed in trade claims. The Bowery Opportunity Strategy takes a similar approach to distressed debt investing but with a greater focus on niche assets. The Bowery Strategy allows us to invest in less liquid assets where we think there are better return opportunities. We focus on overlooked or underfollowed capital structures, smaller companies and issuances, and can invest up to 50% of our capital in trade claims. Bowery also focuses more heavily on risk management and volatility control than did Longacre, taking a systematic, top-down approach to hedging.

Vlad, you are well known in the distressed space as an expert in analyzing and investing in claims. Can you talk about how that market is changing and where you see it going in the future?

Trade claims are one of the purest forms of distressed debt investing and a natural byproduct of the bankruptcy cycle. During and immediately following the financial crisis, we saw an abundance of claims available for purchase at attractive prices, as creditors desperately needed liquidity. Now, with default rates at an all-time low, the claims market is less robust than it was 4 or 5 years ago and many of the largest bankruptcies (Lehman, Madoff, etc.) are finally distributing what assets remain in their respective estates. That being said, there are still plenty of opportunities to purchase claims if you know where to look. Large companies such as American Airlines, MF Global and Eastman Kodak have all filed for Chapter 11 within the last two years. A number of smaller companies have recently filed or soon will file, which will further improve supply. Moreover, having an in-house sourcing team, as Bowery does, allows us to locate untapped creditors and smaller counterparties which our counterparties cannot. While the popularity of claims investing continues to rise among hedge funds, most transact in the largest “on-the-run” cases like Lehman, unwilling (or unable) to devote the time and resources to smaller cases. When interest rates rise, so should the number of new bankruptcies, which will give firms with experience buying claims, like Bowery, an edge in finding attractive opportunities.

You launched the Opportunity Strategy very near the end of the crisis period of 2009. Can you talk about investing then versus the current market environment?

2009 represented a historic market dislocation, and there was an unprecedented amount of distressed assets available for bargain prices. We didn’t have to look very hard to find attractive investment opportunities. Now, the opportunity paradigm has shifted as US companies’ corporate balance sheets are strong and persistent monetary policy intervention suppresses interest rates. Distressed capital is concentrated in the same few troubled names (Lehman, TXU, etc.), but there are plenty of smaller companies in distress, as well. In order to differentiate ourselves from other investment managers (and old Longacre), we focus on mid-market companies whose capital structures are too small for many of our distressed debt peers to build meaningful positions. This requires us to be more creative in sourcing opportunities, but this is what distinguishes the Bowery team. We especially like counter-consensus themes, such as old-media, European financials and shipping. Since we consider ourselves process experts, we can apply the same fundamental analysis to a company worth $100 million or $10 billion. Our method in 2009 versus now is the same, we just cast a wider net now, focus on the underfollowed names, and are more cognizant of the political and macroeconomic landscape.

Bowery has $125 million in assets under management yet it has invested in many of the well-known names targeted by megafunds and still managed to outperform the DJ-CS Distressed HF Index. What are the advantages and/or difficulties a smaller investment manager has compared with larger managers?

Over the last 5 years, assets in the distressed debt space have become ever more concentrated. The large investment managers have gotten larger and the largest have gotten super-sized. There are certainly advantages to this for these managers—scale, pricing power, coverage, perceived safety. But, this has also hindered their ability to access some of the most attractive opportunities in the form of smaller companies or issuances. In such cases, the large managers can’t source enough product to create a meaningful position in their portfolios that will “move the needle,” or in doing so they will move the market on the way in and out. This leaves many opportunities undiscovered which of course works to our benefit as a smaller player since it allows us to source a significant amount of product for our portfolio at an attractive price. Not only do these opportunities enhance returns, but they allow us to differentiate our book from those of our peers. A great example of this is the Tribune bankruptcy. Most distressed debt managers bought securities of the holding company, which there were plenty of. Bowery bought the trade claims of the operating companies of which there were only $80mm outstanding, inaccessible (or irrelevant) to larger managers. We started buying the claims at 40 cents on the dollar and received a par recovery
.
Can you talk about your investment process? How does an idea go from being a potential investment to become a portfolio holding?

Our investment process is a time consuming and rigorous approach, but one which has historically generated significant alpha. The process starts with the idea generation phase. Ideas are derived from weekly team meetings, buy and sell side relationships, news runs and bankruptcy filings, all viewed through a macroeconomic and thematic lens. We focus on finding unique, underfollowed opportunities with significant asymmetric return potential. We rely on our extensive industry contacts and market experience to source and vet only the best opportunities. Next we perform a deep, fundamental research analysis of the company, financials and industry in conjunction with discussions with management teams, other analysts and knowledgeable industry contacts. We then select the most compelling opportunities with what we perceive to be the highest risk-adjusted return potential. We evaluate possible catalysts and exit strategies in selecting the appropriate securities in the context of overall market fundamentals. Finally we determine the appropriate size of each position taking liquidity and technicals into consideration. The portfolio is monitored in real-time and positions are hedged, adjusted and traded around on an ongoing basis.

Nearly all of Bowery’s major investments have been in U.S.-based situations. Would you consider more global opportunities? How do you view the opportunity set in Europe?

We are very opportunistic, so while the portfolio has historically skewed towards North American opportunities, we are also active in Western Europe. We don’t do a whole lot of investing outside of these two regions because those are where we best understand bankruptcy case law. At the close of March 2013 we were 80% net long; 56% in North America and 24% in Europe. This significant European weighting is reflective of the current market environment in which fundamentals of American companies are relatively strong compared to those of European ones. I expect the opportunity set in Europe to remain attractive for the near term until sovereign debt issues are fully resolved and austerity measures absorbed. Nonetheless, we are never at a loss in finding unique opportunities domestically.

With so many people having differing opinions, we'd like to hear your thoughts on the credit markets today. Is high yield in a bubble right now?

I am not sure I would call the high yield market a bubble, but it is certainly overbought. The average yield on speculative grade bonds fell below 6% for the first time ever in recent months, and spreads are at historic lows. Treasury rates can only go up from here. This will tighten spreads even further before risk premiums undoubtedly rise, and the high yield market cools off. When and to what extent this happens is more difficult to say but a correction is likely.

How do you manage your book? Claims generally have a lower liquidity profile than on the run credit? How do you balance illiquid vs liquid?

Our strategy is constructed to match the duration of our book so we are not forced to sell out of a position prematurely and take a haircut. The strategy accommodates the less liquid trade claims part of the portfolio which can be up to 50% of capital (35% in claims at the end of March). We invest the rest of the book in more liquid distressed bonds and bank debt which generates a significant amount of alpha, but also provides liquidity and diversification away from claims. Furthermore, most of our claims portfolio is invested in liquidations where the distributions are in the form of cash, so there is little market risk associated with this type of exposure. The main risk of a claims position is process and time risk (that the bankruptcy will drag on for longer than expected), but we factor this probability weighting into the price we bid for a claim. In the case where a claim position results in reorganized equity, we may short sell an equity index, or buy a put on an individual name as a hedge. Away from our claims exposure, we characterize and hedge our portfolio in a number of buckets, from equity like risk (ex- unsecured bonds) to lower beta credit risk (ex- secured bank debt) and will express hedges using various indices like the HYG, LQD, and JNK. Our book is constantly monitored in real-time by our head of risk management, and our smaller size allows us to be dynamic in adjusting hedges up and down as necessary.

Can you describe a specific situation where you have passed on a compelling idea because you couldn’t get comfortable with the risks?

One of the most popular shorts in the distressed space in recent months has been JC Penney (JCP). In fact, as of April 15, 36.8% of JCP’s equity float was short. New CEO Ron Johnson failed to transform the chain from a coupon-driven discount retailer to a higher-end, boutique shopping destination. Meanwhile, competitors such as Macy’s and Kohl’s continue to outperform. JCP was burning through cash, but also held unencumbered assets, like real estate, which could potentially be used to secure new financing. This was enough to make us wary of an investment from the short side. Sure enough, within the last week JCP secured a $1.75B financing package from Goldman Sachs, boosting the stock and buying the company time to get back on the right track.

Can you talk about an investment you find particularly compelling today that fits into Bowery's strategy?

We are very bullish on our first lien bank debt holding in R.H. Donnelley (RHD). The investment fits our strategy for a number of reasons. First, the company is a yellow-pages business, and as most people know, print media is out of favor with the advent of smart phones, tablets and digital publications. As I mentioned, we like counter-consensus themes. Secondly, there is only $750mm of the bank debt outstanding, trading today at about 72 cents on the dollar, half of which is held by long term holders. So, there is only about $375mm face value of float. As I also mentioned, we like smaller issuances. So, what is there to like about this company besides the fact that it fits into our investment criteria? First, while print businesses are in secular decline, the rate at which RHD’s business is shrinking has moderated. Second, with little overhead or fixed cost, the business produces an abundant amount of free cash flow which goes to first lien bank debt holders. Thirdly, RHD is “bundling” a digital component with its print renewal offers where the digital component will continue to grow and generate even more free cash flow. Finally, RHD’s parent company, Dex One, recently merged with Supermedia, a competitor, which provided a number of business synergies to reduce costs at both firms. But most importantly, the merger provides tax benefits to RHD which will benefit its creditors. We initiated the position in February 2012 at 39, and the bank debt now trades in the low-70’s. We expect it to be worth par by the end of 2014.

*Disclosure: Bowery is a client of Reorg Research

Advanced Distressed Debt Lesson: Bank Debt Trading

noreply@blogger.com (Hunter) — Mon, 13 May 2013 15:17:00 +0000

Over the past few months, David Karp, partner at Schulte Roth & Zabel has enlightened readers with a fascinating series on the technicalities inherent in trading and closing trades in the world of distressed debt. For the last piece of the series, David takes on the complexities of bank debt trading, which has become an increasingly prevalent instrument for distressed debt funds to engage in. It's an incredible read. Enjoy!

Bank Debt Trading on the Modern Day Back of the Napkin

While it may be surprising to market outsiders, every day bank debt traders in the Unites States, Europe and around the world enter into multimillion dollar binding trades — over the phone, on Bloomberg instant messages and via email — for which many complex collateral, tax, counterparty risk and other material terms and conditions are left off of the modern day “back of napkin.” While the Loan Syndication and Trading Association (“LSTA”) and the Loan Market Association (“LMA”) have set the baseline standards for bank debt trades in the United States and Europe respectively, trades often include material issues that need to be addressed after the traders say “done,” but before entry into a formal written confirmation and eventual settlement. While recent case law in the United States and Europe has confirmed that these informal communications are binding, it also shows traders the importance of at least including some reference to material issues (in addition to price, amount and facility) on the “napkin” at time of trade.

For instance, the U.S. Court of Appeals for the Fifth Circuit held on Oct. 2, 2012 that an oral trade of certain bank debt from Bank of America (“BofA”) to Highland Capital Management (“Highland”) was binding despite follow-up emails stating that the claim was “subject to appropriate consents and documentation.” Highland Capital Mgmt., L.P. v. Bank of America, N.A., 698 F.3d 202 (5th Cir. 2012). That decision brings U.S. case law in line with a 2007 English High Court decision, which held that oral trades are binding even if certain terms of the trade, such as the settlement date or the form of transfer, remain undecided. See Bear Stearns Bank plc v Forum Global Equity Ltd. [2007] EWCH 1576. While the bank debt market’s mantra continues to be “a trade is a trade” and the LSTA’s standard documentation makes clear the binding nature of oral trades, what is interesting (and perhaps scary) about these cases is that they were resolved only through years of protracted litigation, involving a significant commitment of time and expense by the parties. Even if all of your counterparties have a full appreciation of the market standard that an oral trade is binding, judges are not in the market and, if the economic incentives are tempting enough, a counterparty could try to take advantage of courts’ general lack of market awareness.

Facts

In 2009, Highland and BofA began negotiations on a potential sale of certain bank debt of Regency Hospital from BofA to Highland. (Footnote #1) On Dec. 3, 2009, a representative from Highland called BofA to finalize the trade and its terms. Id. The parties agreed over the phone that Highland would purchase, and BofA would sell, $15.5 million of the debt at 93.5 percent of par and that the agreement incorporated the Standard Terms and Conditions published by the LSTA. Id. The BofA representative did not reserve any non-LSTA or non-industry terms during the Dec. 3, 2009 call. Id. After the call, the Highland representative sent an email to the BofA representative confirming that the debt-trade agreement was complete. Id. The BofA representative responded with a confirmation of the agreement, noting that it was “subject to appropriate consents and documentation.” Id.

After the Dec. 3, 2009 call, BofA refused to settle the trade unless Highland agreed to additional terms, including an indemnification, payment of legal fees and waiver of legal claims. Id. at 205. Highland viewed these additional terms as departing from the standard LSTA terms and the Dec. 3, 2009 oral agreement. Id. The Regency Hospital loan ended up paying out 100 percent of par and Highland subsequently sued BofA for breach of contract. Id.

Relying on BofA’s “subject to” language, the trial court held that the parties did not intend to be bound by the trade without additional “consents and documentation” and, therefore, granted BofA’s motion to dismiss. Highland Capital Mgmt., L.P. v. Bank of America, N.A., 2011 WL 5428779, at *5 (N.D. Tex. 2011). Highland appealed that decision to the Fifth Circuit arguing that the lower court failed to accept Highland’s pleaded facts as true, as required on a motion to dismiss (as explained in note 1) and improperly considered factual issues related to the parties’ intent and industry standards. Highland, 698 F.3d at 205.

Fifth Circuit’s Analysis

The Fifth Circuit began by observing that oral contracts are valid under New York law. Id. at 206. In fact, New York law specifies that bank debt oral trades are binding under a statute providing that the statute of frauds does not apply to the assignment, sale, trade, participation or exchange of indebtedness or claims relating thereto under certain qualified financial contracts, which include bank debt. See N.Y. Gen. Oblig. Law § 5-701(b)(2)(i) and (ii). However, if the parties do not intend to be bound until the oral contract is reduced to writing and signed, then the oral contract is not binding until that time. Highland, 698 F.3d at 206. Whether or not the parties intend to be bound is a factual issue to be determined by the court or a jury based on evidence. See id. The trial court nevertheless found BofA’s intent not to be bound in its “subject to appropriate consents and documentation” email. Id.

Highland’s complaint, however, alleged that the parties had agreed to all of the material terms on the Dec. 3, 2009 call because the LSTA standard terms specify that parties agree to be legally bound by any subsequent calls or emails that reach agreement on material terms. Id. at 207. Under Section 21 of the LSTA Standard Terms and Conditions for Par/Near Par Trade Confirmations, once you execute an LSTA trade confirmation, you are bound by the LSTA standard terms in all future debt trades with that same counterparty unless you specifically say otherwise at the time of trade. Section 21 LSTA Standard Terms and Conditions for Par/Near Par Trade Confirmations provides as follows:

By execution of a Confirmation incorporating by reference the Standard Terms and Conditions, each Buyer and Seller agrees to be legally bound to any other transaction between them … with respect to the assignment, purchase, sale and/or participation of commercial and/or bank par/near par loans, or any interest therein, upon reaching agreement to the terms thereof (whether by telephone, exchange of electronic messages or otherwise, directly or through their respective agents, and whether the subject of a confirmation), subject to all the other terms and conditions set forth in any confirmation relating to such transaction, or otherwise agreed.

This also applies to distressed trades pursuant to Section 22 of the LSTA Standard Terms and Conditions for Distressed Trade Confirmations. The same section also commits the parties to New York law, and to not raise a defense for lack of a writing based on the statute of frauds.

Highland’s complaint also correctly asserted that the “consents” referred to in BofA’s “subject to” email referred to borrower consent, which is often required to effect the assignment of bank debt transfers. Id. Highland explained that, even if borrower consent were not available, the LSTA standard term would still require the parties to close the transaction by participation or otherwise. (The LMA standard terms include a similar provision. The potential pitfalls related to borrower consent in Europe are discussed in a prior post, Prospecting for European Distressed Loans.) Id. Highland’s complaint also alleged that the “documentation” in BofA’s “subject to” email referred to the execution of a standard LSTA trade confirmation, noting that the execution of the trade confirmation is not a condition precedent to formation of a binding trade. Id. at 207-08.

In its consideration of whether or not the parties intended to be bound by the oral agreement, the Fifth Circuit used the four-factor test generally used by courts in breach-of-oral-contract cases. Id. at 206. The test considers: “(1) whether there has been an express reservation of the right not to be bound in the absence of a writing; (2) whether there has been partial performance of the contract; (3) whether all of the terms of the alleged contract have been agreed upon; and (4) whether the agreement at issue is the type of contract usually committed to writing.” Id. at 209. First, taking Highland’s allegations as true, the Fifth Circuit saw no indication that BofA had expressly reserved the right not to be bound without a written agreement. Id. Second, Highland alleged that the parties had agreed on all material terms. Id. Finally, the LSTA standard terms indicate that debt trades can be conducted orally and only later committed to writing in a trade confirmation. Id. Taken all together, the Fifth Circuit concluded that the emails following the Dec. 3, 2009 phone call did not unambiguously indicate that the parties did not intend to be bound and, therefore, the issue of the parties’ intent was unfit for a motion to dismiss at that early stage. See id. Given that the emails did not clearly negate an intention to be bound, without further evidence, the Fifth Circuit held that the district court erred in granting BofA’s motion to dismiss. Id. at 210.

Accord with English Case Law

The Fifth Circuit’s decision in Highland brings U.S. case law in line with English case law on the subject. In a 2007 opinion, the High Court held that parties to a notes trade were bound after they agreed on price over the phone, despite other outstanding terms of the trade, such as the settlement date. See Bear Stearns Bank plc v Forum Global Equity Ltd. [2007] EWCH 1576. In the Bear Stearns case, the High Court considered the binding effect of a phone call agreeing to the price of Parmalat SpA notes and accompanying claims in the Parmalat insolvency under the Marzano Law Decree. Much like the analysis performed by U.S. courts, the High Court considered the parties’ intent to be bound and held that the buyer did show such an intent when it orally provided a “firm bid” on the price. The court held that there was a binding oral agreement, even though there was no agreement on a settlement date or the form of transfer, because there was no legal reason why the parties could not later reduce the agreement to a writing in which the buyer obtained the economic benefit of the notes and claims in exchange for the agreed price. Unlike in the Highland case, however, the High Court did not conclude that the standard terms of the LMA, the English equivalent of the LSTA, applied because the parties did not specifically refer to LMA standard terms at the time of the call and there was no clear and convincing evidence that at the time of the trade (July 2005) it was an established practice to use LMA terms for transactions in this type of asset, given the unusual nature of the particular claims that accompanied the notes. Nevertheless, there is now clear case law in both the U.S. and England that upholds the binding nature of oral debt trades.

Practical Considerations

The trial court decision in Highland was completely at odds with market understanding and it took a successful appeal to the Fifth Circuit to bring the decision in line with market expectations. The time from trade to appellate decision (solely on the motion to dismiss) was almost three years. This is not the first time (and will not be the last) that parties have had to “take one for the team” and litigate an issue — one that perhaps the market had taken for granted — up to the circuit court level in order to get case law up to speed. For example, as discussed in Part I of this series, we saw Longacre fight the good fight in the Second Circuit to confirm that “objected to” means “objected to,” with respect to claim assignment put right triggers where a claim seller attempted to add a “substantive” objection requirement to the plain language of the claims trade contract.

The trial court in the Northern District of Texas missed the mark in Highland. There are plenty of other district and state courts that are not bound by the Fifth Circuit’s Highland decision that could do the same. In fact, we need only look to the New York Appellate Division, First Department’s decision in Credit Suisse First Boston v. Utrecht-America Finance Co., 80 A.D.3d 485 (N.Y. App. Div., 1st Dep’t 2011), which suggested that a trade confirmation that included language that the trade was “subject to negotiation, execution and delivery of reasonably acceptable contracts and instruments of transfer,” which is in all standard LSTA trade confirmations, imposed on the parties only an obligation to negotiate the definitive documents in good faith, not a binding obligation to close the transaction. See id. at 19-20. While that case settled after the Appellate Division remanded it to the trial court for determination of certain factual issues, the mere suggestion (by a New York court, no less) that a standard LSTA trade confirmation was not a binding agreement to close the transaction has certainly caused some jitters for traders and their counsel.

The take-away is to front load as many of your desired terms (amount, price, tranche, form of transfer, participation or assignment only, interest convention, etc.) into the initial trade conversation as possible so that there are no surprises in the written trade confirmation process.

---------------------------------

Footnote #1: Procedurally, on an appeal of a motion to dismiss, the appellate court only considers the facts as presented in the appellant’s briefs and assumes those facts to be true, without taking the evidence or testimony that would be presented in a trial setting. Therefore, the facts presented in this piece, as taken from the Fifth Circuit’s opinion, are Highland’s version of the facts, and the Fifth Circuit made clear that it was not taking a position on the veracity of those facts but only considering the parties’ purely legal arguments. Id. at 204.

David J. Karp is a partner in the New York and London offices of Schulte Roth & Zabel, where his practice focuses on corporate restructuring, special situations and distressed investments, distressed mergers and acquisitions, and the bankruptcy aspects of structured finance. David leads the firm’s Distressed Debt & Claims Trading Group, which provides advice in connection with U.S., European and emerging market credit trading matters. David is an avid speaker and writer on distressed investing related issues, recently co-authoring “European Insolvency Claims Trading: Is Iceland the Paradigm?” for Butterworths Journal of International Banking and Financial Law and “Trade Risk in European Secondary Loans” for The Hedge Fund Law Report. David is an active member of the LMA, APLMA, INSOL Europe and the LSTA where he is a member of the Trade Practices and Forms Committee. Alexia Petrou and Neil Begley, associates at SRZ, assisted in the preparation of this entry.

Emerging Manager Interview Series: Tappan Street Partners

noreply@blogger.com (Hunter) — Mon, 29 Apr 2013 15:36:00 +0000

Over the past few years, I have interviewed a number of emerging hedge fund managers (sub $250 million in assets) across a variety on investing strategies. I meet some of these managers through friends or colleagues and am always fascinated by the investment thought processes each of these capital allocators bring to the table.

About a year ago I was introduced to Prasad Phatak and Chris Koranda of Tappan Street Partners while working through the valuation of an off the run distressed situation. I was immediately impressed by the depth and intelligence they brought to the conversation. After getting to know them, I thought they would be a great subject for our next emerging manager series. Enjoy the fantastic commentary below!

Talk about the background of Tappan Street. How did you guys connect?

[Chris] We’ve known each other now for about 13 years. We were in the same section—actually the same group in many cases—at the Undergraduate Business School at the University of Michigan. Incidentally it’s also the origin of the name Tappan Street Partners: 701 Tappan Street is the address for Michigan’s business school. Basically, for the first few years Prasad and I look the same on paper. We both were undergrads at UofM. Then we both went on to Blackstone, with Prasad in the Restructuring and Reorganization group and me in the M&A group. After that Prasad spent about 6 years at Eton Park in the US Fundamental Long/Short team and I spent a couple years at Perry Capital in the Healthcare group before going on to get my MBA at Stanford. During the course of looking at potential employment opportunities post MBA and finding ideas to pitch during interviews, I was finding so many attractive investment opportunities that might not make sense if you’re running many billions, like our former employers, but are great risk/reward opportunities for smaller amounts of capital and for things that don’t fit into the more rigid silos of other firms. For this reason the competition is just a lot lower in some of the special situations and small and mid-cap companies that we have focused on.

[Prasad] We had always kicked around the idea of starting something together since our time at Blackstone, and discussing some of the investments Chris was finding sparked those discussions again. In my case, I couldn’t act on these opportunities for the fund and my personal investment options were limited given my ongoing employment at a hedge fund. Ultimately, as we thought about launching a fund, we concluded that we could compound our personal savings at very high rates of return and we would also get the benefit of developing an intangible asset in our track record and brand name in the process. 100% of our liquid net worth is in the fund alongside our investors. We view this as a compounding vehicle for our savings over time and are looking to attract like-minded investors that understand our approach. Over the long haul, we view the quality of our LPs as our greatest asset.

Can you talk about your investment process? How does an idea go from being a potential investment to become a portfolio holding?

[Chris] In terms of sourcing ideas we have a pretty heavy focus on special situations and, as a result, we try to take a systematic approach to certain investment opportunities. A few of the things we emphasize: evaluate all spin-offs, all bankruptcies, all post-reorg equities, and all non-traditional securities issued in mergers. These are all categories that frequently experience forced selling and, wherever possible, we’d prefer to buy from a seller that is acting for non-economic reasons. In addition we like to look at asset sales, division shutdowns, and management changes. These sorts of actions are sometimes an indicator that the earnings power of a business is about to change, sometimes substantially. Overall, we think securities in these verticals are more likely to be mispriced due to some combination of non-economic selling and complexity, and thus our return on time / hit rate is likely to be higher as well. While we emphasize special situations, we also have a number of investments that we would deem to be fundamentally sound businesses that don’t fall into the categories above and this was our focus at our past employers. Ultimately, we are doing deep fundamental analysis on special situations, largely because we think our hit rate will be much higher over time.

[Prasad] On the process side, we start every potential investment by first focusing on the downside. In markets that seem to go up every day, we tend to think people become much more relaxed on the risks they are taking. Eventually, having a focus on the downside and not losing money goes a long way if the goal is to compound capital over long periods of time. During the process, we will obviously do the traditional blocking and tackling of reading every piece of public information we can find (Ks, Qs, transcripts, proxies, press, etc.), reading up on competitors and talking to various industry participants. We will come up with base and downside valuations on everything we look at, and both Chris and I will take independent looks at the investments we’re evaluating if it has the potential to be a position greater than 5% of AUM. We think having a second set of eyes on the analysis is valuable and results in better decisions over the long-run. Once we get comfortable that the investment is an attractive return potential for the risk we are taking, we will start to buy (or sell in the case of shorts). After that, we are constantly monitoring our positions and we think every day we should be evaluating new ideas against things that are already in the portfolio. We run a concentrated portfolio with a goal of 10-20 long positions, so it is very important that we love everything in the portfolio. We are looking for “great” ideas and not just “good”. In the absence of great ideas, we’d rather hold cash and wait for the fat pitch.

Tappan emphasizes investments with a clear catalyst in the next 12 to 24 months. What are recent examples of situations in which you invested had a clear catalyst?

[Prasad] Wherever possible, we prefer to invest in situations with a clear catalyst where our thesis will be either proven correct or incorrect. Over time, we think this reduces our correlation to broader market moves. Two investments we’ve made recently were Liberty Media and EnergySolutions. In the case of Liberty Media, the company had announced the spin-off of Starz Network for early January. We believed we were buying the shares at a discount to the net asset value remaining at Liberty Media and we were getting Starz Network for free. We believed that the spin-off of Starz would a) highlight the value of Starz to the market and b) provide a clear path for Liberty Media’s holding company discount to close. Subsequent to the spin-off of Starz, Liberty Media’s holding company discount did indeed diminish and we were able to sell our stake in Liberty Media in order to increase our exposure to Starz Network as we felt the Starz Network piece was more undervalued. Starz has appreciated over 50% from the price at which we purchased the shares post the spin-off.

On EnergySolutions, the Company was involved in an asset sale process at the end of last year that we thought would unlock value in segments that were not being appropriately valued. As it turns out, a private equity bidder emerged for the entire Company in early January, albeit at a price that we believed undervalued the company for a variety of reasons, not least of which was an issue surrounding the company’s restricted cash balance. We have expressed our displeasure with the deal price in two letters we sent to the Board of Directors (both of which are public). More recently, the bidder has increased their offer price, although we still believe it undervalues the assets of the company.

Both portfolio managers at TSP have experience both on the advisory side (either restructuring or M&A) and the investing side (with either hedge funds or private equity). How has such background helped shape the investment model for TSP?

[Chris] We’ve both been fortunate to have received training at larger organizations on both the advisory side and the principal side and we leverage this training frequently. Our experience on the advisory side has certainly helped inform our current investment process in a number of ways. The Blackstone analyst experience was a very rigorous one and we gained a strong grounding in fundamental analysis, particularly the analytical side of things. Prasad’s experience navigating the bankruptcy process on the advisory side obviously provided him with an in-depth knowledge of bankruptcy law and process—as well as industry contacts—and we leverage his experience and contacts in every distressed investment we make. My experience in M&A certainly provided helpful context around how decisions on major corporate actions are made by management and boards. I think having been involved in these sorts of processes in the past also helps serve as a constant reminder that major corporate actions don’t just sort of materialize—they result from the decisions and actions of a few individuals and it’s important to think through the incentives of those individuals.

On the principal side both of us were again fortunate to have worked with and learned from some incredibly talented people. Beyond that training, though, we had a chance to witness firsthand the type of opportunities that might not make as much sense for larger funds. We’ve tried to structure our fund to capitalize on some of these opportunities where competition is not as fierce. Conversely, we also avoid some other segments where we may see interesting ideas but where we know that funds with significantly more resources have an advantage (e.g., merger arbitrage, activism where a proxy contest is necessary). Our experience over the past 18 months managing Tappan Street has been invaluable in shaping the investment approach going forward. There is no real substitute to developing your own track record and managing a portfolio independently.

How do you think so much of the market became focused on short-term performance and what are you able to do to take advantage with a time-arbitrage strategy?

[Prasad] It isn’t that people wouldn’t prefer to—or don’t understand how to—think long-term when evaluating investments, it is simply that we think many funds have put in place structural barriers that prevent them from pursuing that objective. Such structural impediments include having to manage to monthly liquidity and marketing low volatility returns as opposed to returns generated with a low risk of capital loss. From an investor’s standpoint we also think that many funds are opaque. As a result, when a fund suffers from poor performance it’s difficult to have the confidence as an investor to stick with that manager. As a result of these structural impediments we think a lot of the market has become focused on what works next month or next quarter. We think that if you have the ability to look out over a multi-year period, you will find a lot of stocks that have been left for dead because more and more investors have begun to ignore things that won’t work in the short-term. As we said earlier, we think our most valuable asset over the long-run will be our limited partners. We try to be very transparent with our investors so that they understand our strategy, specific investments we hold, and the opportunity set we see at a given time. We hope this level of transparency gives our investors the confidence to remain with us for many years.

You have spent significant time with distressed debt investing. Are you seeing opportunities out there?

[Prasad] Right now, we’re not finding all that much in distressed. There are many distressed funds and few attractive distressed situations in our view. Companies are able to refinance nearly anything at the moment and rates are quite low. So broadly speaking there is very little for us to do in distressed right now, and apart from two post-reorg equities that we hold we have no exposure to distressed at the moment. With that said, there is certainly evidence that lenders are relaxing underwriting standards and there are companies taking on leverage beyond levels that are prudent. It’s a question of when, not if, the distressed cycle will turn again and we are excited by the prospects of participating when that time arrives. This is also why we think it is important that we have a broad mandate. If we were limited to only distressed investments, we think we could potentially be forced into investments that don’t adequately compensate us for the risks being taken.

[Chris] On a more granular level, we think of the distressed opportunity set in three buckets: performing, non-performing (i.e., bankrupt), and post-reorganization. On a one-off basis there will always be a few opportunities in performing distressed credit. For instance, we were able to purchase EnergySolutions 10.75% Senior Notes in the mid 80s last year as a reduction in guidance and a change in the management team caused a significant dislocation in both the equity and debt of the company. We were ultimately able to exit those notes at 103 when a private equity buyer made an offer for the company. At this point in the cycle, though, situations like ES senior notes are truly one-off. Finally, on a bankruptcy and post-reorganization basis there is very little recent supply, and we tend to think businesses that file for bankruptcy in more rosy economic environments have fundamental business problems and not capital structure problems. We think the latter make for better post-reorg equity opportunities.

What is the ideal size fund for your type of strategy and why does that help you compete with funds of different size?

[Prasad] We think our sweet spot will be in small and mid-cap special situations over time, although we are certainly not against larger capitalization companies if we see value. Based on the opportunities that we’ve seen so far, we think we can manage several hundred million in assets without changing our strategy or opportunity set. But the opportunity set will always be the driver. We never want to grow to be too large, or grow too quickly because we think that often can jeopardize the investment process and the investment universe potentially overnight. We think that this size allows us to play in situations that can’t move the needle for larger funds. Our biggest winner from last year, Marriott Vacations Worldwide (VAC), is a perfect example. The Company was spun out of Marriott, a $10bn Company, with a market capitalization of approximately $600mm. A lot of interested players may not have been able to look because it was too small, and certainly the existing shareholder base received what amounted to a small position in a new business. VAC is up roughly 150% since the spinoff in late 2011.

Why would you say your risk profile is substantially lower than the general equity market?

[Chris] On an individual company level I think there are a number of characteristics that we look for in investments that makes them lower risk versus the broader market. Our emphasis on downside means that many of the investments we favor trade at a discount to net asset value or the value one would receive in an orderly liquidation. Other investments we make trade at high current free cash flow yields and positive investment results are not predicated on rosy growth projections. Wherever possible we like to invest in situations where we get paid to wait, either in the form of a dividend or a company buying its own shares at what we view to be attractive prices. We prefer companies that use leverage prudently or hold net cash positions. Finally, we prefer investments with a catalyst to close what we view to be the gap between price and value, or investments where we take idiosyncratic risk as opposed to market risk.

[Prasad] From a portfolio perspective I’d add a few things. First of all, while our results to date have not been very volatile, we do not believe volatility is the appropriate measure of risk. We think the risk of permanent capital loss is a much better way of thinking about risk when making investments. Assembling a portfolio of companies that have the characteristics Chris mentioned substantially lowers our risk of permanent capital loss. Our preference for investments with a catalyst has also limited our correlation to broader market moves. In addition, we also reduce our net exposure through our short positions. While we aren’t suggesting that you can’t lose money on shorts, we do believe they will help insulate the portfolio during market dislocations; moreover, we think there is a lot of opportunity for a fund of our size to generate returns on shorts even absent market selloffs.

Can you describe some of your best upcoming investment ideas?

One new special situation investment that we are excited about is a company called Harvard Biosciences (HBIO). The company is a niche provider of life science research tools, selling primarily to researchers at universities and pharmaceutical companies. Additionally, the company has a regenerative medicine business, Harvard Apparatus, which was started in the past two years and makes medical devices used to repair damaged organs and grow organs outside of the body for transplant.

For the past several years the increasing R&D spend on the Harvard Apparatus (HART) segment has masked the underlying profitability—and value—of the life science research tools segment, and at today’s price you are able to purchase the entire business at a discount to the value of the life science research tools business alone. We believe a spin-off of the company’s HART division is likely and will serve as the catalyst for investors to properly value the two segments. In December 2012, HBIO announced its intent to separate its money-losing regenerative medicine business, HART, from the profitable life science research tools segment. Originally, the Company wanted to raise capital for the regenerative medicine business by selling 20% of the HART segment in an IPO, and then spinning off the remaining 80% of the business within 3 months. While the company originally intended to IPO the business at an implied valuation of $100mm, we think the market during the IPO process was closer to $50-$60mm given the business is still developmental and burns roughly $6.5mm in cash per year. More importantly, for our purposes, we ascribe zero value to the regenerative medicine piece, largely because we do not think our core competency is in biotech or emerging device investing. As far as we are concerned, we are better off valuing only the parent company (HBIO), which generates roughly $10mm per year in standalone free cash flow and 38 cents in EPS. Under reasonable valuation scenarios for the parent business, we concluded that investors are getting HART shares for free. Given the sequencing of an IPO first and spin-off later, some prospective investors in the HART IPO were wary of the overhang from the subsequent spin while others elected instead to purchase HBIO and gain exposure to HART at a discount to the IPO price. Ultimately, this dynamic put downward pressure on the IPO valuation and resulted in the Company deciding not to proceed with the IPO. As you can imagine, news of pulling the IPO caused confusion in the market regarding the Company’s intent to separate the two segments and sent the shares down roughly 20% over the last month. However, we think this provides patient investors an attractive entry point. We still believe that the Company will separate the two businesses. The issue was not the company’s intention to separate the two businesses, but rather the sequencing of an initial IPO for HART followed by the spin-off of the remaining stake from HBIO that made the transaction difficult.

Briefly, we think the core research tools business is a high quality business. They compete in many niche products that individually are not large enough to warrant material competition from the larger players in the market. In fact, Thermo Fisher and GE Healthcare both distribute products for HBIO instead of competing directly in some areas, which we think is validation that they have a good set of niche products and a strong customer base. The industry is also characterized by relatively infrequent switching as most researchers get used to a particular brand name for both consumables and hardware and continue to order predictably. The business requires very little capital to grow organically. Additionally, HBIO has been an aggressive buyer of other businesses over time. By serving as the source of liquidity for even smaller niche providers of tools businesses, they are able to purchase companies at 4x – 6x EBITDA and the transactions are immediately accretive. These are companies that have up to $10mm in annual sales, so they are immaterial to the major players, but they can really make a difference to a company like HBIO, both in terms of savings on the cost side and synergies on the revenue side as HBIO leverages its distribution network to sell the acquired products. Over the long-run, HBIO has grown its tools business revenue and EPS at a mid-teens and low double digit rate on average, respectively. In the short-term, there might be some pressure from sequestration cuts, but our research indicates research grants tend to be well insulated over the long-run and are one of the few things that both sides of Congress agree on.

The other things worth mentioning are the management incentives. The management team of HBIO owns 14% of the shares outstanding and repurchased almost 10% of the company in 2010 at attractive prices. The management team has been with the business since 1996 when it purchased the company with a group of investors and has been operating and acquiring other pieces ever since. We also think the failed IPO has some informational content. We believe the market value being ascribed to HART was $50-$60mm, and the company was unwilling to sell shares at that price. Also interesting is the fact that the company’s current President, who has been with the company since 1996, will be moving on to the HART business and was going to receive 6% of the equity in HART. We believe it is a strong signal that he is willing to leave the more stable tools business and have a large amount of equity compensation in HART, which on the surface appears to be much more speculative. Again, for our purposes we value HART at $0 so this gives us confidence that we are likely being conservative.

From a valuation perspective, the current stock price implies a multiple of 12.5x EPS for the research tools business alone (after removing losses at HART). However, for a business of this quality and growth potential, we believe a higher valuation is justifiable, and indeed tools businesses trade in the high teens to low 20s from a P/E perspective. LIFE was just acquired by TMO at an implied multiple of ~19.1x 2012 EPS. For what it is worth, historically HBIO has also traded at multiples in the high teens on a P/E basis. Using a P/E multiple of 17.5x 2012 EPS, HBIO would be worth over 39% more than where it is today, ascribing no value for HART. We think investors today are incorrectly capitalizing the losses at HART, implying negative value for the business. Because stocks can’t trade at negative prices, we feel pretty good about the situation and unlocking value post a potential spin-off. A $50mm valuation for HART would result in ~35% upside assuming the tools business trades at 12.5x EPS, as it does today. We think after a spin-off, people will more clearly be able to see the value in the research tools business which is currently obscured by losses at HART. Additionally, we suspect the company trades at a depressed price today because of uncertainty post the pulled IPO, but we are confident that they still intend to spin off the HART business, and we like how the incentives are aligned with shareholders. Taken together, we think the spin has the potential to unlock almost 75% upside in HBIO stock.

Finally, longer-term, just as HBIO is the source of liquidity for smaller tools businesses, we think it would make sense if HBIO’s research tools business was acquired in the future. The CEO is 74 years old, and we suspect he will continue to build through acquisitions and improve operations until the company is eventually acquired. We think the business can get to $125mm - $150mm in revenue over the next 2 – 3 years from roughly $110mm today and a buyer doesn’t need to keep much of the corporate overhead. At margins in the high teens the numbers start to look pretty good relative to the current market cap.

For more information on Tappan Street, you can visit their website at: http://tappanst.com/

Reorg Research Weekly Recap

noreply@blogger.com (Hunter) — Tue, 16 Apr 2013 14:06:00 +0000

A few times a month, I will try to post the Reorg Research Weekly Recap which summarizes and lays out for subscribers / non subscribers a number of things we are working on throughout the week. These could be stories, research reports, tear sheets, models, etc. Feedback for the site has been unanimously positive: whether it be the way Reorg Research is changing the way people consume and follow bankruptcy dockets or our best-in-class intelligence pieces that break key developments in bankruptcy cases faster than other news services or what I think is the most powerful search ever built for bankruptcy dockets. I couldn't be happier with the service we are providing our customer base.

Here's a URL for the Reorg Research Weekly Recap. And see below for the full document. Enjoy!

Reorg Research Weekly Recap - Week of April 8, 2013
Two notable chapter 11 filings commenced over the past week, both expected, starting with CEDC last Sunday as a prepackaged scenario and followed shortly by Rotech as a prearranged deal. Significant maneuvering took place in the restructuring progress for GateHouse and Cengage, while judges for the respective bankruptcy proceedings of Residential Capital and AMR made or outlined decisions on executive compensations. School Specialty’s declaration confirmation was postponed, and with it so too was stalled the decision on the onerous make whole payment for its term loan lender. Meanwhile two other restructuring scenarios, for Maxcom and Exide, arose with some urgency over the week though their paths towards U.S. Bankruptcy courts are less than clear, according to reporting on Reorg Research.

Central European Distribution Corporation

CEDC Files Prepack; Alfa Bank Providing $100M Bankruptcy Financing
Large majorities of the holders of the 2013 and 2016 notes both voted for the plan.

'Imperative' CEDC Receive Plan Confirmation Date by May: Support Declaration
The additional $100 million unsecured financing from Alfa Bank was lined up just recently, according to CEDC's court documents.

CEDC Convert Ad Hoc Holders Disclosed; Lazard Largest Member
The 2019 disclosure by CEDC reveals a group of hedge fund and institutional investors.

Judge Approves CEDC First Day Motions, Supporting Speedy Process
The $100 million financing from Alpha Bank is in fact a revolver.

Rotech Healthcare Inc.

Rotech Files Voluntary Petition; Barclays is FA
Rotech plans to complete its plan within three to five months.

CapRe Joins Silver Point to Backstop Rotech DIP
Rotech will be paying at least 10.5% interest on its DIP facility.

Rotech First Day Motions Approved
The only possibility in delaying the restructuring process is the ongoing government investigation, according to attorneys for the debtor.

Gatehouse Media

GateHouse Lenders Await Restructuring Offer that Includes Debt
GateHouse had approached larger holders only with an informal offer including just cash and equity.

GateHouse Dislcoses Special Committee Comprises NCL CEO
The CEO of Norwegian Cruise Line has been an independent director to GateHouse prior to special committee appointment.

Patriot Coal Corporation

Aurelius/ Knighthead to be Heard at April 23 Hearing, Despite Debtor's Objection
Despite Patriot's objections, Judge Surratt-States approved Aurelius and Knighthead's request to be heard at upcoming
hearing.

UMWA Responds to Aurelius and Knighthead
UMWA filed a response to the Aurelius and Knighthead motion to appoint a Chapter 11 trustee in the case

Patriot Offers Compromise on Slashing Retiree Health Benefits
The new proposals from Patriot Coal get rid of the unsecured claim and offer equity instead.

School Specialty, Inc.

Burden of Proof Not on Us: School Specialty's UCC
The committee's counsel addresses a court case referenced by Bayside in the final minutes of Friday's hearing.

Residential Capital, LLC

ResCap Judge Approves Executive Packages
The judge overseeing Residential Capital's bankruptcy approves the compensation packages for eight executives and senior managers.

Rescap Official Committe of Unsecured Creditors Ask to Prosecute Ally Financial
The Official Committee of Unsecured Creditors in Rescap have asked for standing to prosecute and settle claims against Ally Financial

K-V Discovery Solutions, Inc., et al.

Multiple Objections, Including from Disgraced Ex-CEO, Filed to K-V Pharma’s Disclosure Statement
Ex-CEO motion says that K-V Pharma has stopped paying his legal fees since filing for bankruptcy.

UCC Objects to K-V Pharma's Propsed Disclosure Statement
K-V Pharma's official committee of unsecured creditors object to the debtor's proposed disclosure statement on grounds of informational deficiencies.

Revel AC, Inc.
Revel Motions to Approve Settlement with AC to Save $52.8M in Property Taxes
Dispute arose from the 2012 valuation of the property on which Revel was to pay taxes.

AMR Corporation

AMR Judge on Rejecting $20M Payment for Horton: What Congress Aimed to Prevent
Judge Lane details why 503(c) of the bankruptcy code prohibits the severance payment to Horton.

AMF Bowling Worldwide, Inc.

AMF Bowling Judge Approves UCC's Discovery Motion
AMF Bowling now has to produce information surrounding the liquidation analysis in its amended bankruptcy plan filed last week.

RDA Holding Co.

Court to Approve RDA Sales of Foreign Interests; Amended Plan Issues Raised
An attorney for the unsecured creditors committee of Reader's Digest indicated dissatisfaction with aspect of amended plan.

Powerwave Technologies, Inc.

Powerwave Gets Approval to Extend Sales Process, $5M more DIP
Powerwave attorneys had filed an emergency motion to shorten the time needed to get this approval.

Lehman Brothers Holdings Inc.

Mount Kellett Sells More than $70 Million of Lehman Claims
Through four different trades, Mount Kellett sold more than $70 million of LBT claims. Cyrus Capital ultimate buyers of some claims.

TXU (Aurelius Capital Master, Ltd. et al v. Acosta et al)

Aurelius Agrees to Extend Deadline for Response from TXU
Monday, May 13th has been set for defendants to respond to Aurelius' allegations.

Ambac Financial Group, Inc.

Ambac Finalizes Settlement on Tax and NOL Issues with IRS. Amends Plan to Include Section 166 Provisions
Late Monday, Ambac filed details on the settlement with the IRS and an amendment on Section 166 NOLs.

Exide Technologies

Exide Deal with Converts More Likely than Bankruptcy Risk, Barring Unforeseen Events
Bonds of auto battery recycler Exide have been heavily traded over the past week, but not at levels that contemplate insolvency.

Maxcom Telecomunicaciones

Market Unfazed by Maxcom BK Warning
Debt and equity levels remained steady despite an explicit bankruptcy warning by the Mexican telecom concern.

The communication has been prepared by Reorg Research, Inc. The information contained in this communication has been obtained from sources that Reorg Research, Inc believes are reliable but we do not represent or warrant that it is accurate or complete. Neither Reorg Research, Inc, nor any affiliate, nor any of their respective officers, directors, partners, or employees accepts any liability whatsoever for any direct or consequential loss arising from any use of this communication or its contents.

Distressed Debt: The Greatest Thing Since Sliced Bread

noreply@blogger.com (Hunter) — Thu, 04 Apr 2013 19:51:00 +0000

Last week I gave a presentation to MBA student at Wharton for the Restructuring and Distressed Debt Club. I've embedded the presentation below. Enjoy!

Distressed Debt Presentation by DistressedDebtInvest

Top Filings on Reorg Research

noreply@blogger.com (Hunter) — Fri, 22 Mar 2013 14:23:00 +0000

On Reorg Research, our subscribers are following over 100 bankruptcy dockets seamlessly and painlessly, with docket updates sent to them via email when a new item hits the bankruptcy court. Some funds are following just one or two dockets, and others are following as many as possible. Of particular note, our technology has the ability to allow certain firms to be the only client able to see a particular docket. If you find an off the run docket and request it, you will be the only firm getting docket updates and seeing that case load in near real time.

With all that said, one thing that I will do every now and then, is share the most viewed dockets on Reorg Research for the past week. Most of these are from the large dockets which many funds are following on the site. Enjoy!

Exhibit(s) Statement of the Official Committee of Unsecured Creditors of Overseas Shipholding Group, Inc., et al. in Support of the Debtors' Compensation Motions Filed by Official Committee of Unsecured Creditors. (OSG - Docket #1072)

Application to Employ/Retain Bradley I. Dietz as Chief Restructuring Officer Filed by Powerwave Technologies, Inc.. (Powerwave - Docket #271)

Exhibit(s) // Notice of (I) Entry into Stalking Horse Agreement and (II) Potential Assumption and Assignment of Certain Executory Contracts and Unexpired Leases in Connection with the Sale of the Debtors' Assets Filed by Penson Worldwide, Inc.. (Penson Docket #321)

Disclosure Statement // Notice of Filing of Disclosure Statements Filed by SuperMedia Inc. (SuperMedia Docket #17)

Declaration /Statement of Working Group of Senior Lenders Under $1.5 Billion Credit Facility In Support of the Debtors' Charter Rejections Filed by Working Group of Senior Lenders Under the 2006 Credit Agreement.(OSG Docket #1038)

Debtor-In-Possession Monthly Operating Report for Filing Period January 1, 2013 through January 31, 2013 Filed by Overseas Shipholding Group, Inc. (OSG Docket #1030)

Disclosure Statement for Debtors' Joint Plan Under Chapter 11 of the Bankruptcy Code. Filed by School Specialty, Inc.(School Specialty Docket #600)

And the most viewed filing from the past week:

Verified Statement of Kasowitz, Benson, Torres & Friedman LLP Pursuant to Federal Rule of Bankruptcy Procedure 2019 filed by Daniel A. Fliman on behalf of George Karfunkel, Marneu Holding Co., Moses Marx, Momar Corporation, United Equities Commodities Company.

This filing, shows that Moses Marx, somewhat of a legend in the distressed world, and George Karfunkel, notable investor and board member of Amtrust Financial (and former owner of the American Stock Transfer & Trust Company, LLC) bought a significant position in EK's 2017 and 2018 notes (over $250M notional worth of bonds). It remains to be seen if their presence will change the direction of the case.

Quick Update: TMA Event Tonight (3/19)

noreply@blogger.com (Hunter) — Tue, 19 Mar 2013 19:00:00 +0000

For all those involved in the Turnaround Management Association, I will be at the TMA Event tonight (http://www.turnaround.org/Events/Calendar.aspx?objectID=2801) - if you will be around or want to meet up, shoot me an email: hunter [at] distressed-debt-investing [dot] com.

Hope to see you there!

"And then things just get crazy."

noreply@blogger.com (Hunter) — Thu, 14 Mar 2013 16:53:00 +0000

Yesterday, Oaktree Capital's Founder & Chairman Howard Mark, released a letter to clients entitled "The Outlook for Equities." You can find the document embedded below.

Howard Marks the Outlook for Equities - March 2013 by Devon Shire

It's a fascinating read that I suggest all market participants take the time to study. Marks goes on to note one of his "first of the time-worn pearls of wisdom that contributed so much to my education as an investor. It described the three stages of a bull market:

the first, when a few forward-looking people begin to believe things will get better
the second, when most investors realize improvement is actually underway, and
the third, when everyone's sure things will get better forever."

This takeaway from the letter is below:

"So now we have a somewhat improved fundamental environment, a generally more optimistic group of investors, and stock prices that are a fair bit higher. No one should say the likelihood of improvement is entirely unrecognized today, as would have to be the case for this to still be stage one. I think the existence of improvement is generally accepted, but that acceptance is neither extremely widespread nor terribly overdone. Thus I’d say we’re somewhere in the first half of stage two. Pessimists no longer control market prices, but certainly neither have carefree optimists taken over"

And a prognostication on the outlook for equities:

"But I like to enumerate the pros and cons and try to put them in perspective, as much as I like skewering excessive generalizations and pat pronouncements.

Of course, doing that isn't enough. I feel I should come down on one side or the other. Thus I’m quite comfortable imagining a few years of equity performance that provide a pleasant surprise relative to what I think is the prevailing expectation of 6% or so per year.

And if I'm wrong - if there is no rotation from fixed income to stocks – I'm not that worried that I'll end up with great regret over having failed to pile into T-bills yielding zero or the 10-year note guaranteeing 2.0%. When attitudes are moderate and allocations are low, like I feel is currently the case with equities, there‟s little likelihood of investing being a big mistake. And when interest rates are among the lowest in history, it would take deflation, depression or calamity to make failing to invest in Treasurys and high grade bonds a serious omission."

My grandfather was a barber for his entire life. He started cutting hair when he was 15 years old with some of his older brothers to pay for food and clothing for their younger siblings three states away. His knowledge of the market ends with dollar cost averaging index funds in his IRA his entire life.

In 1999, he asked me about a particular stock. A dot com stock. A customer had given him a tip on a high flying tech start-up and he asked me if I should invest in it. My grandfather, at this point, had lived over 70 years of his life and never once invested in an individual security and now he wanted to invest in a company at infinity multipe of sales because...you know, there were no sales.

I told him it was a terrible idea and he shouldn't do it. He did it and plowed $5,000 or to him 250 haircuts into the stock.

The stock went to zero in 3 years.

I bring this story up to give reference to the current market place. We are no no no nowhere near that sort of environment but the tide is shifting. Many analysts I talk to at value based hedge funds lament that after a stellar January of the year, they are all under performing growth funds. An analyst friend of mine notes that one of the best market timers out there, Chase Coleman of Tiger Global, has been plowing money into high multiple, high growth tech stocks. Yesterday, a friend sent me an email:

"280 stocks hitting 52 week highs, 3 hitting the lows"

I often talk about the pendulum of risk / return:

When the world is extremely bearish and you can buy most things indiscriminately for a sizable gain. At these times, your friends call you a lunatic / maniac and are one of the few buyers out there (November 2008 is the prime example)
When the world is bearish, there are more buyers, and risk assets will still produce a better than commiserate return for the risk underwritten
When markets are fairly valued and the bulls and bears are equally on the side of the fence. At this point, investors are taking return for the exact amount of risk
When markets and the world are bullish, assets are becoming fully valued, and really the best strategy to employ here are event driven ones like merger arbitrage or liquidations (LBHI) that remove market risk from the equation. Here you start to see short squeezes
When markets are fully valued, everyone is a buyers (except for you hopefully), and you are playing with fire by buying any risk asset

The problem with this is that the end of stage 4-stage 5 is painfully parabolic. As I like to say it "And then things just get crazy."

Things here is a euphemism for market behaviors. My grandfather buying stock in 1999 is a crazy thing. When CLF traded to 120 in June 2008. When new home construction was increasingly exponentially. Etc.

The scary part about being a value investor, and many of the great value investors testify this from the 1999-2000 period (when Julian Robertson packed it up), is those parabolic movements against them are painful from a portfolio and a business perspective. Its ok to underperform some months here and there by a reasonable margin, but when you are underperforming by 300-500 bps on a monthly basis when growth is the go - it hurts.

Value investors are always early. The reason is that the herd that follows us lags in such a greater size relative to the intelligence ones. Intelligent investors get out in month 1, and then 200 investors get out in month 6. In those interim months, there are still people GETTING IN and frankly annoying value investors who scratch their head and say "What in God's name are people thinking out there?"

Is credit again at the "And then things just get crazy." stage? It's probably the crazies thing out there right now but we've yet to see that parabolic movement where 95% those that are buying knows there's a strong chance this will end badly. The huge M&A push has yet to happen despite big piles of cash at private equity funds. 2nd lien dividend deals are out there (more so holdco dividend deals) but only for high quality borrowers. Growth is outperforming, but only in the last 6 weeks.

Excesses will continue and then they will go parabolic as more people than you thought possible pile into that excitement. Luckily my grandfather hasn't asked me yet if he should buy high yield bonds...

Reorg Research Job Posting - Bankruptcy Reporter

noreply@blogger.com (Hunter) — Fri, 08 Mar 2013 21:53:00 +0000

As some of you saw, Reorg Research was publicly announced earlier this week. It's a project I've been working on for over a year and its been amazing seeing the response from the distressed community. In addition to a revolutionary technology and data offering that is changing the way distressed debt research is done on a daily basis (whether it be hedge fund analysts and PMs, investment bankers, desk analysts, or law associates), Reorg Research, in the future, will be offering an incredibly insightful and timely intelligence product on distressed situations, in and out of the court. This isn't just the information you find from other providers of distressed news. Instead, I plan to offer something completely unique in the industry that will be enormously beneficial to our subscriber base.

To that end, I am looking for one or two especially talented bankruptcy reporters to join the company.

Job Description
This is an opportunity for an enterprising reporter to get in on the ground floor of a financial media startup already with a large following and unique position within the marketplace. The successful candidate will work alongside a mix of distressed analysts and journalists with years of experience reporting and working in the restructuring. We’re looking for a dogged reporter with proven skills and working knowledge of the bankruptcy space.

Most of the work will include hitting the phone to develop and maintain relationships with professionals across various business disciplines. Significant time will be spent following the bankruptcy docket of companies in your coverage and reporting/synthesizing bankruptcy filings alongside financial and legal professionals to determine trading and process implications. It will also entail listening in to court cases and reporting in real-time on contentious and dramatic bankruptcy proceedings.This position is perfect for a journalists looking to move to a research analyst role.

This is a full-time salaried position with benefits and definite room for advancement as the company grows.

Desired Skills & Experience
Required experience includes:

At least two years experience working as a reporter covering distressed debt or bankruptcy
Experience analyzing bankruptcy filings to uncover insights not often reported in general press
Excellent attention to detail and accuracy
Ability to manage multiple tasks and meet deadlines
Self starter with strong organizational skills
Interest in business/legal issues

To apply please send you resume and writing samples to: recruiting@reorg-research.com

In the future, all job postings for Reorg Reseach can be found here: http://www.distressed-debt-investing.com/p/careers.html

Oncure Exploring Options Leading up to May Coupon

noreply@blogger.com (Hunter) — Fri, 08 Mar 2013 18:18:00 +0000

Cancer treatment center operator Oncure Medical is weighing its options including a sale of the company, a sale of certain assets, or a debt restructuring leading up to a May interest payment, according to sources. Jefferies is advising the company while GLC Advisors has been representing bondholders since late last year to work on a solution, according to multiple sources.

Professionals following the credit say bondholders could get better value in sale of the company, though it’s uncertain which strategic is poised to make such an acquisition. A debt-for-equity restructuring could also be a solution if a buyer does not come forward, sources have speculated.

Oncure’s distressed issue of $210 million issue of 11.75% notes last traded at 48 cents on the dollar, according to trade data, and has been under pressure since 12 months ago, when the market started to digest the fact reimbursement cuts that were coming for radiation oncology. The bonds were trading in the mid-80s early 2012, but by March were in the 60s. Later on July 6, Centers for Medicare and Medicaid Services proposed an aggregate payment reduction of 15% for radiation oncology. The eventual cut effective Jan. 1 was 7%, according to the CMS report.

Oncure signed a supplemental indenture so they don’t have to publicly report, as the company hasn’t put out a quarterly report since August for its six months ended June 30.

Moody’s withdrew its rating Jan. 28 when the notes and corporate rating was a Caa3 and high probability of default. On Sept. 20, Standard & Poor's Ratings withdrew its rating, including it B- corporate at the company’s request.

Even by the time of its last financial disclosure, Oncure’s losses were increasing, with a $5.8 million loss for the six months ended June 30, versus $4 million the same period year prior.
OnCure, a subsidiary of Oncure Holdings, operates radiation oncology treatment centers for cancer patients at 37 centers throughout California, Florida and Indiana.

The Englewood, Co.-based OnCure Medical completed the offering of secured notes via Jefferies in 2010. The Privately-held company is owned by Genstar Capital, Ares Management, Caisse de Depot and management. - Max Frumes

Update: Distressed Debt News: Revel to File for Chapter 11 in The Last Two Weeks of the Month

noreply@blogger.com (Hunter) — Fri, 08 Mar 2013 00:31:00 +0000

Second Update: Bloomberg reports that Revel will file a pre-arranged bankruptcy in late two weeks of the month.

Update : Sources close to the company have told Distressed Debt Investing the filing timeline is still on or before March 15th. We will be providing some analysis on the valuation of the bank debt over the weekend.

Distressed Debt investing originally reported that Distressed casino operator Revel Entertainment is set to file for Ch. 11 protection within the next 24 to 48 hours, according to two sources familiar with the matter. The company announced Feb. 20 part of its restructuring support agreement with lenders required it to commence Ch. 11 proceedings on or before March 15, but has been able to complete the process a week in advance of the final deadline.

Revel disclosed last night a last-minute amendment to its credit agreement for a new required reserve amount associated with loans used to complete certain capital expenditures and to change some minimum liquidity thresholds.

The change was likely in order to ensure dissident holders could not claim there is a default, as certain holders in the term loan and delayed-draw facilities were not happy with the plan, according to sources.

Revel’s main term loan debt was last quoted in the 50/52 context, unchanged from Tuesday, according to a source. As Reorg Research reported on Tuesday, meaningful blocks of Revel Entertainment’s bank loan traded hands recently, with the last trades at 49 – a jump from 40 last week, according to sources, on a handful of developments leading up to the company’s formal Chapter 11 filing. One seller even tried to come to market as high as 54, according to sources.

As the company mentioned in its RSA, the restructuring details include:

A consensual pre-packaged Chapter 11 filing
Reduction in debt load by over $1 billion through an exchange of debt for equity
Certain of Revel’s lenders will provide approximately $250 million in debtor-in-possession financing, approximately $45 million of which constitutes new money commitments and approximately $205 million of which constitutes prepetition debt
Revel to continue normal business operations and honor obligations in the ordinary course of business

Lenders signed onto that agreement include funds of Capital Research, JP Morgan, Wells Fargo and Canyon Capital. The other biggest holders in the debt have been a mix of institutional investors and funds including Franklin Resources, Chatham Capital and Oppenheimer, sources said.

Revel appointed Alvarez & Marsal’s Dennis Stogsdill to serve as CRO, according to a Feb. 28 announcement.

Revel also is getting financial advice from Moelis and Kirkland & Ellis in connection with the restructuring; as well as Brown Rudnick as special counsel and Cooper Levinson as gaming counsel.

Revel’s $850 million term loan due 2017, at L+750 with a 1.5% LIBOR floor, was put in place via JP Morgan in February 2011 to back development. Then in the spring it added a $50 million delayed-draw term loan to and in August increased its revolving credit to $100 million. The $125 million rescue facility got priority over the debt already in place via an amendment to the credit facility, which included a $25 million increase to the revolver.

- Max Frumes

Distressed Debt News: McGraw-Hill Financing Creates Company at Different Comp, Cengage-Watchers Note

noreply@blogger.com (Hunter) — Wed, 06 Mar 2013 19:01:00 +0000

Details about the upcoming financing for McGraw-Hill Education’s buyout by Apollo Global Management could place pressure on Cengage’s capital structure, according to sources.

The financing, which consists of a $1 billion bond, a $560 million term loan and a $240 million revolver – and now $950 million in equity – now completely excludes the K-12 business, according to sources. There is no claim on that business, multiple sources said, and also the purchase price will solely be based on the higher education business. The pricing on the TL is L+650-800 with a 1.25% LIBOR floor and a 98 OID, and the revolver has a 99 OID, according to details presented on the call.

The K-12 portion will have its own cap structure, according to sources that were on the bank meeting call yesterday, which might be some asset-backed revolver, and new investors could possibly purchase equity in that separate business along with Apollo.

Cengage was mentioned frequently on the bank call from a competition standpoint, though there was nothing explicitly mentioned about any partnership or acquisition that could happen with the businesses - and idea debt investors have floated because Apollo also owns a portion of Cengage’s 12% notes. Cengage’s fate remains closely followed by distressed debt investors, and not without some head-scratching of late. The company’s bank debt took a dive prior to earnings being released as market participants feared poor results for the quarter ending Dec. 31. And those results were indeed poor as the company disclosed decreasing cash and cash equivalents of $33.5 million as of Dec. 31, down from $137 million at the same point year-prior, and adjusted EBITDA of $145.1 million for quarter, down 17% compared with the same quarter year-prior.

Yet some of the developments were positive, which resulted in a relief rally in both the bank debt and 144A paper. Shortly after the Wall Street Journal reported last week that the company was going to hire – but had not yet hired – Alvarez & Marsal for restructuring options.

Financial sponsors Apax Partners have been snapping up the company’s first-lien debt, the company disclosed in its latest results: during the “three and six months ended December 31, 2012, funds advised by Apax that had previously invested in our equity made substantial purchases of our outstanding debt at a discount,” according to the note. But it’s not certain if Apax has been doing this in order to retain control in an in-court or out-of-court restructuring.

Apax, along with OMERS, purchased Cengage in July 2007 for $7.3 billion from Thomson Reuters, a deal that included about $5.6 billion in debt. Yet the owners have not been able to make any money on the acquisition except management fees, not being able to take out a dividend since that time.

It appeared the backers were trying to extend their optionality in July, when JP Morgan ran an exchange for Cengage in a deal privately negotiated between the company and some of the larger notholders including Apollo. The exchange put in new 12% 144A secured notes due 2019, effectively subordinating the remaining 10.5% notes due 2015, and leaving the company with no ability under its senior secured leverage ratio to incur any additional first- or second-lien debt. Sources at the time noted those who got left out of the exchange were left with less valuable debt. This allowed Apax to keep their options open to address the remaining maturities while hoping for an improvement. However, since that improvement did not materialize, both notes have become severely discounted with the 10.5% notes quoted in the 23 context and the 12% notes at 33.5.

The non-extended term loan was last quoted in a 78/79 context according to sources, while the extended portion is in the low to mid-70s.

The cap structure includes $1.527 billion on the 2014 term loan at L+225, $1.29 billion on the extended portion due 2017 at L+550; $551.2 million on the incremental term loan; $725 million in 11.5% senior secured First Lien Notes due 2020 725 million, $710 million in 12% Senior Secured Second Lien Notes due 2019, $328.8 million in 10.5% unsecured notes due 2015; $132 million in 13.25% subordinated discount notes due 2015; and $66.2 million 13.75% PIK notes due 2015 for a total of $5.36 billion, as of Dec. 31, according to the company.

Gatehouse Media 10K Filing Set for Tomorrow to Answer Questions

noreply@blogger.com (Hunter) — Wed, 06 Mar 2013 00:34:00 +0000

Gatehouse Media management has been giving indications that “going concern” language is unlikely in the 10K set to be filed tomorrow, according to sources. If so, investors in deeply discounted $1.18 billion in bank debt may have to wait another year for a trigger to get return in a restructuring scenario.

Also, tomorrow, investors will look to see how much Fortress Investment Group's funds – which also own 39.6% of the common stock – have increased on their holdings of $124 million of the term debt last disclosed Sept. 30, according to financial filings. Fortress had been snapping up more of the term loan in secondary purchases since the last quarter, according to sources. Sources put the increased position of the distressed investing private equity giant at possibly a “significant” increase to its previously disclosed holding.

Funds of institutional investors Third Avenue Management, Eaton Vance, Neuberger Berman Management, Invesco, and Putnam owned smaller portions of the bank debt through the end of 2012, according to recent SEC disclosures, while additional holders had recently included GoldenTree Asset Management – once the largest holder - GE Capital, Ares and KKR, according to sources.

Under the company’s credit agreement “any going concern” or similar language is considered an event of default. In such a scenario the company would have 30 days to cure that default, according to the credit agreement.

On this uncertainty, about $30 million to $40 million of the term debt has traded down from 37 to where it is now quoted at 32/33 since an uncharacteristic filing of preliminary results, according to sources.

GateHouse’s capital structure was put in place in 2007, comprising a $690 million term loan and a $250 million delayed-draw term loan at L+200, a $275 million incremental term loan at L+225 and a revolver.

For the fourth quarter, Gatehouse expects revenues of about $125.6 million and adjusted EBITDA of $22.3 million to $23.3 million, according to its preliminary results, both down compared with $144.4 million in revenue and $32.9 million in EBITDA the same quarter from the previous year. For year-end Adjusted EBITDA of $80 million to $81 million would make the debt-to-EBITDA ratio would be nearly 15x.

Prior to the Feb. 11 announcement, Gatehouse had never given preliminary results before. The company felt compelled to do so because of some additional difficulties that it had experienced throughout the quarter it felt might have impacted results. The company wrote in the preliminary results that the fourth quarter declines were “slightly worse” than recent quarterly reports due to Massachusetts legislation slowing the foreclosure process leading to large delays in the timing of foreclosure revenues, a soft economic climate for small businesses due to fiscal cliff issues pulling back on advertising spend and increased sales force hiring and training to ramp up digital service products.

Ernst & Young LLP is the company’s independent registered public accounting firm for the year ending December 30, 2012.

Moelis & Co. and Milbank, Tweed, Hadley & McCloy LLP have been representing lenders and agent Gleacher in relation to the deal.

Fortress declined to comment. Gatehouse did not respond to request for comment by press time. - Max Frumes

Announcing Reorg Research

noreply@blogger.com (Hunter) — Mon, 04 Mar 2013 16:58:00 +0000

For as long as I can remember, research and analysis of distressed debt has been an archaic process involving tedious and manual work, pulling information from a variety of disparate, untimely and incomplete sources. Thousands upon thousands of hours are wasted by the buy side and sell side searching and locating specific dockets in numerous cases which currently entails a painful process where oftentimes important updates to bankruptcy cases are missed. Time that should be spent analyzing is instead time spent wasted looking for answers.

In July 2009, I wrote on the blog:

"I check Pacer and various Court Dockets so many times it makes me sick: No seriously. It is such a tedious process. If anyone knows a way to automate this or wants to start a company that automates this with me, let me know. This is important because rulings move markets, new information from court filings move markets, you want to be ahead of the news."

I searched far and wide for solutions to my problems. The option set was limited at best, and most were very heavy modules targeted to the legal community. None were designed with a finance professional in mind: what information we need, when we need, how we would use it.

So I built it myself.

Beginning in the 1Q 2012, I worked with a variety of people in the U.S. Government along with an incredible set of developers to build what I think is a complete game-changer for the distressed debt industry. In 4Q 2012, I invited a group comprised of DDIC members, some of the largest distressed funds in the world, as well as leading investment banks and financial advisors to the closed beta. Feedback has been overwhelmingly positive. Currently approximately 100 firms are using the site on a daily basis. And now I'm ready to open the site to the public:

I encourage all who are interested in testing the site to request a trial on the site here: Reorg Research Trial Page.

To give you a quick sample here are just a few of the benefits from our Docket service:

(click to enlarge)

What are Some of the Features of Reorg Research Docket Product?

Ability to track many bankruptcies dockets in one location
Near real time alerts to new docket entries for the cases you are following
A filtering mechansim I built myself that reduces some of the noise inherent in bankrupcy dockets (pro hac vice admissions, certificates of mailing, etc)
Ability to download documents directly from Pacer with a simple click of a button
One of the most powerful search functions ever created in bankruptcy. Want to search what Elliott is buying in the claims space? We can do that:

Or maybe you want to do a fee comp study for an engagement you are working on as banker? We can do that in minutes. You can search across all cases or just one case at a time. You will be able to find information faster than ever.
A daily summary email option: Not involved in a case but want to stay on top of it? We will send you the docket items (with filtering) on the cases on a daily basis
Are you a hedge fund that wants to follow a docket but doesn't want others to see it on Reorg Research? I am fulfilling the request daily for funds. With the ability to track SO many case in one spot, hedge funds are able to leverage their analysts better and look at more opportunities in smaller cases.

And that's just the the docket product: Other features of Reorg Research

Calendar of all bankruptcy hearings, with attached agenda items, for the cases in our system that you are tracking
A relational database with every professional firm involved in a case along with professional level detail (banker's name, email address, and phone number) for those actively on the case
Monthly operating reports in Excel format for you to easily download instead of recreating the wheel
Key filings (First day affidavit, plan or reorgs, disclosure statement) in one convenient space

As we move through the first quarter, Reorg Research's services and offering will be expanding: As some of you saw, I have been actively hiring distressed debt analysts and reporters to cover situations in and out of the court room. Our first full time reporter, Max Frumes, was most recently at S&P LCD covering pre-bankruptcy situations. Max will be out there breaking stories in the pre bankruptcy space and most of his content will be going on Reorg Research (he's writing there as we speak). In addition to reporting, me and my team of analysts will be providing opinions on distressed situations, tear sheets so you can quickly get up to speed on cases, real time alerts on court proceedings and important decisions, legal analysis on vital bankruptcy dockets and the potential affects on securities valuation, and a portfolio manager summary that highlights the main drivers of value in a case.

For questions on Reorg Research, please reach out to me with an email or a call. I am actively visiting clients or talking with them on the phone on a daily basis and walking them through some of the features and benefits on the site.

Simply put: Reorg Research is a game changer for professionals in the distressed debt space. We are saving our subscribers precious time and money and streamlining their research process in revolutionary ways.

For more information or to request a trial, visit our home page here: Reorg Research

Distressed Debt: OSG Tax Issues

noreply@blogger.com (Hunter) — Fri, 01 Mar 2013 22:27:00 +0000

Update: The diligent analysts, going through the Schedules found this: http://www.reorg-research.com/pdf/64783.pdf - the SOFA for ST Holdings LLC. See page 27: $115M interco payable directly to holdco...

Distressed Debt Investing has written multiple times on the OSG case. The case began heating up again when the IRS filed their tax claim in the case (priority claim for $463,013,177.63). Since then many parties have discussed what the ultimate tax issues will play out in the case. More information may come out during a bankruptcy hearing on March 5th where contested matters include both application for entries for an order for retention of PWC and Deloitte as Independent Audtior, Accountant, and Tax Advisor and Tax Advisors respectively to the company (responses have been received by the indenture trustee, the U.S. trustee, and the Official Committe). And today a notice of withdrawal for no objection also hit the docket in regards to the employment of PWC - so things could get interesting.

The objection from Wilmington Trust (Docket item 672) is actually a pretty good read. This is one of the better quotes: "Although the Debtors seek to retain Deloitte Tax LLP (“Deloitte”) as tax advisors to the Debtors and apparently intend to transition the Debtors’ tax work from PWC to Deloitte, the Debtors nevertheless fail to explain in their Motion why it is appropriate for them to retain as their auditor the very same auditors who audited the financial statements of the Debtors which have to be restated." Solid burn. The objection goes on to note that PWC may not be a disinterested party according to the code, a professional firm can only be retained if they are 'disinterested').

This got me thinking: Has anyone done any work on the Deloitte retention documents (Docket 534)? As those following case know the tax issue is this (From the docket):

"As noted in the First Day Declaration, OSG has publicly announced that it is in the
process of reviewing a tax issue arising from the fact that OSG is domiciled in the United States but has substantial international operations, in relation to the interpretation of certain provisions contained in OSG’s loan agreements (the “International Tax Issues”)."

Deloitte is effectively being retained to work through these issues for OSG as debtor in possession. The proposed work order states that Deloitte will "assist clients with the computation of its entries required to adjust the income tax account balances such that they are consistent with the tax return filed for the years ended..." for 2011, 2012, and 2013. The Tax Compliance Work Order states that the "target date for completion of federal tax returns is August 31, 2013." What's interesting here is that if you look at the "Tax Due" from the above claim it looks like this:

With a huge penalty apparently from the 2010 returns...Who is looking at those returns? Also - how is it possible that 2010 and 2011 penalties are identical when net income is all over the place for both foreign and domestic operations of OSG? Does it have something to do with the guarantee side of the bank debt?

I know many funds have gone out of their way to figure out what the tax penalty entails as it is a huge swing factor for bonds at issued out of the holding company. To me the play all along has been bank debt holders (DK, GS, and a few other prominent ones) to do a rights offering to pay down European banks holding this bank debt on their book (probably marked too high), and cram down the bonds. But that will be a lot harder to do if the tax claims in much less or even pari with the bonds.

I'll add some more information after the hearing on the 5th.

FriendFinder Large First-Lien Holders Bid Towards Par in Expectation of Refi

noreply@blogger.com (Hunter) — Thu, 28 Feb 2013 21:11:00 +0000

FriendFinder’s 14% first-lien notes due September 2013 have been bid up to the 98 context on the expectation of a refinancing that would refinance the first-lien debt at par and include an equitization of the second-lien debt, according to sources.

A lot of options are still available, including whether or not the company decides to go private, according to sources, but communications are moving forward looking with the aim of coming to a suitable deal for all parties involved well in front of the May 6 deadline of the most recent forbearance agreement.

Last week a large odd lot transacted at about 97 and the bonds were immediately bid higher following the trade, according to sources, as the largest holders are still looking to be buyers of the paper at 96/97.5. That was an indication that first-liens expect to be refinanced out at par, which sources close to the situation say is of high likelihood. The movement was the first since the company announced that forbearance extension through May 6 and skip its excess cash flow payment to “take advantage of what management believes are current favorable market conditions to refinance.”

Even in a hot debt capital markets, a straight refinancing has for months has not been probable for the 2013 notes without some further restructuring, according to sources. The notes traded as low as 71 in August, but have steadily traded up since that time as the company started to work with bondholders on an amendment and refinancing.

The company had been unable to come to an agreement with the holders of second-lien notes, and already had to obtain an extension of a waiver from the second-lien PIK notes from certain covenants. The second-lien notes would be worthless in a bankruptcy scenario, according to sources, so much of the free cash flow has been used to pay down the first-liens. The company founder Andrew Conru, an early internet entrepreneur enriched by the partial sale of FriendFinder, through a trust owned 23.4% of the company as of April 20, according to the company’s most recent disclosures, as well as nearly all of the second-lien notes along with co-founder Lars Mapstead, according to sources. Conru also owns a portion of the first-lien debt and has largely been seen as driving the negotiations, according to sources.

FriendFinder was also notified early February that it again failed to meet Nasdaq’s $1 threshold and $15 million minimum market cap over the required 180 days and was subject to delisting. The company said it would appeal.

The company has $213 million in 14% first-lien notes outstanding as of Sept. 31; $9.6 million in 14% cash pay second lien notes due 2013 and $280.53 million in 11.5% second-lien PIK notes due 2014.

The company retained CRT Capital Group LLC as financial advisor to help explore opportunities to refinance the notes late last year, according to a disclosure in December. Previously Imperial Capital was the investment banker for the company during much of its financing changes, according to sources.

Holders of approximately 94% of the 14% notes and the holders of 100% cash pay notes due 2013 agreed to the forbearance.

The existing capital structure was put in place October 2010, followed by multiple adjustments to the company’s financial arrangements with lenders.

Calls and emails sent to the company and CRT requesting comment were not responded to by press time. - Max Frumes

Distressed Debt Insights: CEDC Exchange as Outlined Just a Starting Point

noreply@blogger.com (Hunter) — Tue, 26 Feb 2013 22:12:00 +0000

Since the founding of the Distressed Debt Investors Club, Central European Distribution Corporation has been written up three times. Yesterday, CEDC launched exchange offers yesterday hoping to achieve an out-of-court resolution. The below article is not just a rehash of news reports and sell side commentary that has been put out today, but includes insights from a variety of sources that Distressed Debt Investing have spoken to over the past 24 hours.

While the offering memorandum, which was informed by analysis from financial advisor Houlihan Lokey, details a plan that would slash debt by $750 million, leaving it with just one $500 million issue of secured 6.5% notes, the reason to launch the exchange now was more to get the 20-day clock ticking to start elicit support for the final deal that will allow this to get done out of court, according to sources. Various options are on the table, sources said, while the whole process is backstopped by a plan to reorganize via Chapter 11 if necessary.

Important to the process has been the cooperation of Russian billionaire Roustam Tariko and his firm Roust Trading, Roust Trading, which owned approximately 19.47% of CEDC’s existing common stock as of Feb. 15, owns approximately $102.5 million aggregate 2013 converitble notes, according to the filing. Tariko doesn’t fully support the plan exactly the way it is, though through advice from advisors Blackstone and White & Case, he’s been communicating with the company to try and get this done out of court, or at least via a pre-negotiated or pre-arranged bankruptcy filing best for all concerned, according to sources – still short of a pre-packaged bankruptcy. The company, though Russian owned and the largest vodka producer in Poland, would file in Delaware.

Unfortunately for the convertible notes, Tariko’s negotiations appear to be aimed at retaining a large ownership stake and getting recovery through his other lending to the European spirits distributor, according to sources. Accordingly, neither the proposed or the alternative plan in the offering memorandum have positive outcomes for the converts or the equity compared with their levels yesterday before the news came out.

The company's stock, trading under CEDC on the Nasdaq exchange, plummeted 60% to close at $0.62 yesterday (though the news of the exchange wasn’t publicly released until after market close, sources involved note that there was clearly a leak). The stock was up 3 cents today as of 3 p.m. EST. The 3% convertible bonds backing CEDC traded in two larger odd lots today at 10.5 and 11, quoted down at that level, compared with quotes yesterday at 15/23, according to sources, after trading at 24 and 24.5 last week.

The exchange offers are part of a financial restructuring prompted in part by the impending March 15 maturity of the converts. Specifically, it would give holders of the secured notes due 2016 65% of the common stock in CEDC. Those notes total $957 million, to be replaced with $500 million aggregate principal amount of new 6.5% secured notes due 2020. Holders of the $258 million in 3% converts, and Roust, which is owed $20 million in unsecured notes, together would share pro rata in 10% of CEDC's common stock. A separate $50 million secured credit facility provided by RTL would be converted into 20% of CEDC's common stock, according to the release.

The offer is conditioned upon the approval by the current stockholders of CEDC of a 64.51 to 1 reverse stock split and the issuance of new common stock.The offer expires 11:59 p.m. EST on March 22.

The alternative offer from a committee of holders of the 2016 notes and Tariko through his firm Roust Trading would give 2016 holders $172 million in cash and $450 million of new secured notes due 2018, bearing interest of 8%, increasing to 9% in year two and 10% after three years, and $200 million of new 10% convertible PIK notes due 2018, convertible after 18 months into 20% of CEDC’s equity, increasing to 25% if converted in 2015, 30% if converted in 2016 and then 35% if converted in 2016 or thereafter. The 2013 converts and Roust’s notes would be exchanged for as much as 15% of the total common stock. Roust would own approximately 85% of the equity of CEDC in this scenario on account of the new equity investment and the conversion of the $50 million facility into equity. The proposal has not been formally presented to the board yet.

Skadden, Arps is counsel for CEDC; Houlihan Lokey was the investment banker; and Alvarez & Marsal was financial advisor in connection with the plan.

Also, the way the memorandum was written renders Roust’s previous issue with the $30 million put option moot, as there’s a 90-day waiver between Roust and CEDC. Tariko was trying to extend out the exercise date of his put options for 5.7 million shares of commons stock but CEDC didn’t agree, so Roust sent a put notice that it planned on exercising the put at above the market price.

Tariko had been in dispute with the company, claiming it was no longer required to complete an acquisition of 28% of CEDC because the company’s restatements last year breached the agreement. Since then, CEDC and Russian Standard have been in negotiations, resulting in revised terms designed to turn the spirits distributor around.

A CEDC spokesman declined to comment. - Max Frumes

Distressed Debt: Aurelius Joins J.P. Morgan In MF Global Case

noreply@blogger.com (Hunter) — Mon, 25 Feb 2013 23:32:00 +0000

Aurelius Capital Management has joined the motion to allow JP Morgan to prosecute in order to resolve a claim over a portion of MF Global's $1.2 billion revolver, according to a filing today. According to court documents, Aurelius is a lender under the ~$1.2 billion Liquidity Facility.

On Feb. 13, JPMorgan (JPM), as administrative agent and as a lender to MF Global motioned to prosecute or settle an issue regarding at least $928 million of the revolver facility that was transferred to a unit of the company referred to as MF Global Finance, or Finco, just before the bankruptcy of MF Global in October 2011.

In the Feb 13. motion, JPM points out by avoiding the $928 million of the HoldCo's intercompany claims (and subordinating the claim of Holdco vs Finco), recoveries to Finco could increase substantially. The current proposed plan allows the intercompany claim in full against Finco (a double dip) but language on whether an offsetting claim from Finco to Holdco is uncertain at best. As background, Finco drew down on the Amended Liquidity Facility in the two weeks prior to MF Global's bankruptcy.

The plan currently proposed was signed by co-proponents including Silver Point Capital, Knighthead Capital and Cyrus Capital Partners, along with Caspian Capital, Citigroup, Deutsche Bank, BlueMountain Capital, P Schoenfeld Asset Management, Scogging Capital, Serengeti Asset management and RBS, Waterstone Capital in conjunction with trustee Louis Freeh, according to the filing.

These creditors asked the court to postpone the hearing on the motion. Aurelius' counsel submitted that such request should be denied because the group represents competing interests, as they have claims in the company's other notes in addition to the revolver, according to the motion
.
Unlike the creditor co-proponents, Aurelius only holds claims in these Chapter 11 cases under the Liquidity Facility, according to Aurelius' counsel's statement.

By the same logic, Aurelius feels JPMorgan is the "best and most appropriate party to prosecute these claims and defenses because" it is not a fiduciary for multiple estates or creditors.

Attorneys representing JP Morgan at Simpson Thacher and Aurelius at Stutman Trester & Glatt declined to comment further than on what was in the filing. - Max Frumes

Advanced Distressed Debt Lesson: MNPI and NDAs: The Alphabet Soup of Getting Restricted

noreply@blogger.com (Hunter) — Thu, 21 Feb 2013 18:14:00 +0000

A more topical issue in the distressed debt market that arose after a controversial ruling in the Washington Mutual bankruptcy case is the issue of insider trading, getting restricted, and the cleansing of material non-public information. With a significant number of cases going the pre-pack route, funds involved in these restructurings may be unable to trade due to their knowledge (material, non-public) in the case. But what happens when a fund has multiple departments that might not know what the other group knows (or is doing)? The Restructuring and Bankruptcy Team at Proskauer Rose, led by Martin Bienenstock, frequent contributors to Distressed Debt Investing, has penned a fantastic post for the site below on these exact issues. Enjoy!

MNPI and NDAs: The Alphabet Soup of Getting Restricted

Investors wanting to equip and position themselves to negotiate a debtor’s restructuring may temporarily relinquish their ability to buy and sell securities in exchange for access to material nonpublic information (“MNPI”). This delicate balance between the need for investment liquidity and the desire for informational transparency often leads to increasingly fierce negotiation between a company and its creditors over the terms of a confidentiality or non-disclosure agreement (the “NDA”).

When a company is ready to negotiate a restructuring of its public debt, it will typically direct its attorneys to negotiate an NDA with holders of substantial indebtedness. An NDA will typically require the creditor to acknowledge that it may receive MNPI. In accordance with federal securities laws, the receipt of MNPI immediately “restricts” the ability of the creditor to trade unless the creditor has executed a “big boy” letter with its counterparty. While a “big boy” puts the buyer on notice of the creditor/seller’s possession of MNPI, many sellers will refrain from trading with “big boy” letters because the efficacy of the “big boy” remains uncertain, subjecting the seller to potential civil and criminal liability notwithstanding their execution.

In addition to these trading restrictions, the NDA will also impose contractual restrictions on the ability of the creditor to share or discuss confidential information or MNPI with parties who have not executed a confidentiality agreement with the company. Some NDAs include a “standstill” provision prohibiting any discussions with other creditors or parties in interest for a certain term, whether those parties execute a similar NDA with the company or not.

Indeed, if the company wishes to accelerate negotiations to achieve resolution of impending liquidity challenges, an NDA may very well facilitate, rather than impede, dialogue among its key stakeholders. Investors will want all these contractual restrictions to terminate on the same date as the trading restrictions (i.e., the date upon which the company “blows out” or “cleanses” the MNPI, see further discussion below) to avoid the undesirable scenario where the investor can trade again for purposes of federal securities laws, but still remains subject to the contractual prohibitions in the NDA.

MNPI can range from a transaction proposal or term sheet to more detailed nonpublic financial and operational information, such as cash flow projections. Even mere knowledge of the existence of nonpublic restructuring discussions and negotiations between the company and certain creditors may constitute MNPI. The level of informational visibility the investor wants will often determine the length of the restrictions in the NDA. For the investor to become “unrestricted” after its receipt of MNPI, the MNPI must either become (i) immaterial/stale or (ii) public. Accordingly, investors will require the company to publicly disclose the MNPI at the earliest possible cleansing or “blow out” date through a press release or SEC filing. The company will then weigh these considerations against its own external disclosure timeline (i.e., a company may not wish to preview year-end numbers before it files its Form 10-K) and the reality that it must try to accommodate the liquidity concerns of its largest creditors if it wishes to achieve a consensual deal with their participation and imprimatur. Regardless, if the investor determines the company has failed to sufficiently cleanse all MNPI, after prompt written notice to the company, the investor frequently has the self-help remedy entitling it to disclose the information on its own.

Some investors try to avoid these issues altogether by retaining a financial advisor or law firm to get “restricted” on its behalf. The advisor, however, cannot reveal the nonpublic content to the investor until the investor is willing to be restricted. Thus, the investors effectively allow their advisors to negotiate for them to some extent until the investors are willing to restrict themselves and complete the deal. This strategy also affords the investors more time to trade and accumulate their position.

Investors at hedge funds or financial institutions having one department that trades debt for itself or clients and another department that holds debt for their own proprietary accounts, may erect internal information barriers or trading walls to enable the department trading debt for clients to continue to do so, while the other department is restricted and negotiates a restructuring. These entities often designate one or a small number of individuals as “restricted personnel” with access to MNPI while non-designated employees on the other side of the wall continue to trade the company’s securities. The erection of walls must be done with much care. Large institutions, of necessity, must know and understand their total exposure to each credit for risk and financial reporting purposes. The individuals who know this information are effectively operating above the walls and looking down at each department, creating a situation of walls without ceilings. These individuals must be identified in advance and instructed not to share any information they learn with people trading or holding the debt for which there is an NDA.

Most importantly, investors must understand the determination of what constitutes MNPI remains an inherently subjective one. Accordingly, investors must always evaluate the aforementioned considerations in consultation with internal compliance officers and experienced securities law counsel before trading.

Hiring: Distressed Debt Research Analyst

noreply@blogger.com (Hunter) — Mon, 18 Feb 2013 19:46:00 +0000

As some of you know, there are a number of big changes in store for Distressed Debt Investing. I'll be posting some more specifics on the upcoming changes early next week, but in the meantime, I wanted to post this as soon as possible: I am hiring for my new company. This is a full-time, paid position. See below for details.

Position: Distressed Debt Research Analyst

Location: New York City

Description:

I am seeking an experienced, hard-working, and highly motivated distressed debt analyst that will cover a variety of distressed situations (pre-bankruptcy, during bankruptcy and post re-org). The analyst will provide fundamental published trade and investment recommendations (utilizing a value investing philosophy), write notes on bankruptcy proceeding, and maintain and update written research reports/database for names under their coverage. The analyst will work closely with me and have the opportunity to take on increasing responsibility over time.

The ideal candidate will have 1-2 years of experience working in restructuring or as a desk analyst at a broker/dealer covering distressed situations. Those with buy side experience in distressed debt investing, along with candidates from legal backgrounds (1st-3rd year bankruptcy associates), are also encourage to apply. I am looking for someone with a combination of strong analytical skills (valuation and restructuring waterfall models) as well as excellent communication abilities. And finally: tenacity, intellectual curiousity, and a strong work ethic are all requirements of the position.

Contact: To apply please send your resume to hunter [at] distressed-debt-investing [dot] com

Note: In addition, I am looking for interns this summer (starting in May). While I do not have a formal posting yet, if you are interested (we had a fantastic intern working for me the past 3 months), please reach out to me with your resume.

Reminder: 4th Annual Global Distressed Debt Investing Summit

noreply@blogger.com (Hunter) — Fri, 15 Feb 2013 03:48:00 +0000

A few weeks ago we alerted readers to the upcoming Global Distressed Debt Investing Summit put on by iGlobal Forum. The event is next Wednesday February 20th - I will be there and looking forward to seeing those that attend (shoot me an email if you'll be there to meet up).

This year, like years past there is a great great list of panels/panelists with speakers from funds including

Fortress
Highland
WL Ross
Marblegate
Marathan
Moab
Versa
Watershed
Halcyon

We hope to see you there. For more information please visit the conference webpage at: http://www.iglobalforum.com/index.php

Emerging Hedge Fund Manager Series: Vanshap Capital

noreply@blogger.com (Hunter) — Fri, 08 Feb 2013 18:52:00 +0000

A few years ago, Distressed Debt Investing interviewed the team from Aegis Financial as part of our Emerging Manager Series. In mid 2012, I spoke with Evan Vanderveer and David Shapiro who let me know they had raised capital for a new fund. Not only that, but the backing comes from one of the best value investors out there: Tom Gayner on behalf of Markel - a firm people often describe as a mini, and possible the next Berkshire Hathaway. That in itself is a massive ringing endorsement and I think, as the interview below will testify, will demonstrate the skill of this emerging manager team. For more information, you can find their website here: http://vanshapcapital.com/ Enjoy!

1.       Give us a background on Vanshap Capital. How did the firm come to be? Describe the firm’s approach to investing.

We were previously members of the investment team at Aegis Financial, a highly regarded deep value manager also here in Arlington. We had both been drawn to Aegis because of our interest in—and the firm’s strict adherence to—investing in mostly smaller, undervalued companies. Over the period that we worked side by side, we both began to recognize that some foreign markets were priced less efficiently than the domestic markets we were primarily analyzing at the time. Our interest in global deep value equities evolved into the idea of building a firm solely focused on that strategy.

After pondering how best to raise capital, we decided to reach out to a handful of other value oriented institutions that could be in a position to assist with forming a new firm. The idea was to find someone who really appreciated our strategy and took a truly long-term view. One of the value investors we contacted was Tom Gayner of Markel Corporation. After a series of discussions with Tom and other potential investors, we concluded that partnering with Markel would be a terrific fit, and that has indeed been the case.

Our investment approach is fairly straightforward. The description is “focused global deep value investing.” We own stakes in 15 to 30 public companies located around the world. These companies broadly have low levels of debt, generate high returns on capital, and have strong management teams at the helm. Most importantly, they trade at low multiples of tangible book value or cash earnings. The philosophy is driven by the fundamental belief that a carefully selected portfolio of financially sound, well-run companies selling at discounted valuations should generate above average returns over time.

2.       In the current market environment, where are you seeing the most opportunities?

We are seeing opportunities where we typically find them—in smaller, orphaned, out-of-favor securities. In many developed markets, companies with market caps of less than $250 million have very little or no analyst coverage. Specifically, last year, we found the U.K. to be fertile hunting ground. Many of the brokerage firms there have dropped coverage of small caps during or in the few years after the crash. One of our holdings, Dart Group, had a market cap of just £20 million in mid-2008. Today, the market cap is £220 million, but fewer analysts cover the company now than did back then; another well-known broker just dropped coverage. Dart is far from a one off example; we see the same phenomenon time and again when scouring the globe.

We are fond of the John Templeton quote “People are always asking me where the outlook is good, but that is the wrong question. The right question is: Where is the outlook most miserable?” Not coincidentally, we find many of our investments in countries, industries, or specific businesses that are experiencing some kind of ‘misery.’ Often the confluence of small size, lack of attention, and misery create the investment opportunities we find attractive.

3.       What influences have most shaped your investment philosophy?

Our driving influence is the overwhelming amount of data that supports the effectiveness of a small cap deep value strategy. According to our analysis derived from the Kenneth French data set, equities in the cheapest decile of the market on a price-to-book and price-to-earnings basis outperformed the most expensive decile by 14% and 10% annually since 1952. Many other studies draw similar conclusions. The data also matches our personalities; we enjoy searching for bargains and are inherently contrarian by nature.

The other influence, on a more personal level, is Scott Barbee, who is the owner and portfolio manager at Aegis Financial, our prior firm. As we mentioned, Scott was our deep value investing mentor, and is similarly driven by data that suggests buying stocks trading at a discount to tangible book value outperform the market over time. Scott is one of the more disciplined investors we know; he refuses to wander from his time-tested strategy no matter what is in vogue. He is highly skeptical of consensus opinion and searches for investments in the most out-of-favor areas of the market. We are forever indebted to Scott for providing a strong foundation to our investment philosophy.

4.       What advantages, if any, does your background in high yield investing give you in the world of small-cap value equity?

We would argue our background in high yield investing has provided two advantages. First, we believe debt investors tend to be more focused on the downside scenario or the “margin of safety,” and are inherently less optimistic about potential outcomes. Relatedly, we have trained to closely examine the asset backing of the business and what might be left over if something did go wrong. The second advantage would be strong analytical experience when studying debt structures, covenants, and other more technical aspects of the balance sheet. We believe these skills are important even when investing in relatively unlevered companies to ensure there are no peculiarities when performing due diligence.

5.       Coming up on one year since Vanshap was founded, what has been the most difficult aspect of starting your own firm? What advice would you give to others who may be considering taking the leap?

As an analyst, the focus is simply on the investment side of the business. When you launch a firm, there is an entire other role that develops; actually managing the organization. This hasn’t been so much difficult as it has been a change from our previous roles. Thankfully, we really enjoy both aspects. We have purposely structured the business to have as many functions outsourced as possible so we can concentrate on investments and the broader strategy of the firm, while keeping a close eye on our service providers.

Our advice would be to find a high-quality partner, an organization or person that you admire, and build the firm with their support. In today’s environment, we would argue that scale and a proper back office is required to sustain the business over the long term and attract capital from institutions. This is not to say one cannot go at it alone, but we think the partnership route is the more conservative and potentially rewarding model.

6.       What type of personality does it take for a person to be comfortable with your investment style?

To answer the question in one word: contrarian. Individuals who want large exposure to the hot stock of the day—the one everyone is suggesting should be bought—will be disappointed with our style. We invest in companies that people are selling or that no one is discussing.

We seek to attract individuals who understand our fidelity to deep value investing, have a long-term focus, and are more prone to add capital in a declining rather than a rising market. As Seth Klarman has discussed, you can have everyone in the country attend the Berkshire Hathaway Annual Shareholders Meeting and only a small percentage of attendees will become ‘value investors.’ We fit best with the few who do.

7.       Why do you believe deep-value equities represent a better opportunity relative to other asset classes going forward?

We don’t frankly know if deep-value equities will outperform other asset classes, but we do believe the strategy will outperform other equity strategies over the long term. As mentioned before, we believe the data supports this view. That being said, we think predicting the performance of individual asset classes is a tough game and that reversion to the mean plays a large role. Instead we believe that owning a stake in a handful of undervalued, high-quality, well-managed businesses will produce acceptable returns over time regardless of how other asset classes perform.

8.       Vanshap invests in deep value equities on a global scale. Which countries do you find most attractive from a valuation standpoint?

Our answer to the question is driven by what countries appear on our worldwide screens, and those countries are often undergoing some kind of misery. To give you a sense, we have a few investments in Australia, which is currently experiencing a sour economic climate and some industries there are being impacted by “Dutch disease.” We have one investment in South Africa where there are major labor problems and a stagnate consumer environment. Although U.K. small caps have appreciated recently, we believe the austerity and negative sentiment there is creating opportunity. Additionally, we have been looking in the troubled Eurozone countries, including Greece where we have an investment in a large retailer. There are many Korean, Hong Kong, and Japan-based companies on the list. We have looked closely there, but frequently have trouble with the corporate governance.

9.       What is your approach to understanding geopolitical risk? Can you describe a specific situation where you have passed on a compelling idea because you couldn’t get comfortable with the geopolitical risks?

When analyzing a potential investment, we pay particular attention to what risks from the political sphere could damage our investment thesis. Have there been recent government seizures of personal property, or is there a strong rule of law in this regard? We ask management about political risk, and they tend to be quite candid when discussing the topic. We additionally search widely in the media for any indication of positive or negative change in the country’s rule of law. However, we believe predicting a political event is just as tough as predicting stock market performance, so we tend to have investments in a variety of countries and regions across the world in case an event does occur.

We looked briefly at a company based in a fast-growing Southeast Asian country. The company makes a lubricant product and has a roughly 63% market share because of a near-monopoly position protected by government tariffs. The business was exceptionally well run and arguably undervalued at the time. However, the company admitted that if the rules governing the industry were changed and foreign competitors were allowed to enter, the profitability of the business would be severely impacted. While there was no real threat at the time, we were concerned that trade protectionism could change at some point, so we decided to pass. The stock has performed quite well and there may well be no shift in the industry.

Conversely, political events can create opportunity and cause stocks to become highly discounted. We have a stake in a Canadian energy company that owns a large acreage position in a prospective shale gas play in Quebec. The government there placed a moratorium on fracking for a few years and the stock has declined by 80% from the highs. Interestingly, we think the company’s other assets are worth significantly more than the enterprise value today, even if fracking in Quebec is permanently banned. So in this case, the political event created the opportunity.

10.    What is Vanshap’s approach to hedging macroeconomic risk?

We don’t hedge economic risk in the normal sense of the term with exotic derivatives or anything along those lines. Instead, we attempt to ‘hedge’ by owning a basket of undervalued, high-quality companies from around the world that operate in a variety of industries. Our thinking is “invest from the bottom up, but worry from the top down,” so we try to consider what could go wrong on the macroeconomic front. For instance, how would a Chinese crash impact our investments? We are constantly considering questions like this to try and ensure no one event could unduly harm the portfolio.

11.    Tell us about your favorite investment idea.

Our largest investment is the company we mentioned previously, Dart Group. Though the stock has appreciated recently, the business still appears to be materially undervalued. Dart is a U.K. based holding company with three different businesses, although two are intertwined and one is wholly unrelated. Jet2.com is a leisure airline and Jet2 Holidays is a packaged tour business that utilizes the airline. The other subsidiary is Fowler Welch Coolchain, a distribution business that works with many of the large supermarket chains, including Tesco.

Philip Meeson, the Chairman and CEO who owns about 40% of the group, has done a fantastic job since joining in 1983. Over the last decade, he has compounded tangible book value at 19% annually, a remarkable achievement in our view. The record over the entire period is not much different. The business is run extremely efficiently, with a non-unionized workforce and a flexible, largely owned aircraft fleet.

Dart is currently valued at roughly 7x earnings, or 6x earnings net of excess cash, and just slightly over tangible book value. Another way of looking at the valuation is to subtract the value of the distribution business, £50 million which we think is conservative, and excess cash of £40 million. That implies a value of less than 3x EBIT for the airline and holidays businesses, while comparable tour businesses also with internal airlines, Thomas Cook and TUI trade at 6x EBIT. The company reported first-half profit before tax grew 37% over the prior year and the packaged holidays business, Jet2 Holidays, has yet to reach even half of management’s market share goal. We think the group’s brightest days are ahead.

Wharton Restructuring and Distressed Investing Conference

noreply@blogger.com (Hunter) — Tue, 05 Feb 2013 22:50:00 +0000

Over the past few years, Distressed Debt Investing has attended the annual Wharton Restructuring and Distressed Investing Conference (here our notes from last year: Notes from the 2012 Wharton Restructuring Conference). The conference is always full of incredible insight (and networking opportunities) for distressed debt and restructuring professionals. This year's keynote speakers is one of the best lists I've seen in some time:

Golden Tree's Managing Partner Steve Tananbaum
CEO of SunCoke (high yield issuer) and former CEO of GM Frederick Henderson
Euro distressed guru Lee Buchheit, Partner at Cleary Gottlieb
No introduction needed: Ed Altman - the dean of distress.

The title of this year's conference "Health of Nations - Distress, Recovery or Revival?" As all of us are aware the international opportunity for distress is gradually picking up - so many people talk about Europe, but I know a number of funds that are starting to build out Asian offices as well. The panelists are also incredible. Representative from these funds, just to name a few:

Centerbridge
Apollo
Knighthead
Oaktree
MatlinPatterson
Versa

What I've always liked about this conference is both the legal restructuring panel as well as the case study. This year the case study is on AMF Bowling with panelists from McKinsey, Stroock, Kirkland, and Miller Buckfire weighing in on "the various strategic and financial perspectives of the key participants including the company's financial and legal advisors as well as advisors from the 1st lien lenders."

Distressed Debt Investing will be there as a Media Sponsor. We truly hope to see you there.

For more information, please visit the conference home page here: Wharton Restructuring and Distressed Investing Conference

My Three Favorite Quotes from Baupost's 2012 Year End Letter

noreply@blogger.com (Hunter) — Mon, 04 Feb 2013 22:52:00 +0000

In the past, Distressed Debt Investing has taken snippets from Baupost's year end letters, which are always a treasure trove of information from possibly the greatest investor living: Seth Klarman. This year's letter is, as usual, simply amazing and below I've stripped out my three favorite quotes from the letter with some commentary. Enjoy!

"As investors have become accustomed to sputtering economies and massive government intervention, episodic "risk-on" and "risk-off" behaviors drive the capital markets. Unexpected bad news means risk off. A stopgap solution to the crisis du jour is offered -- i.e., a bailout, a rescue, a Band-Aid deal, QE(n) -- and risk on resumes. We have been on a roller-coaster ride for the last four years and counting, with no meaningful recovery, no feasible solutions, and ineffectual leadership. Investors conditioned to the short-term trading mentality are increasingly ill prepared for policy changes. What will happen when the Fed declares, as it someday must, that the era of low interest rates is at an end? What if governments holding trillions of dollars of sovereign debt and other securities stop buying and begin to sell? Or if another serious crisis -- economic, political, international -- materializes and governments have insufficient ammunition to intervene? The content, though not the timing, of the next chapter in market history is quite predictable. Few will say they saw it coming, though, in fact, everyone could have seen it if they had only chosen to look."

I have often written about hope not being an investment strategy - especially when that hope stems from a central bank put. The fiscal and monetary situation / climate we find ourselves in today would look like Mars ten or twenty years ago. What scares me is that the climate is starting to be regarded as status quo or a background noise in the environment in which we are asked to generate returns of and on our capital base. In the long run, short term pain is always better to push excesses out of the system. Managing volatility (Klarman discusses this later in the letter) conditions investors to environments that, once the rug is pulled out, could be very painful.

"We pursue opportunity largely off the beaten path, sifting through the debris of financial wreckage, out of favor securities and asset classes in which there is limited competition. We specialize in the highly complex while mostly avoiding the plain vanilla, which is typically more fully priced. We happily incur illiquidity but only when we get paid well for it, which is usually when others rapidly seek liquidity and rush to sell.

We make no heroic assumptions in our analysis, hoping, instead, that by compounding multiple conservative assumptions, we will crease such a substantial margin of safety that a lot can go wrong without impairing our capital much or even at all..."

This is the first time I have ever heard the term "compounding multiple conservative assumptions." It really is a beautiful concept. If I use two very conservative assumptions in my calculation of valuation, which estimate of intrinsic value will be substantial (exponentially) lower than someone using a bullish or even for that matter fair assumptions. Oftentimes I've read Klarman using the term "conservative assumptions" and by adding conservative assumption to others in the same estimate for securities one can be comfortable that risk of permanent capital loss is low.

In terms of complex securities: Its a place where Baupost shines. Later in the letter, tere is disclosure that Lehman entities make up more than 20% of Baupost's NAV. Lehman (they discuss LBIE) is an inordinately complex situation that few across the street have an understanding (some may understand the valuation, but adding in process and cross border issues makes the situation very complex). The Lehman trade has been a home run for many funds that got involved shortly after the following with capital distributions already ahead of initial purchase price with significant distributions coming over the next 2-3 years.

And finally from Jim Mooney's section on Baupost Public Investment Group:

"Looking ahead, it is quite difficult, as always, to predict what 2013 will bring in the public markets. On some level, much of the landscape appears to be relatively benign, with a seemingly insatiable investor appetite for corporate credit, a broadly held view that Europe is 'fixed' or a least on long-term life support, and many forecasters predicating continued strong performance in equity markets. However, we continue to see many potential cracks in the facade. As anyone with a passing view of credit markets knows, we have entered uncharted territory for flows into the leveraged-loan and high-yield space, and, with that, new lows in yields and default rates. While some would argue that because credit spreads remain near historical averages, the market isn't that overheated, we remain of the view that, at best, the level of absolute yields is yet another manifestation of the overall interest rate bubble and, at worst, is evidence that investors are accepting insufficient returns for the risk they are taking. Whatever the case, we are optimistic that there will be many opportunities for distressed investments in the future."

Since the dawn of credit and lending, borrowers have over extended themselves. When the cycle turns, and it will definitely turn (its just a question of when), distressed opportunities and forced selling will abound. It's going to be fantastic.