🔥The "Weil Bankruptcy Blog Index," CMBS and how Nine West is the Gift that Keeps on Giving🔥

We’re still clearing through some year-end stuff here at PETITION. This edition will conclude our review of 2020 (parts I and II here and here). Before we get there, this was obviously a momentous week. The Democrats took Georgia and by extension the Senate, the Capitol fell to a siege, unemployment figures underwhelmed (140k job losses with leisure and hospitality getting f*cking napalmed), Saudi Arabia unexpectedly cut oil output, and a new virulent COVID strain is now apparently running wild within our borders. Good times. It’s almost enough, all in, to make us nostalgic for 2020.

Oddly, the stock market took in all of the above and be like 🤷‍♀️: it had an up week! Mania is sweeping the markets to the point of Elon Musk becoming the richest man on the planet, Bitcoin breaching $40k, sponsors issuing SPACS called Queen’s Gambit Growth Capital (sounds fake: it’s not), and corporates…well…

It was a given that 10y yields would break above 1%. What worries me is that corporates are rushing to issue new debt as they see yields rising. In only 2 business days $40bn of new bonds were issued-and the pipeline is getting bigger. Are companies seeing their refinancing risk? pic.twitter.com/QXZnKTPqF5

— Althea Spinozzi (@Altheaspinozzi) January 6, 2021

Maybe. Probably not. More likely? They’re seeing the market swallow up ridiculously low rates. This week US high yield rates hit a fresh all-time low. Spreads are back near pre-crisis levels:

Demand is insatiable.

Back in October the PETITION team took a look at (but ultimately opted not to write about) Urban One Inc. ($UONE), a Maryland-based media operator focused on the African-American community. Our interest derived from an 8-K indicating that UONE (a) anticipated COVID-19-induced revenue decreases might trip financial covenants, (b) initiated wholesale cost-cutting initiatives, and (c) drew down $27.5mm on its ABL facility. Thereafter, the company commenced an exchange offer and consent solicitation pursuant to which it exchanged $347mm 7.375% senior secured notes due 2022 for new 8.75% senior secured notes due 2022. The company also pulled off a $25mm at-the-market equity offering. In other words, both the debt and equity markets were willing to play ball and play for some sort of social justice-driven pull-through of demand that would improve business fundamentals.

And as it turns out, the company did pull forward demand — more election related than anything:

"The radio segment benefited from unprecedented levels of political advertising spending targeting African American voters.  Bolstered by this revenue, we expect our radio segment fourth quarter revenue to be down a low single-digits percentage year over year, a material improvement from second quarter's decline of -58.4% and third quarter's decline of -31.9%," says CEO Alfred C. Liggins III.

In a pre-market announcement on Thursday, the company indicated that consolidated net revenues for FY20 would be down roughly 13.7-14.6%. But Q420? They reported a net revenue increase of between 3.9-7.7% and adjusted EBITDA up 49-56.2%. That’s all the capital markets needed to see.

On Thursday the company also announced a private offering of $825mm 2028 notes to pay off the relatively new 8.75% ‘22s, the stub 7.375% 22s, and loans outstanding under two separate credit agreements. The issuance priced inside of initial 7.5% talk and got done at 7.375%. Notably, the 8.75% ‘22s were trading below par as long ago as, uh, *checks calendar*, Tuesday (they’re now above 100). This is not the most, uh, optimistic issuance we’ve seen of late — we’ll leave that to the airlines and movie theater chains — but it does highlight the forgiving nature of capital markets: that’s quite a dramatic drop in rate mere months after a previous issuance. And let’s be clear: we’re talking about a company that is, in part, a radio station operator coming off a significant uptick due to election-related ads. But 🤷‍♀️. That really is the best way to describe all markets these days.

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How about the bankruptcy market? Epiq Systems Inc. released its 2020 bankruptcy filing statistics this week and “2020 had the lowest number in bankruptcy filings since 1986 with a total of 529,068 filings across all chapters.” Commercial chapter 11 filings were up 29% YOY but chapter 13 and chapter 7 filings decreased by 46% and 22%, respectively.

TO READ THE REST OF THIS ANALYSIS, YOU MUST BE A PETITION MEMBER. BECOME ONE HERE.

✈️ Airlines, Airlines, Airlines ✈️

The Airline Bailout Debate Will Rage On

Over the last several weeks there has been a significant amount of discussion across the United States about the financial condition of the major airlines post-COVID-19 and whether and when air travel will resume in earnest. In parallel, there has also been fervent debate as to whether government assistance ought to be available to the airlines and, if so, what conditions ought to be attached (if any). One view against — that of Chamath Palihapitiya — went viral and sparked widespread debate that placed people firmly in one of two camps. That camp — the “f+ck the airlines and f+ck bailouts” camp, urged the federal government to let free markets be free markets, regardless of whether that might mean a wave of bankruptcies. On the other side, there are folks who think that, given the extraordinary externalities at play — including, significantly, worldwide government-mandated shutdowns — fairness dictates that the airlines ought to be given a lifeline to avoid costly and drawn out bankruptcy processes that will ultimately destroy a lot of value and potentially result in meaningful job losses. After all, a deal around a plan of reorganization and eventual emergence from bankruptcy requires some ability to determine a “fulcrum security.” Good luck doing doing that in this unprecedented environment.

Bankruptcy in normal circumstances is highly contentious, expensive and litigious. Suggesting that we wipe equity and save jobs sounds great in principle but in reality it’s Pollyanna. Everything is contingent upon where the value breaks which can’t be determined expeditiously

— Post M. (@Post_Market) April 13, 2020

Let’s make a bet. $1.

b/c of the Fed’s actions:

My side: Company’s won’t go bk now b/c of Fed. Will promise to keep employees but will fire them anyways. Will still go bk b/c revenues don’t reappear and credit still gets repriced in a few Qs after more bad news.

Your side?

— Chamath Palihapitiya (@chamath) April 13, 2020

For now the debate is moot. The United States government agreed to provide assistance with the understanding that jobs would be preserved. Much of this money has no strings attached:

So, to be clear: $DAL is going to get 77% grant, 23% low-interest loan and only give the federal government a nominal amount of warrants? Now THAT is the art of the deal. https://t.co/XTFdfrUike pic.twitter.com/U7OYK1lXC6

— 💥PETITION💥 (@petition) April 15, 2020

Similarly, United Airlines Inc. ($UAL) obtained $5b through the CARES Act split between $3.5b of direct grants and $1.5b of low interest loans. United noted at the time:

These funds secured from the U.S. Treasury Department will be used to pay for the salaries and benefits of tens of thousands of United Airlines employees. In connection with the Payroll Support Program, the airline's parent company also expects to issue warrants to purchase approximately 4.6 million shares of UAL common stock to the federal government.

Airlines are cash burning machines. No doubt, these funds are critical. To help matters further, certain airlines tapped the capital markets — some, like Delta Airlines Inc. ($DAL), successfully and others, like United, unsuccessfully. Per Bloomberg:

United Airlines Holdings Inc. abandoned a $2.25 billion sale of junk bonds because it wasn’t satisfied with the terms, said people familiar with the transaction.

The airline ultimately reached a deal but decided to pull it to seek more favorable terms and potentially a different structure later, said one of the people, who asked not to be named discussing a private transaction. The offering fell flat with investors on concerns about the planes backing the debt.

Enticed by the hot market for junk bonds, United had been planning to use the new debt to refinance a $2 billion one-year term loan that the company signed with a group of four banks on March 9. At a yield of 11% based on unofficial price discussions, the potential interest rate was significantly higher than that on the loan, which pays a rate of as much as 2.5 percentage points above the London interbank offered rate over the course of the year.

Whoops.

But that wasn’t the only news that United made last week. Per Barron’s:

United said Monday that it expected to cut its management staff by at least 30%, starting in October, according to a memo sent to employees. The cuts amount to about 3,450 workers. United is receiving $5 billion in payroll support under the government’s Cares Act program, which includes restrictions on compensation and layoffs. But the money doesn’t cover payrolls entirely and it will run out in September, giving United more flexibility to reduce its workforce.

Even with government support, “we anticipate spending billions of dollars more than we take in for the next several months, while continuing to employ 100% of our workforce,” United’s chief operating officer, Greg Hart, said in a memo to workers. “That’s not sustainable for any company.”

Moreover, news surfaced that United was effectively downgrading the status of its employees, circumventing the spirit of the CARES Act. This set a bunch of people off:

My letter to @united airlines CEO. Congress gave you money to pay your workers. So pay them. No tricks, no excuses pic.twitter.com/ZZ6OWgcXpu

— Josh Hawley (@HawleyMO) May 2, 2020

Here is crypto enthusiast Anthony Pompliano bemoaning this series of events (which, coming from a crypto fanboy, implies a certain level of government distrust to begin with):

At the end of the day, we are now seeing the downsides to bailing out corporations. A bailout is really the government trying to prevent a natural market correction. If they didn’t intervene, United Airlines would file for bankruptcy protection and the assets / equity would be bought by new ownership. That transition would hopefully land the company in better hands that would be better prepared in the future. This is the risk that equity holders take. By not allowing this natural market function to occur though, the government is changing the risk-reward framework for equity owners and actually incentivizing bad behavior.

We should have let the airlines fail, rather than bail them out and now force me to write this letter today about all the dumb and nefarious things that the companies are doing. The US government has a “God-complex” when it comes to the markets. They think they can do no wrong and they believe that they can solve any problem by interfering. The issue is that they are actually making the situation worse. They are preventing a free market from going through the natural cycle. The allure of a short term bandaid actually drives a much larger, long-term problem.

United Airlines should be forced to give the money back if they cut workers hours.

What Mr. Pompliano says should have happened in the US is EXACTLY what is happening in many other parts of the world.

*****

Like Colombia for instance. Per its recently filed bankruptcy papers, Avianca Holdings S.A. is “…the second largest airline group in Latin America and the most important carrier in the Republic of Colombia and in the Republic of El Salvador.” It is the largest airline in Colombia and is one of 26 members in the Star Alliance (along with United), the world’s largest global airline alliance. Its history goes back 100 years; it generates $3.9b of annual revenues and employs 21.5k people; and it, like many of the US-based airlines, was perfectly healthy prior to COVID-19 halting worldwide air travel. Despite “…Avianca’s importance to the Colombian domestic air transportation market…” and while “…the Debtors anticipate that the Republic of Colombia may be one of the key stakeholders in the Debtors’ restructuring efforts…,” no government stepped up to bail Avianca out. Hence the chapter 11 bankruptcy petition it (and its debtor affiliates, the “debtors”) filed on Sunday. No government. Not Colombia. Nor the Republics of El Salvador, Ecuador or Peru.

The debtors required the chapter 11 filing to preserve its cash in a non-operating environment; they have $275mm of unsecured trade payables and a boat load of debt secured up by all kinds of stuff — from credit card receivables to aircraft. The debtors incurred the debt in an effort to expand capacity in an increasingly competitive space beset by low cost carriers nibbling away at market share. One of the lenders? United Airlines. How poetic!

Back to the aircraft. Given what travel trends are likely to be and new aircrafts that the debtors are contractually on the hook for, it stands to reason that the debtors will use the bankruptcy to reject a number of aircraft lease agreements in addition to addressing their balance sheet. The market is about to be flush with planes for sale. Query what new airline may rise from the ashes.

Luckily, the debtors have a meaningful amount of unrestricted cash to fund their cases and so, at least for now, they’re not seeking a DIP credit facility. That may change, however, if the travel environment doesn’t improve and the cases drag on. Which they very well may given the uncertainty in the markets and the very real possibility that air travel doesn’t recover. Notably, tourism is a major driver of Avianca’s traffic. Something tells us that there aren’t a whole lot of people planning extensive getaways to Bogota at the moment. 🤔

This will be an interesting test case for a lot of other airlines that, unlike the US-based airlines, aren’t lucky enough to receive governmental intervention.

*****

Which “other airlines”? For starters, we know that Virgin Australia entered voluntary administration in Australia two weeks ago after the Australian government declined Virgin’s entreaties for a $888mm loan.

There will be others. Here is Bloomberg suggesting that, due to sovereign issues throughout Latin America, other Latin American airlines are in trouble. In the piece published before Avianca’s chapter 11 filing, they noted:

But while just about everyone agrees it will be up to governments to help save the industry, there’s a disconnect between what’s needed and what nations can -- or even want to -- do. Brazil and Colombia seem willing to step up; Mexico and Chile don’t. Latin America was already the lowest-growth major region in the world and budgets were stretched thin even before oil collapsed and the coronavirus crippled the global economy.

As we now know, Colombia didn’t step up. Which leaves Latin America’s other air carriers in a bad spot, including Latam Airlines Group SA (the finance unit of which has debt bid in the 30s and 40s), Gol Linhas Aereas Inteligentes SA ($GOL)(the finance unit of which has debt bid in the low 40s), and Aerovías de México SA de CV (Aeromexico)(which has debt bid in the 30s). Will one of these be one of the next airlines in bankruptcy court?

*****

The US isn’t the only country to entertain bailouts of airlines. In mid-March, Norway offered 6 billion Norwegian crown ($537mm) credit guarantees to Norwegian Air Shuttle SA ($NWARF). There are strings attached, though. Reuters noted:

To receive the full 3 billion, the company must first persuade creditors to postpone installment payments for loans and forego interest payments for three months.

DNB Markets analyst Ole Martin Westgaard said in a note the package was likely too small, calculating that it would only cover the total cost of grounding all Norwegian Air aircraft for one-and-a-half months.

“We are doubtful the company will be able to attract any interest from a commercial bank at interest rates that would make sense,” Westgaard said.

It is struggling to get it done. In late April, Bloomberg reported:

Norwegian Air Shuttle ASA, the low-cost carrier fighting to qualify for a bailout, presented a plan to relieve part of its heavy debt burden that would largely wipe out existing shareholders and warned most flights would stay grounded until next year.

The airline is racing against the clock to meet terms set by Norway to access the bulk of a 3 billion-krone ($283 million) package in loan guarantees. With most of its fleet grounded, the company has proposed a debt restructuring and capital increase by mid-May that would unlocking [sic] the cash it needs to survive the coronavirus crisis.

The company has debt bid in the low 20s as it attempts to address its conundrum.

*****

On Tuesday, Boeing Corporation ($BA) CEO Dave Calhoun came out blazing. Per Bloomberg:

Boeing Co.’s top executive sees a rocky road ahead for U.S. airlines, saying it’s probable that a major carrier will go out of business as the Covid-19 pandemic keeps passengers off planes.

The recovery is going to be slow, with air traffic languishing at depressed levels for months, Boeing Chief Executive Officer Dave Calhoun said in an interview to be aired Tuesday on NBC. Asked by ‘Today’ show host Savannah Guthrie if a major airline might have to fold, Calhoun replied, “Yes, most likely.” (emphasis added)

Take cover y’all. He continued:

“Something will happen when September comes around,” Calhoun added, referring to the month when the U.S. government’s payroll aid to the airline industry expires. “Traffic levels will not be back to 100%. They won’t even be back to 25%. Maybe by the end of the year we approach 50%. So there will definitely be adjustments that have to be made on the part of the airlines.”

If this happens, the sh*t storm that will be sure to unfurl from those who were anti-bailout will be hard to contend with (though there is something to be said for buying time to make a bankruptcy more “orderly”). The warrants the government received in exchange for the billions of dollars will become worthless exposing them for the mere window dressing they obviously were. Why didn’t the government take a more aggressive approach that both assisted the airlines and shunned moral hazard? Why didn’t it pursue a General Motors-style transaction and serve as effective DIP lender to the airlines in bankruptcy? These are questions that are sure to re-emerge.

*****

When all is said and done, we’re going to have a number of different data points to determine which approach was best. For the next several months, however, the question will remain salient all over the world: to bailout or not to bailout?

🔥F.E.A.R. Part Two.🔥

⚡️What. The. Hell. Part. Two.⚡️

Pardon us: it’s a little hard to write with a neck brace on. This week’s whiplash has us all sorts of flummoxed.

On Monday, the stock market surged 1000 points because … well … who the hell knows? Was President Trump correct last week when he suggested that some of last week’s negative market price action had to deal with the rise of Bernie Sanders? Maybe. On Monday, while the mainstream media simultaneously reported on the consolidation of the moderate democrat lane and new coronavirus-related deaths, the stock market somewhat-inexplicably rocketed higher. Apparently the thought of 2% of the US population succumbing to a painful pneumonia-like death was no longer so frightening now that “the establishment” was rallying against good ol’ Bernie. We know, we know, you’re wondering: is this really the reason? The answer: we have no f*cking idea. But whatevs 🤷‍♀️. The market was green!

Enter the FED. The market was looking mighty volatile again yesterday when the FED came out of nowhere and lowered its benchmark FED Funds rate by 50 bps — acting between meetings for the first time since 2008. We all know what happened that year. Why couldn’t the FED wait two weeks? Chairman Powell said:

“The committee judged that the risks to the U.S. outlook have changed materially. In response, we have eased the stance of monetary policy to provide some more support to the economy.”

In other words, the FED must be seeing some disturbing-AF data that we aren’t privy to yet. Less likely though equally plausible: Jerome Powell continues to be Reek to President Trump’s Ramsey Bolton.

The result? Well, the market rallied for about 1.2 hot seconds and then puked all over itself. It subsequently tumbled 2.8%. The energy sector is now down 23% YTD. The Ten-year treasury yield dipped below 1% for the first time in history.

FOR THE FIRST TIME IN HISTORY. Yes, folks, sh*t is getting real. We’d opine as to “how real” but, again, this is THE FIRST TIME IN HISTORY that this has happened. So, literally nobody knows.

To the extent this extraordinary measure was meant to calm markets, well…

``It’s doubtful that when JP left home this morning he thought ‘50 bp will really crush the stock market.’ So it goes.'' #coronaclientnotes pic.twitter.com/ZuptQoK5Bu

— Eliza Ronalds-Hannon (@ElizaHannon) March 3, 2020

A generation of investors believes that Central Banks are omnipotent and that pre-emptive strikes on financial stress are the solution to every crisis.

Today, that world view is being tested. It could represent a profound shift in the collective consciousness and a new regime.

— Christopher Cole (@vol_christopher) March 3, 2020

Time to extract that gold tooth: it’s going up in value.

You know what else is going up in value? Food. As coronavirus reports spread to multiple cases in NYC, North Carolina and other places, people are stocking up like crazy with an eye towards a potential quarantine situation. Lots of marriage about to get tested, y’all. Netflix and…KILL?!? 😬 Long divorce lawyers.

*****

What does all of this coronavirus disruption mean for restructuring professionals? It’s still far too early to tell. But this doesn’t bode well:

This shows that supplier delivery times are slowing due to China-related issues.

This doesn’t help either:

Ooof. No bueno. Like 2009-level no bueno. Stating the obvious, JPMorgan noted that “…demand, international trade and supply chains were severely disrupted by the COVID-19 outbreak.”

Bottom line: it’s hard to generate revenue (and service debt or comply with covenants) when you don’t have product.

🔥F.E.A.R.🔥

⚡️What. The. Hell.⚡️

This week was a complete and utter sh*tshow. There’s no sugar-coating it. As fears about coronavirus rose, the stock market got absolutely annihilated — the S&P dipped over 11% for the week (one of the most severe declines in history) and the Dow dropped approximately 4000 points — precipitating a rabid shift to safety in the markets: the 10-year treasury hit a record low, dipping below 1.2%. Leveraged loans, meanwhile, got napalmed.

About a month ago 60% of the $1.2T in outstanding US #leveragedloan debt was priced at 100 or better. A week ago it was 38%. After today just 10% of that debt is priced at par #COVID19US #economy pic.twitter.com/1PcVaWjzbU

— Leveraged Loans (@lcdnews) February 27, 2020

Majors like Apple Inc. ($AAPL), Mastercard Inc. ($MA) and Microsoft Inc. ($MSFT) lowered guidance and Goldman Sachs Inc. ($GS) issued a report indicating lowered growth expectations for the year — to zero. Yep, zero. The VIX “fear index” jumped into the 40s after being virtually catatonic for years. Now there’s widespread speculation that the FED will lower rates to stimulate the market — a controversial strategy given (a) the sheer volume of money already flushing through the system and (b) the fear that the FED will be ill-equipped to then address any subsequent recession.

There are a lot of restructuring implications — on both sides of the fence. On one hand, lower interest rates ought to help a number of companies with floating-rate loans. It’s clear that the rising interest rate catalyst that many expected — and the FED quickly shot down last year — is nowhere near becoming reality. Secondly, oil and gas prices are getting smoked and given that those commodities constitute huge input costs, companies will see some savings there. Theoretically, lower oil and gas prices should also help stimulate the consumer which, we all know, had been carrying both the economy and stock prices to recent (clearly inflated) highs.

That is, unless they stay home and do nothing other than watch Netflix ($NFLX) and Disney+ ($DIS) and order bottled water and canned goods from Amazon ($AMZN) and Walmart ($WMT) — assuming, of course, that third-party fulfillment isn’t affected by supply chain disruption. Interestingly, both the consumer staples and discretionary spending ETFs are down over 10%. And the former more than the latter, which, when there’s a flight to safety pushing treasury rates down, doesn’t make much sense. So 🤷‍♀️. Corporations are, one by one, curtailing business travel, cancelling conferences, and encouraging stay-home work as advisories abound about congregating in mass group settings. This is impacting the airlines and movie theaters, naturally. The MTA ought to see a decline in ridership which ought to dig a bigger budget deficit hole (PETITION Note: Is NYC f*cked?).

Transports are getting smoked too. SupplyChainDive writes:

The COVID-19 outbreak and resulting quarantines have led to a record number of blank sailings, according to the latest figures from Alphaliner. Inactive fleet size has swelled to 2.04 million TEUs or 8.8% of global capacity. The decline is greater than the 1.52 million TEUs of canceled capacity during the 2009 financial crisis, the previous record, 11.7% of the total fleet at the time.

The Ports of Los Angeles and Long Beach are facing 56 canceled sailings over the first three months of the year, the ports told Supply Chain Dive.

Note that we had previously asked “Short the Ports?” in “🚛Dump Trucks🚛” here.

Here is The Washington Post highlighting a world of hurt at the ports:

…shipping container traffic both coming and going from the ports of Los Angeles and Long Beach has been sliding at an average rate of 5.7 percent a month since the beginning of last year….

Port of Los Angeles is projecting a 25% drop in container volumes this month, as the economic impact of the coronavirus spreads across shipping operations and foreign supply chain. Imagine if 1 in 4 goods imported from Asia suddenly stopped coming. Impact just starting.

— Eric Lipton (@EricLiptonNYT) March 1, 2020

Pour one out for the shippers.

Of course, none of this is positive for sectors that are already massively struggling, i.e., restaurants. Nor retail. Per CNBC:

If the coronavirus spreads in the U.S., that could mean really bad news for U.S. mall owners, according to a survey taken this week.

The survey by Coresight Research found that 58% of people say they are likely to avoid public areas such as shopping centers and entertainment venues if the virus’ outbreak worsens in the United States. The group surveyed 1,934 U.S. consumers 18 and older.

The survey was taken Tuesday and Wednesday — before California said it was monitoring 8,400 people for COVID-19.

Back to energy. Energy bonds are getting smoked as massive outflows flee the sector.

Some violent moves in energy junk bonds. One example: Whiting Petroleum bonds have lost almost half their value in a month, losing 12.5 cents on the dollar today alone. pic.twitter.com/8Neb8ltmz0

— Lisa Abramowicz (@lisaabramowicz1) February 27, 2020

Today it's like the Sorcerer's Apprentice here, with alerts flooding in every few minutes on outsized drops and new record lows for #distresseddebt bonds. The drought for the #restructuring and #bankruptcy advisers may be over.

— Rick Green (@RickGreenNYBiz) February 28, 2020

OPEC meets next week to discuss a massive production cut. From a restructuring perspective, it’s likely irrelevant at this point.

We’re heading into redetermination season for oil and gas explorers and producers and, given the rapid decline in oil and gas prices, banks are likely to take a stern stance vis-a-vis borrowing base levels. That ought to help usher in another wave of oil and gas restructuring.

Hold on to your hats, folks.

🇨🇦Oh Canada (Short Mary Wanna)🇨🇦

If we were to be accused — and we haven’t really — of being too US-centric we would be…well…GUILTY AF. We admit it: we act like snobby Americans — like the rest of the world doesn’t really exist. Shockingly, though, it does. Who knew?😜

One thing that caught our eye recently is the apparent proliferation of cannabis-related distress in Canada — something that, due to federal law limitations, you couldn’t see…at least in court…in the United States.

On December 2nd, an Ontario-based company called AgMedica Bioscience Inc. filed a CCAA proceeding to give itself some breathing room and access much needed DIP capital. The company obtained a $7.5mm DIP credit facility from a Canadian lender, Hillmount Capital Inc., and seeks to use the bankruptcy to restructure several tranches of secured and unsecured debt.

What’s interesting is the timeline. In late 2018, everyone thought cannabis was going to be a 21st century gold rush. Canopy Growth Corporation ($CGC) was reportedly the first federally regulated and licensed cannabis producer to trade on a public exchange in Canada (artfully under the ticker “WEED”) and then went public in the United States in May 2018. The stock opened around $26/share and then rocket-shipped to as high as $52.74. It has since come WAY BACK DOWN TO EARTH and trades here:

Similarly, Tilray Corporation ($TLRY) went public in June 2018, debuting on Nasdaq at $17/share. Here is the chart since then:

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🚂Manufacturing (Short the Railroads?)🚂

We were surprised to hear certain Representatives boast about US manufacturing growth during the impeachment hearings. We stopped in our tracks: “wait, what?” As we noted on Wednesday, the ISM Manufacturing numbers tell a different story — a contraction story.

But, to be fair, there are other surveys. The recent IHS Markit index painted a different picture. This Axios piece discusses the difference between the two surveys and is worth a quick read. The ISM survey includes fewer participants and “…uses five components, each weighted evenly at 20% — new orders, production, employment, supplier deliveries and inventories.” The IHS survey “…uses a weighted average that gives greater importance to new orders (30%), output (25%) and employment (20%), and lower weighting to suppliers’ delivery times (15%) and stocks of purchases (10%).” The bottom line is that if the former is correct, the US economy may be f*cked; if the latter is more accurate, the economy is expanding.

Now, granted its a small data set but the current trucking situation (see Wednesday’s “🚛Dump Trucks🚛“) seems to reflect, at least in part, a slowdown in manufacturing (among other things, including the effect of tariffs and shipping). But what about the railroads?

In November, rail carloads declined 7.5% YOY, led primarily by coal (⬇️ 14.5%) and primary metal products (⬇️ 15.1%). Per Logistics Management:

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🚛Dump Trucks🚛

Manufacturing, Trucking & the Ports

We’re old enough to remember a narrative that went something like this:

• Amazon Inc. ($AMZN) is dominating retail with 2-day (now 1-day) shipping +

• Traditional brick-and-mortar retailers are converting to e-commerce +

• Digitally-native-vertical-brands are cutting out brick-and-mortar and going direct-to-consumer =

• Increased need for logistics and shipping capabilities.

Because of these developments, among others, this country — it was said — was suffering from a trucking shortage relative to the demand and so wages rose rapidly and seemingly every retailer reported that rising shipping expenses were harming the bottom line. Given this, you’d think truckers would be crushing it.

Maybe…not? At least anymore.

In August we noted the following:

ACT research reflects two straight quarters of negative sector growth and DAT reported a 50% decline in spot market loads, with no category immune to the declining trend. Van load-to-truck is down 50%, flatbed load down 74.5% and reefer load down 55.5%. Some fear this may be a leading indicator of recession. Alternatively, it may just be the short-term effects of tariffs and the acceleration of orders into earlier months to avoid them. 

Still, the trucking industry is worried. 

Van spot rates were down 18.5%, flatbed spot rates down 18.4%% and reefer spot rates down 16.8%. The word “bloodbath” is now being bandied about. Per Business Insider:

“There has been a spate of trucking companies declaring bankruptcy this year, too. The largest was New England Motor Freight, which was No. 19 in its trucking segment. Falcon Transport also shut down this year, abruptly laying off some 550 employees in April.

"We have become increasingly convinced that freight is likely to remain weak through 2019 followed by falling truckload and intermodal contract rates in 2020," the UBS analyst Thomas Wadewitz wrote to investors in a June 18 note.

Trucking's biggest companies have been slashing their outlooks. Knight-Swift and Schneider both cut their annual outlooks earlier this year.”

Will this trend continue as manufacturing numbers continue to slip?

That was a good question. And, indeed, manufacturing does continue to slip — at least according to the ISM Manufacturing PMI report:

With the foregoing context, take some more recent news:

1. Hendrickson Truck Lines Co.

The family-owned trucking company recently filed for bankruptcy in the Eastern District of California (a chapter 22, actually). The company is on the smaller side: liabilities between $10-50mm; roughly 90 trucks and 100 drivers; operations in 10 states. Per FreightWaves:

“The company said its financial problems started in January with a sharp decline in overall freight tonnage. This, combined with excess truck capacity, resulted in a 21% rate drop compared with 2018, resulting in a $400,000 per month revenue drop, according to its petition.  

Two of the carrier’s top customers, which accounted for nearly 50% of its business, switched to lower-cost providers, the company said.” (emphasis added)

The company also blamed a poor truck leasing deal for its filing.

2. Truck Orders Are Down

The Wall Street Journal recently reported:

Order books for heavy-duty truck manufacturers are thinning out as a weaker U.S. industrial economy pushes fleet operators to put the brakes on plans to expand freight-carrying capacity.

Trucking companies in November ordered 17,300 Class 8 trucks, the big rigs used in highway transport, according to a preliminary estimate from industry data provider FTR. That was down 39% from November 2018 and a 21% decrease from October, providing a weak start for what is typically the busiest season for new-equipment orders.

The orders last month were the lowest for a November in four years, and analysts said they expect a backlog at factory production lines that has been dwindling this year to pull back even more.

It continued:

Truck-equipment makers have started scaling back production and laying off workers this year as demand for new trucks has weakened.

Daimler Trucks North America LLC said in October it planned to lay off about 900 workers at two North Carolina Freightliner plants as “the market is now clearly returning to normal market levels.”

Engine-maker Cummins Inc. cut its annual revenue forecast in October and the company last month said it plans to lay off about 2,000 workers early next year. “Demand has deteriorated even faster than expected, and we need to adjust to reduce costs,” the Columbus, Ind.-based manufacturer said in a statement.

What’s going on here? Well, yes, manufacturing is down. But “global trade tensions are weighing on transportation demand.” More from the WSJ:

U.S. factory activity contracted in November for the fourth straight month, according to the Institute for Supply Management.

Freight volumes and trucking prices have been on the decline. U.S. domestic freight shipments fell 5.9% in October compared with the same month last year, while truckload linehaul rates were down 2.5% year-over-year, according to Cass Information Systems Inc., which handles freight payments for companies.

🤔

3. Trade, Declining Truck Orders, and Imports (Short the Ports?)

We’re curious: if tariffs and trade wars are trickling down to trucking, what must this mean for ports in this country? Per Transport Topics:

Three West Coast ports saw significant drop-offs in cargo volume last month, the latest indication that the United States’ long-simmering trade dispute with China is impacting operations at the nation’s ports.

The Port of Los Angeles, the nation’s busiest facility, saw a 19.1% decline in 20-foot-equivalent units (TEUs) container volume, moving 770,188 compared with 952,553 in the same period a year ago. Imports and exports were both down 19%. The drop-off also means the Los Angeles port is 90,697 TEUs behind last year’s record pace, having processed 7,861,964 TEUs through the first 10 months, compared with 7,723,159 at this point last year.

Port Executive Director Gene Seroka and other officials were in Washington on Nov. 12, and he is sounding the alarm over the damage being done to the economy because of the ongoing trade battle and the resulting tariffs on hundreds of billions of dollars worth of products.

And this, apparently, isn’t isolated to the West Coast:

Rough October at Port of NY&NJ as loaded container imports fell slightly and loaded exports dropped 2.7%. The fall's East Coast shipping surge didn't get that far.

— Paul Page (@PaulPage) December 3, 2019

Will we start seeing some port distress in the near future? Fewer trucks and fewer trains mean lower revenue. 🤔

4. Celadon Group Files for Bankruptcy

Indianapolis-based Celadon Group Inc. ($CGIPQ) is a truckload freight services provider with a global footprint. Founded in 1985, the company professes to have pioneered the commerce trail between the United States and Mexico. Thereafter, it IPO’d and used the proceeds for growth capital, expanding its freight-forwarding business with the acquisition a UK-based company and another 36 companies thereafter. Not only did these acquisitions expand its geographic footprint, but they also expanded the company’s freight capabilities, opening up revenue possibilities attached to refrigerated and flatbed transportation. In all, today the company operates a fleet of 3300 tractors and 10000 trailers with 3800 employees. Its primary focus continues to be NAFTA countries; its customers include the likes of Lowes Companies Inc. ($LOW), Philip Morris International Inc. ($PM), Walmart Inc. ($WMT), Fiat Chrysler Automobiles NV ($FCAU), Procter & Gamble Inc. (($PG) and Honda Motor Co Ltd. ($HMC).  

All of the above notwithstanding, it is now a chapter 11 debtor. Worse yet, it will, in short order, wind down and no longer be in existence. In an instant, the aforementioned 3800 employees’ livelihoods have been thrown into disarray.

Not that the signals weren’t there. The company has been in trouble for some time now. In addition to macro woes, it has a large number of self-inflicted wounds. 

Back in July, the company teetered on the brink of bankruptcy but it bought itself a short leash. On July 31, 2019, the company refinanced its term loans held by Bank of America NA ($BAC), Wells Fargo Bank NA ($WFC) and Citizens Bank NA ($CFG) with a new facility agented by Blue Torch Finance LLC* that counted Blue Torch and Luminus Partners Master Fund as lenders.** The new lenders provided $27.9mm of new term loans and, in exchange, received $8mm in original issue discount and fees. The banks, it appears, got out just in the knick of time. Indeed, the company and its lenders have been engaged in an endless stream of negotiations, concessions and waivers ever since: the credit docs have been amended ad nauseam ever since the initial transaction because the company was in constant danger of breaching its covenants.

Why so much drama? Per the company:

“The need to file these chapter 11 cases was a result of a confluence of factors including industry-wide headwinds, former management bad acts, an unsustainable degree of balance sheet leverage and an inability to address significant liquidity constraints through asset sales and other restructuring strategies. In mid-2019, the trucking freight market began to soften. The combination of a decline in overall freight tonnage and excessive truck capacity in the market led to a significant decline in freight rates, and customers began to take bids at lower freight rates. Compared to the year immediately prior, 2019 showed a steady decline in freight rates, including spot freight rates and contractual rates. In addition to declining freight rates, volumes of loads in freight have experienced decreasing numbers for a significant portion of 2019.”

Sound familiar? Well, these issues alone should have been enough to present problems but they were accentuated by the fact that the company’s prior senior management allegedly engaged in some shady a$$ sh*t. That shady a$$ sh*t ultimately led to a Deferred Prosecution Agreement and a $42.2mm fine. While only $5mm has been paid to date, that $37mm overhang is substantial.

With all of these issues piling up, the company ultimately defaulted on its revolver. Consequently, MidCap Financial Trust, the company’s revolver lender, froze lending and the company’s already-growing liquidity problem became a wee bit more problematic. With barely enough money to fund payroll and payroll taxes, the company had no choice but to file for chapter 11. To put an exclamation point on this, the company had merely $400k of cash on hand when it pulled the trigger on bankruptcy. 

So what now? The company ceased operations and will commence an orderly wind down of its businesses, preserving only Taylor Express Inc. as a going concern. Taylor Express is a NC-corporation that the company acquired in 2015; it is a dry van and dry bulk for-hire services provider, operating principally for the tire and retail industries and primarily in the South and Southeast regions of the US. To fund the cases, the debtors secured a commitment from Blue Torch for $8.25mm in DIP financing. The DIP mandates that any sale order relating to the liquidating business be entered by January 22. 

As for the employees? Well: 

Yeah, they’re understandably pissed. For starters, they were laid off en masse with no notice. One employee, on behalf of all employees, filed an Adversary Complaint alleging a violation of the WARN Act, which requires 60 days’ advance written notice of a mass layoff and/or plant closing. In response, the truckers have formed a “Celadon Closure Assistance and Jobs” group on Facebook. It has 1300 members. Per Fast Company, 

“Truckers in [a] Facebook group are posting about having 20 minutes to clear out their trucks and go. CBS also reported that some drivers “were stranded when their company gas cards were canceled.”

YIKES. All told, this is a hot mess. Per SupplyChainDive:

“’This is noteworthy because of the size of the fleet,’ Donald Broughton, the principal and managing partner at Broughton Capital, told Supply Chain Dive in an interview.  ‘It’s noteworthy because less than 10 years ago Celadon was known as one of the most active, prolific and successful at salvaging small fleets that were struggling and in trouble.’

The failure of Celadon represents the largest trucking failure this year and ‘certainly one of the largest in history,’ Broughton said.”  

“Largest [insert industry here] failure” is not an honor that anyone wants.

*Blue Torch Finance LLC was also active in another DLA Piper LLP bankruptcy, PHI Inc., as DIP lender. 

**Blue Torch hold a priority right of payment on the term loan collateral with Luminus second and revolver lender, MidCap Financial Trust, third. 

💩Retail, the Internet, China & Counterfeiting (Long Unscrupulousness).💩

This is a story about S’well. It illustrates just how vicious competition is today. And made even more vicious by (i) “signaling” and ease of discovery (lots of likes on Instagram), (ii) shady-AF Chinese manufacturers (producing legit product by day, extra off-the-truck product by night), and (iii) Amazon Inc.’s ($AMZN) failure to police third-party sellers. Choice bit:

Counterfeiting is an old game: In ancient Rome, counterfeiters knocked off authentic Roman coins. In recent decades, counterfeits of luxury products like handbags, watches, and sneakers have become commonplace. Now, though, online marketplaces like Amazon and social-media sites like Facebook and Instagram are enabling a new copycat ecosystem that’s become a hall of mirrors for both brands and shoppers. It’s never been easier for makers of knockoffs to reach consumers, project authenticity, and make money — and it’s never been harder for the real companies to regain control.

This is crazy:

…less than a year into starting the business, Kauss realized she had a big problem. Kauss and her then-boyfriend Jeff Peck (now her husband and the company’s president) were heading to S’well’s factory in China when they stopped for a couple days’ vacation in Hong Kong. Kauss saw there was a trade show and insisted on stopping by. When she arrived, it appeared that S’well had a significant presence at the show, with bottles displayed in a case and a ribbon flaunting an award it had apparently won. “A man came over to me and gave me his business card, very properly, and said he was from S’well,” she says. His card had S’well’s logo on it, with the little TM for ”trademark.”

The problem: Kauss at that point was running S’well from her apartment. It had no presence in Asia. Nor did it have a sales rep there. And it had no employees besides Kauss. She had barely gotten the company off the ground, and her bottles were being knocked off.

What. The. Hell. Read the piece. It’s long. And nuts.

But that’s not all. This is a horribly pervasive problem:

Last year, when the Government Accountability Office bought 47 consumer products like cosmetics and travel mugs online from third-party sellers on sites including Amazon.com and Walmart.com, it determined that 20 of them were fakes.

Here’s the problem from another vantage point (also very much worth reading):

I've been talking to a friend who's a cofounder at a womenswear ecommerce startup about their content strategy. I searched around to see what kind of stuff is out there about them (press mentions, reviews, etc.), and stumbled upon something odd. On a Bustle.com top ten sex toys list, it had listed a product from their brand. They do not sell sex toys. I clicked through, and it led to an Amazon site with their company’s branding. They do not sell on Amazon.

It turned out a China-based seller had “hijacked” their brand. This is apparently a regular thing.

A few days later, when visiting my friend's office, I found out that they had one staff member dedicated to monitoring Amazon for exactly these situations. There was a big spreadsheet where they tracked various culprits. There was a specific contact at Amazon they would call when they found shady stuff like this. They had a lawyer they billed, and a process in place to deal with this. It cost time and money and it was a never-ending game of whack-a-mole. It had become such an increasingly frequent problem over the past few years, yet they seemed fairly blasé about it. It was just business as usual.

I understand counterfeiting has always been a problem in retail, but this felt different. Amazon was their competitor. It had launched a private label brand that directly competed, undercutting them on price and shipping speed. Yet, Amazon also sold counterfeit items of theirs (well, Amazon “facilitated” it) and the startup bore the cost of cleaning up the trillion dollar company’s platform. I guess this was how ecommerce worked in 2019.

The article goes on to explain that this is the natural side effect of Amazon’s concerted efforts to court Chinese sellers to its platform. It explains the lack of quality control and…..

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⚡️Update: Destination Maternity Inc. ($DEST)⚡️

Speaking of ugly…

In the aforementioned October CBL update, we wrote:

The last thing CBL needed — on the heals of the downgrade — was near-instantaneous bad news. It got it this week.

Yesterday, the bankruptcy court granted interim approval authorizing Destination Maternity Corporation ($DEST) to assume a consulting agreement with Gordon Brothers Retail Partners LLC. Gordon Brothers will be tasked with multiple phases of store closures. Among those implicated? CBL, of course:

CBL is landlord to DEST on 16 properties that are slated for rejection. Considering that DEST cops to being party to above-market leases, this ought to result in a real economic hit to CBL as (a) it will lose a high-paying tenant, (b) it will take time to replace those boxes, and (c) it is highly unlikely to obtain tenants at as favorable rents.

Let’s pour one out for CBL, folks. The hits just keep on coming.

On Friday, Destination Maternity filed a motion seeking approval of a stalking horse bidder for its assets. In September’s “🤔Is it a "Destination" if Nobody Goes?🤔,” we concluded:

And so we’ll have to wait and see whether Greenhill can pull a rabbit out of their hats. Unfortunately, this is looking like another dour retail story. This looks like a liquidating ABL if we’ve ever seen one.

According to the motion, Greenhill dug deep. They reached out to over 180 potential buyers, executed 50 CAs, and granted due diligence access to nearly two dozen parties.* They also conducted 8 management presentations with potential bidders. If you’ve ever wondered why investment bankers make what they make, this ought to illustrate why: it can be a lot of work trying to garner interest and herd cats. Then again, they did accept a mandate where there was a questionable likelihood that the asset value would clear the debt. 🤔

Unfortunately, the result is not — as predicted — particularly stellar. To be clear, this isn’t a reflection upon Greenhill. This was a difficult assignment in a challenging retail environment: it’s a reflection of that.

And so Marquee Brands LLC** and a contractual joint venture between Hilco Merchant Resources LLC and Gordon Brothers Retail Partners LLC (together, the “Agent”) entered into an asset purchase agreement (APA) with the debtors pursuant to which they will purchase “the Debtors’ e-commerce business, intellectual property, store-in-store operations, and the right to designate the sale of certain inventory and related assets” for an estimated $50mm (subject to adjustments). Repeat: an estimated $50mm. The Agent will liquidate the company’s inventory, fixtures and equipment and conduct store closing sales at the 235 stores where closing sales are not already in process. Said another way: the company’s retail footprint is going the way of the dodo. Clearly this isn’t credit positive for CBL and other landlords.

To refresh everyone’s recollection, here is what the company’s capital structure looked like at the time of its bankruptcy filing:

We previously noted when highlighting the aggressive milestones baked into Wells Fargo Bank’s consent to use its cash collateral:

Wells clearly wants this sucker off its books in 2019.

Rightfully so. The $50mm purchase price is subject to a $4mm holdback. In other words, the actual value transfer may be approximately $46mm. That puts the purchase price at riiiiiiiiiiiiight around Wells Fargo’s exposure. Its aggressive handling of the case appears to be warranted: this thing looks a hair away from administrative insolvency.

Apropos, the official committee for unsecured creditors — in a grasp for some sort of relevance here — filed a limited objection to the motion. The committee argued that the break-up fee (3.5%) and expense reimbursement (up to $750k) were unwarranted given the size of the bid and the lack of a going concern offer.

They were shot down. They did, however, wrestle some concessions. They apparently got the purchase price increased by $225k (in exchange for avoidance actions) and an additional $225k to be paid to 503(b)(9) admin claimants prior to Wells getting its money. A small victory but something for some creditors here.

And that ladies and gentlemen is what bankruptcy boils down to. Is there value? And if so, who gets it? Here, it’s hard to see any real winners. Not the company. Not Wells. Not CBL and the company’s other landlords. Not vendors. Or suppliers. Or employees. Or, really, even the professionals (for once). Time will tell whether Marquee can do something with this brand that makes it one of the rare winners. It’s not clear from the papers how much of the $50mm is attributable to them and, therefore, how much they’re putting at risk. Clearly nobody else was comfortable with the risk here. However you quantify it.

*At the time of filing, the numbers were 170 parties contacted and 34 executed CAs. So, there wasn’t much additional interest in the assets post-filing.

**Marquee Brands also owns BCBG which, itself, traversed the bankruptcy process not long ago.

💥Good Retail Numbers. Bad Malls.💥

⚡️Update: CBL & Associates Properties ($CBL)⚡️

We did a deep dive into Tennessee-based CBL & Associates Properties ($CBL) back in March’s “Thanos Snaps, Retail Disappears👿” and, in the context of Destination Maternity’s bankruptcy filing, followed-up in an October update. To refresh your recollection, CBL is a real estate investment trust (REIT) that invests primarily in malls based in the southeastern and midwestern US. At the time of the aforementioned “Thanos” piece, the REIT’s stock was trading at $1.90/share; its ‘23 unsecured notes were priced around $80 and its ‘24 unsecured notes around $76. In case you haven’t noticed — all Black Friday ($7.4b in online sales, $2.9b via mobile ordering) and Cyber Monday (a record $9.2b) talk about gangbusters retail sales notwithstanding — the malls haven’t particularly fared much better since Q1. To put an exclamation point on this, early reports are that brick-and-mortar stores saw an overall 6% decline in sales over Black Friday.

When it reported Q3 earnings at the end of October, CBL’s numbers weren’t pretty. Revenue fell approximately $20mm YOY, net operating income declined 5.9% YOY, and same-center mall occupancy, while up on a quarter-by-quarter basis, was down 200 basis points YOY.

On Monday, the company announced that “it is suspending all future dividends on its common stock, 7.375% Series D Cumulative Redeemable Preferred Stock and 6.625% Series E Cumulative Redeemable Preferred Stock.” The company’s CEO, Stephen Lebovitz said:

“We anticipate a decline in net operating income in 2020 as a result of heightened retailer bankruptcies, restructurings and store closings in 2019. Offsetting these declines by retaining available cash is necessary to maintain the market dominant position of our properties and to reduce debt. CBL has also made significant efforts over the past 18 months to reduce operating costs, including executive compensation and overall corporate G&A expense, as well as execution of a strategy to utilize joint venture and other structures to reduce capital expenditures. Ultimately, we believe these actions will allow the Company to return greater value to its shareholders.”

Given the above, it’s worth revisiting the alleged benefit of REITs to investors. Among them are that:

• post 1960, REITs provided small investors with an opportunity to benefit from commercial property rental streams; and

• they are, typically, high dividend payers — considering that by law, they must distribute at least 90% of their taxable income to shareholders as dividends.

WOMP. WOMP. Not so much these days, it seems. But, we bet you’re asking: how can it terminate its dividend while maintaining its REIT status? From the company:

“The Company made this determination following a review of current taxable income projections for 2019 and 2020. The Company will review taxable income on a regular basis and take measures, if necessary, to ensure that it meets the minimum distribution requirements to maintain its status as a Real Estate Investment Trust (REIT).”

Umm, that doesn’t portend well. The answer is: it may not have “taxable income.” B.R.U.T.A.L.

How did the market react?

The stock market puked on the news. The stock was down 6% with a general market drawdown, but after-hours, upon the announcement, the stock gave up an additional ~30% on Monday and closed at $1.02/share on Tuesday:

Meanwhile, the preferred stock also obviously traded down (lots of Moms and Pops chasing yield, baby yield, getting burned here), and the ‘23 unsecured notes and the ‘24 unsecured notes, at the time of this writing, last sold at $72.75 and $64.1, respectively.

The GIF above says it all about this story. And, worse yet: it may get uglier.

🛏KKR Tips Hand re Art Van Furniture (Short Midwest Mattresses)🛏

n “💩Acosta = Not a Good Look, Carlyle💩,” we noted how FS KKR Capital Corp ($FSK), a publicly-traded business development corporation placed its Acosta Inc. loan “on nonaccrual” because it was, well, clearly sh*tting the bed. Ultimately, after riding the mark down to the basement, FSK offloaded the position. It wasn’t the only stain in its portfolio. In fact, as of the end of the third quarter, approximately 1.7% of the portfolio was on nonaccrual, up from 1.2% at the end of Q2. While this, in and of itself is hardly alarming, it does mean that there are other potential restructurings sitting on FSK’s books. Indeed, one loan contributing to this uptick was to a company called Art Van Furniture.

Founded in 1958, Michigan-headquartered Art Van Furniture is a furniture retail store chain with approximately 190 company-owned stores in nine states operating, thanks to various tack-on acquisitions, under various brands: Art Van Furniture, Art Van PureSleep, Scott Shuptrine Interiors, Levin Furniture, Levin Mattress and Wolf Furniture. The tack-on acquisitions were, presumably, part of the company’s growth strategy after being acquired by private equity overlords Thomas H. Lee Partners.

The Columbus Dispatch recently reported on Art Van’s strategy annnnnnnd it’s definitely a bit counter-intuitive:

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🐝Reality Check: Honey🐝

Paypal Inc. ($PYPL) made a big splash this week when it agreed to a $4b cash and stock acquisition of Honey, an LA-based deal-finding browser extension and mobile app. Yes, $4 BILLION. The company had only raised $49mm in funding soooooo…a lot of people just made one crazy return on investment.

Speaking of crazy, the company reportedly made “more than $100 million in revenue last year and it was profitable on a net income basis in 2018.” Profitably for a startup these days is crazy enough, we suppose, but THAT MULTIPLE. Holy

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⚡️Ride-Sharing is Vicious (Long Matchsticks)⚡️

Starting in 2016, Juno USA LP, a NY-centric ride-hailing company was able, in just 3.5 years, to become the third largest ride-hailing business in New York, counting 50k contracted drivers and 50k rides per day as key business drivers (pun intended). Now it is kaput. The company filed for bankruptcy earlier this week.

At its inception, the company differentiated itself by offering drivers restricted stock units (“RSUs”) “with the expectation that such an approach would result in an overall enhanced driving experience for drivers and, in turn, riders.” This is interesting because, obviously, it incentivizes drivers to be more attentive to Juno rides than Lyft and/or Uber but it obviously doesn’t address the demand side of the marketplace function. 50k rides per day sounds like a lot. Yet, it pales in comparison to its competition: according to the Taxi and Limousine Commission, in 2018, Uber Inc. ($UBER) tallied 400k trips per day in NYC and Lyft Inc. ($LYFT) collected 112k trips per day. Moreover, NYC taxis typically make about 300k trips per day. In total these are staggering numbers — even more so when you consider that taxis are going bankrupt in record-breaking numbers and Uber and Lyft are losing money like crazy (Uber’s loss, ex-stock-based compensation, was $800mm last quarter!). Ultimately, that differential compelled a merger of rivals: Israel-based GT Forge, d/b/a Gett, acquired Juno in Q2 ‘17 and transferred its riders to Juno. At the same time, Juno cashed out the driver RSUs, using other incentives (read: higher commissions of 10%) to maintain its supply-side.

As we all now know from the WeWork debacle, financial metrics for high growth startups are different than what restructuring professionals are used to. EBITDA is a foreign concept here: “success” is measured by revenue growth. Here’s Juno’s revenue trend:

• $218mm in 2017;

• $269mm in 2018 (23% growth) 😀; and

• $133mm in 2019. 😬

Juno does not, however, indicate what its operating costs and expenses were; it merely serves up excuses about early stage capital requirements and the need for monthly cash infusions from Gett. Over time, however, the operating expense burden coupled with “burdensome local regulations and escalating litigation defense costs” led to a 2019 YOY revenue decline of 34%. What the net loss was, however, is left unsaid in the company’s bankruptcy papers.

The litigation runs the gamut. The company has been sued by (a) former drivers for the termination of the RSU program (read: securities fraud); (b) riders for personal injuries allegedly caused in accidents during active Juno rides; (c) competitors for patent infringement; and (d) drivers, alleging that they are employees rather than independent contractors. It’s pretty hard to grow a business when you’re getting sued into oblivion and have poor business fundamentals. 👍

The City of New York really didn’t help those fundamentals. The company’s bankruptcy papers elucidate ride-hailing economics after NYC imposed mandatory minimums of $17.22/hour regardless of the number of rides undertaken during that time (something that Uber and Lyft continue to combat, including by freezing drivers out of the apps during low-demand times, something that irks the hell out of Bill De Blasio, apparently). Here’s how it works:

• Drivers are entitled to a minimum of $0.58/mile + $0.27 per minute. “Each of these figures is separately divided by a so-called “utilization rate,” which is calculated based on the frequency that a TNC sends trips to drivers while they are available for work. The current industrywide average utilization is 58%.” (Petition Note: this also means that 42% of the time, drivers are just moving around clogging up NYC streets).

• So, for a 10-mile trip that takes 30 minutes, you end up with:

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💥Is Wyoming F*cked? (Short Chesapeake Energy Corp.)💥

Governor Mark Gordon released his Wyoming State Budget for 2021-2022 earlier this week and — whoa boy — he cuts right to the chase:

It is a budget intended to prepare our state to meet the coming storm head-on.

For most of the last century, Wyoming’s abundant coal, natural gas, oil, and other minerals have been the drivers of our economy; employing thousands; funding schools and government services; and stabilizing our state’s communities. Energy development, minerals, and the sovereign wealth they have bequeathed to our children have kept taxes low for citizens. But times are changing. Over the past few years we have witnessed an upheaval in the way energy is being generated, used, and developed. These changes seem to be accelerating and are not generally favorable to some of our most cherished industries. (emphasis added)

He then goes on to highlight some pretty hefty headwinds (pun intended) — things that should be no surprise to a restructuring community that has watched coal company after another file for chapter 11 bankruptcy:

• Coal production in Wyoming has declined by 35%.

• Natural gas companies are halting drilling there.

• 38 states have established renewable and carbon-free standards which hurts demand.

• Wyoming has an oil and gas energy but low oil prices will offset whatever hedge this provides against declining coal.

"Even if we get out of this current downturn with oil bailing us out, the economy becomes more and more dependent on oil, which is the most volatile of all of the commodities and the one that we are least confident with forecasting into the future," said Robert Godby, director of the University of Wyoming Center for Energy Economics and Public Policy.

To point, Chesapeake Energy Corp. ($CHK), a large presence in Wyoming, issued a going concern warning earlier this month:

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💩Acosta = Not a Good Look, Carlyle💩

Disruption Flummoxes Carlyle. Destroys Billions of Value.

Back in September 2018’s “Trickle-Down Disruption from Retail Malaise (Short Coupons),” we noted a troubled trio of “sales and marketing agencies.” We wrote:

With the “perfect storm” … of (i) food delivery, (ii) the rise of direct-to-consumer CPG brands, (iii) increased competition from private-brand focused German infiltrators Aldi and Lidl, and (iv) the increasingly app-powered WholeFoods, there are a breed of companies that are feeling the aftershocks. Known as “sales and marketing agencies” (“SMAs”), you’d generally have zero clue about them but for the fact that you probably know someone who is addicted to coupon clipping. Or you’re addicted to coupon clipping. No shame in that, broheim. Anyway, that’s what they’re known for: coupons (we’re over-simplifying: they each perform other marketing, retailing, and data-oriented services too). The only other way you’d be familiar is if you have a private equity buddy who is sweating buckets right now, having underwritten an investment in one of three companies that are currently in distress. Enter Crossmark Holdings Inc., Acosta Inc., and Catalina Marketing (a unit of Checkout Holding Corp.). All three are in trouble.

What’s happened since?

• Catalina Marketing filed for chapter 11 bankruptcy. ✅

• Crossmark Holdings Inc. effectuated an out-of-court exchange transaction, narrowing averting a chapter 11 bankruptcy filing. ✅

• And, as of last week, Acosta Inc. launched solicitation of a prepackaged chapter 11 bankruptcy filing. It will be in bankruptcy in the District of Delaware very very soon. We’ve basically got ourselves an SMA hat-trick. ✅💥

Before we dive into what the bloody hell happened here — and it ain’t pretty — let’s first put some more meat on those SMA bones. In doing so, mea culpa: we WAY over-simplified what Acosta Inc. does in that prior piece. So, what do they do?

Acosta has two main business lines: “Sales Services” and “Marketing Services.” In the former, “Acosta assists CPG companies in selling new and existing products to retailers, providing business insights, securing optimal shelf placement, executing promotion programs, and managing back-office order-to-cash and claims deduction management solutions. Acosta also works with clients in negotiations with retailers and managing promotional events.” They also provide store-level merchandising services to make sure sh*t is properly placed on shelves, stocks are right, displays executed, etc. The is segment creates 80% of Acosta’s revenue.

The other 20% comes from the Marketing Services segment. In this segment, “Acosta provides four primary Marketing Services offerings: (i) experiential marketing; (ii) assisted selling and training; (iii) content marketing; and (iv) shopper marketing. Acosta offers clients event-based marketing services such as brand launch events, pop-up retail experiences, mobile tours, large events, and trial/demo campaigns. Acosta also provides Marketing Services such as assisted selling, staffing, associate training, in-store demonstrations, and more. Under its shopping marketing business, Acosta advises clients on consumer promotions, package designs, digital shopping, and other shopper marketing channels.”

In the past, the company made money through commission-based contracts; they are now shifting “towards higher margin revenue generation models that allow the Company to focus on aligning cost-to-serve with revenue generation to better serve clients and maximize growth.” Whatever the f*ck that means.

We’re being flip because, well, let’s face it: this company hasn’t exactly gotten much right over the last four years so we ought to be forgiven for expressing a glint of skepticism that they’ve now suddenly got it all figured out. Indeed, The Carlyle Group LP acquired the company in 2014 for a staggering $4.75b — a transaction that “ranked … among the largest private-equity purchases of that year.” Score for Thomas H. Lee Partners LP(which acquired the company in 2011 from AEA Investors LP for $2b)!! This was after the Washington DC-based private equity firm reportedly lost out on its bid to acquire Advantage Sales & Marketing, a competitor which just goes to show the fervor with which Carlyle pursued entry into this business. Now they must surely regret it. Likewise, the company: nearly all of the company’s $3b of debt stems from that transaction. The company’s bankruptcy papers make no reference to management fees paid or dividends extracted so it’s difficult to tell whether Carlyle got any bang whatsoever for their equity buck.*

Suffice it to say, this isn’t exactly a raging success story for private equity (calling Elizabeth Warren!). Indeed, since 2015 — almost immediately after the acquisition — the company has lost $631mm of revenue and $193mm of EBITDA. It gets worse. Per the company:

“Revenue contributions from the top twenty-five clients in 2015 have declined at approximately 14.6 percent per year since fiscal year 2015. Furthermore, adjusted EBITDA margins have decreased year-over-year since fiscal year 2015 from over 19 percent to approximately 16 percent as of the end of fiscal year 2018.”

When you’re losing this money, it’s awfully hard to service $3b of debt. Not to state the obvious. But why did the company’s business deteriorate so quickly? Disruption, baby. Disruption. Per the company:

Acosta’s performance was disrupted by changes in consumer behavior and other macroeconomic trends in the retail and CPG industries that had a significant impact on the Company’s ability to generate revenue. Specifically, consumers have shifted away from traditional grocery retailers where Acosta has had a leadership position to discounters, convenience stores, online channels, and organic-focused grocers, where Acosta has not historically focused.

Just like we said a year ago. Let’s call this “The Aldi/Lidl/Amazon/Dollar Tree Effect.” Other trends have also taken hold: (a) people are eating healthier, shying away from center-store (where all the Campbell’s, Kellogg’s, KraftHeinz and Nestle stuff is — by the way, those are, or in the case of KraftHeinz, were, all major clients!); and (b) the rise of private label.

Moreover, according to Acosta, consumer purchasing has declined overall due to the increased cost of food (huh? uh, sure okay). The company adds:

These consumer trends have exposed CPG manufacturers to significant margin pressure, resulting in a reduction in outsourced sales and marketing spend. In the years and months leading to the Petition Date, several of Acosta’s major clients consolidated, downsized, or otherwise reduced their marketing budgets.

By way of example, here is Kraft Heinz’ marketing spend over the last several years:

Compounding matters, competition in the space is apparently rather savage:

“Acosta also faced significant pressure as a result of the Company’s heavy debt load. Clients have sought to diversify their SMA providers to decrease perceived risk of Acosta vulnerability. In fact, certain of Acosta’s competitors have pointed to the Company’s significant indebtedness, contrasting their own de-levered balance sheets, to entice clients away from Acosta. Over time, these factors have tightened the Company’s liquidity position and constrained the Company from making necessary operational and capital expenditures, further impacting revenue.”

So, obviously, Acosta needed to do something about that mountain of debt. And do something it did: it’s piling it up like The Joker, pouring kerosene on it, and lighting that sh*t on fire. The company will wipe out the first lien credit facility AND the unsecured notes — nearly $2.8b of debt POOF! GONE! What an epic example of disruption and value destruction!

So now what? Well, the debtors clearly cannot reverse the trends confronting CPG companies and, by extension, their business. But they can sure as hell napalm their balance sheet! The plan would provide for the following:

• Provide $150mm new money DIP provided by Elliott, DK, Oaktree and Nexus to satisfy the A/R facility, fund the cases, and presumably roll into an exit facility;

• First lien lenders will get 85% of the new common stock (subject to dilution from employee incentive plan, the equity rights offering, the direct investment preferred equity raise, etc.) + first lien subscription rights OR cash subject to a cap.

• Senior Notes will get 15% of new common stock + senior notes subscription rights OR cash subject to a cap.

• They’ll be $250mm in new equity infusions.

So, in total, over $2b — TWO BILLION — of debt will be eliminated and swapped for equity in the reorganized company. The listed recoveries (which, we must point out, are based on projections of enterprise value) are 22-24% for the holders of first lien paper and 10-11% for the holders of senior notes.

We previously wrote about how direct lenders — FS KKR Capital Corp. ($FSK), for instance — are all up in Acosta’s loans. Here’s what KKR had to say about their piece of the first lien loan:

We placed Acosta on nonaccrual due to ongoing restructuring negotiations during the quarter and chose to exit this position after the quarter end at a gain to our third quarter mark.

This was the mark back in December 2018 = $2.4mm fair value:

And this is the mark as of Q3 close, September 2019 = $1.3mm fair value:

Soooooo….HAHAHAHA. Now THAT is some top-notch spin! Even if they did mark to a gain versus the Q3 mark, they undoubtedly lost money on this position: the mark was cut in half in less than a year.

You have to take the benefits of quarterly reporting where you can, we suppose. 😬😜

*There have been two independent directors appointed to the board; they have their own counsel; and they’re performing an investigation into whether “any matter arising in or related to a restructuring transaction constituted a conflict matter.” There is no implication, however, that this investigation has anything to do with potential fraudulent conveyance claims. Not everything is Payless, people.

💰One’s Pain is Another’s Gain (Long Real Estate Consultants)💰

Yeah but someone is making money from all of this doom and gloom, right? You bet your a$$. The real estate consultants/advisors!! Using Houlihan’s for illustration purposes, let’s dive into what these guys do. 

Before we do, let’s establish some ground rules: we’re going to MASSIVELY over-simplify how this works just to extract some number out of the abstract figures and give folks some semblance of an idea of how this works. So, please spare us the righteous indignation about incomplete calculations, okay?  

In the Houlihan’s bankruptcy case, the debtors seek to engage Hilco Real Estate LLC as its real estate consultant and advisor. For the uninitiated, Hilco Real Estate counts countless bankrupted companies as clients, e.g., A&P, Fred’s, Gander Mountain, Furniture Brands, Garden Fresh Restaurant Corp., hhgregg, Hostess Brands, Ignite Restaurant Group, Logan’s Roadhouse, Payless Shoesource. You get the idea. Perversely, these guys kill it when you don’t (spare us the spin, y’all).

According to the agreement between Houlihan’s and Hilco, Hilco will, among other things, (a) meet with Houlihan’s to ascertain its goals, objectives and financial parameters (read: wherewithal); (b) mutually agree with Houlihan’s on a strategic plan for restructuring, assigning or terminating leases; (c) negotiate with third parties landlords in furtherance of the agreed-upon strategy; (d) provide updates on progress; and (e) assist Houlihan’s in closing the relevant lease restructuring, assignment, and termination agreements. The contract is exclusive. Said another way, Houlihan’s has agreed to convey over to Hilco all responsibility for negotiating with landlords for purposes of extracting concessions. 

Of course, Hilco doesn’t do this sh*t for free. They have a variety of ways to make money. 

First, it’s important to note that the Bankruptcy Code requires that debtors decide what to do with non-residential real property leases within 120 days from any filing. Consequently, many distressed companies engage real estate consultants long in advance of bankruptcy to get a handle on the real estate portfolio, help devise a strategy, and kickoff negotiations with landlords. Accordingly, any assigned or terminated lease pre-petition is eligible for 6% of Lease Savings (back to this in a minute). If a lease is modified rather than terminated, Hilco gets a flat fee of $1,500 + 5.25% of the savings. Post-petition, Hilco gets 6% for assignments/terminations/sales of leases — if there are any at that point that return cash value. 

Houlihan’s is a sale case so what happens if the leases are assumed and assigned pursuant to a sale of all or substantially all of the assets? Per the Agreement, 

“…any Lease that is assigned or sold to a purchaser of all or substantially all of the Company's or a division of the Company's assets shall not, in and of itself, be considered an Assigned/Sold Lease (but may still be a Restructured Lease).” 

Wait, what? The agreement doesn’t even define what an “Assigned/Sold Lease” is? But, it appears the intent of this language is to carve out leases that simply transfer to a buyer. No fee for Hilco there — that is, unless there is an agreed modification to the lease prior to assumption and assignment. (Note to Hilco: tighten up your sh*t). This makes sense. 

Of course, all of this might as well be written in Dothraki: 

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👟The Latest in Fitness Trends (Long Innovation)👟

There are a lot of venture investors operating under the hypothesis that audio is the next frontier in wearables and that the Apple AirPods were just the opening salvo. Amazon Inc. ($AMZN) is apparently working on pods that double-up as fitness trackers. This is a space worth watching.

Elsewhere in fitness, we’re writing this particular section midweek and yet we literally just walked by someone rocking his NYC Marathon medal. Seems a bit aggressive to still be wearing that thing 72 hours post-race but, whatevs. To each his own. 

Here’s a piece from Reess Kennedy about fitness and marketing, discussing the rise of the Nike Vaporfly 4%, a running shoe that Nike Inc. ($NKE) alleges will enhance performance by…wait for it…4%. Regarding the NYC marathon, he writes, “I’d safely wager that 70% of the men and women running under 3:10 were wearing it.” He adds:

“…Sunday all I was thinking was, “Why and how did Nike win so hard here?! They’ve gobbled up significant market share and achieved one of the most successful product adoption feats in the history of footwear—possibly in the history of product adoption!—and, at $250, they’ve also set a new off-the-chart, ‘luxury’ price point for racing shoes in the process!’”

He concludes that much of the adoption is attributable to FOMO: if your competitors are juicing with the Vaporfly, you should be juicing too.  He writes:

“I think the far more powerful demand ignitor was actually the brazen insertion of a precise performance gain right into the name of the actual product: The Vaporfly 4%.”

“For the first time in history, a shoe company is making a clear ROI claim to buyers. This is the real reason they’ve sold so many.”

“Many runners really struggle over many marathon attempts to break three hours—often, tragically, missing it by only a few minutes on each attempt. A 4% improvement for these folks hovering around three hours would mean about a seven-minute gain! If you’re on the edge of a lifetime goal is it worth it to pay $250 to achieve it? Yeah, probably. “

This begs the obvious question: how long until the release of the “Brooks Boss 6%,” the “Adidas A$$-kicker 7%” or the “Saucony Supersonic 9%”? Will we start seeing distressed players engage in marketing schemes like this to drive traffic? Should we?*

Why aren’t restructuring firms using this tactic? 

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💰How Are the Investment Banks Doing?💰

Greenhill & Co. Inc. ($GHL) reported Q3 earnings earlier his week and, well, they weren’t great. The company had $87mm of revenue for the quarter (flat YOY) and $194.3mm in revenue year-to-date. The latter is down 26% on the back of a poor first half. 

Why the poor performance? The company largely blamed “a very low level of activity in European M&A.” It then asked the analyst community to deploy some Pym Particles and take a time travel trip back to rosier times: 2016-2018. The company’s earnings presentation listed (a) fee paying clients and (b) $1mm+ clients for each of those years but, curiously, did not disclose those numbers for 2019.

Despite the lack of transparency, the firm is nevertheless “[s]till expecting solid full year revenue performance,” particularly with its capital advisory business. Curious how that works. 🤔

As for restructuring, the firm touted its expanded team and noted….

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💰What’s New in Marketing Trends (Long Facebook Inc. ($FB))💰

We’ve often highlighted how distressed retailers may be in for a rude awakening if they think deploying influencer-based social marketing on platforms like Facebook Inc. ($FB) and others will be the cure-all to their woes. And be easy. It won’t be and it’s not. The campaigns require significant expertise to execute and the cost of such campaigns has been on the rise. Until recently, it seems. In Facebook’s recent earnings call, CFO Dave Wehner said: 

“In Q3, the number of ad impressions served across our services increased 37% and the average price per ad decreased 6%. Impression growth was primarily driven by ads on Facebook News Feed, Instagram Stories and Instagram feed.”

Surprisingly, Facebook appears to be driving a large part of that impressions growth rather than Instagram Stories and the Instagram Feed. This means ads are reaching more people on the platform and, yet, the average price of ads decreased. While it’s not clear from the company’s SEC filings nor its earnings call why this is the case, this is a potential positive for retailers looking to deploy social ads. 

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🔥David's Bridal = Chapter 11.5🔥

One year, three different capital structures and two restructurings — one in-court and one out-of-court. This has been a hell of a twelve-month stretch for David’s Bridal Inc. Clearly performance continues to sh*t the bed.

A year ago at this time the company was pre-bankruptcy. It had 311 stores, 9,260 employees and a $775mm capital structure split among (i) approximately $25.7 million in drawn commitments under its Prepetition ABL Agreement; (ii) an estimated $481.2 million in outstanding principal obligations under its Prepetition Term Loan Agreement; and (iii) an estimated $270.0 million in outstanding principal obligations under its unsecured notes. It filed a prepackaged bankruptcy on November 19, 2018. It confirmed its plan of reorganization in early January and the plan went effective almost 60 days after the filing.*

Under the plan of reorganization, the company shed hundreds of millions of debt, wiping out its private equity overlord, Clayton, Dubilier & Rice, LLC (except to the extent they owned unsecured notes). The company emerged from bankruptcy with (i) a $125mm asset-backed loan from Bank of America NA (the “ABL”), (ii) a $60mm “Priority” term loan agented by Cantor Fitzgerald and (iii) $240mm L+800bps “Takeback” term loan paper (also Cantor Fitzgerald). The term lenders — including, Oaktree CLO Ltd., a collateralized loan obligation structure managed by Oaktree Capital Group** — walked away as owners with, among other things, the takeback paper and the common stock in the reorganized entity. The unsecured noteholders received a pinch of common equity and warrants. The initial post-reorg board was reconstituted to include a representative from Oaktree, a former executive from Ralph Lauren, a former banker, a senior partner from Boston Consulting Group, and a venture capitalist with experience in the early stage consumer products space.

It didn’t take long for cracks to form. In May, S&P Global Ratings downgraded David’s Bridal’s credit rating into junk territory; it noted that the company’s performance "remained significantly weaker than anticipated after emergence from bankruptcy" and it “expect[s] poor customer traffic will pressure operating performance and lead to added volatility.” The ratings agency gave both term loans the “Scarlet D” for downgrade, noting that the capital structure was “potentially unsustainable based on its rapidly weakening operating performance, which makes it vulnerable to unfavorable business and financial conditions to meet its commitments in the long term.” The term loan quoted downward. The rating proved to be prescient.

Six months later and eleven months post-confirmation, it is clear that the balance sheet was NOT right-sized to the performance of the business. On Monday, the company announced that it obtained a new $55mm equity infusion from its existing lenders. Lenders unanimously exchanged “$276mm of its existing term loans into new preferred and common equity securities” leaving the company with $75mm of funded debt exclusive of the untapped $125mm ABL. The equity that CD&R and the other unsecured noteholders received are clearly worth bupkis today. Those warrants? HAHAHA. Wildly out-of-the-money. Peace out CD&R!

The question is why did this situation flame out so quickly? On a macro level, there are secular changes taking precedence in the marriage space: things just aren’t as formal as they used to be. On a micro level, clearly the company continues to suffer from operational challenges that were not addressed during the filing. Nor post-emergence. Per Bloomberg:

David’s lost its way with customers under prior management, Marcum said in the interview. When the company launched its online marketplace, it was a separate e-commerce profit that had different pricing and marketing promotions than the stores. “Consumers today are very smart and they see that,” [CEO James] Marcum said. “It caused a lot of friction” and an “extremely poor experience” for customers.

Ummm, okay, but wasn’t that supposed to have been fixed by now??

The company underestimated the negative impact that Chapter 11 would have going into its strongest selling period, and the competition “took advantage of it,” Marcum said.

Clearly the lenders underestimated the impact, too. How else do you explain the thinking around 10+% paper?

Given that the paper steadily quoted down for months leading up to this transaction, it’s obvious that (i) brides-to-be were steering clear from David’s Bridal after seeing media clips about other brides getting burned by bankrupted dress sellers, (ii) consequently, the lenders saw a constant stream of declining numbers, and (iii) as they learned more about the state of the business, lenders scrambled to try and dump this turd before a wipeout transpired. Spoiler alert: it has transpired.

As for the capital structure, clearly this thing came out of bankruptcy over-levered: it looks like the take-back paper was driven, in part, by CLOs in the capital structure. Callback to just a few weeks ago when, in “💥CLO NO!?!?💥,” we wrote (paywall):

…most CLO fund documents also don’t permit CLOs to take on new equity in restructurings. This limitation, by default, pushes CLOs towards “take-back paper” (read: new debt) in lieu of equity. If you’re a regular-way lender on an ad hoc group full of CLOs, then, this makes for an interesting dynamic: you may prefer — and have the latitude — to (i) swap debt for equity, thereby taking turns of leverage off to right-size the reorganized debtor’s balance sheet and (ii) give the reorganized entity a fighting chance to survive and drive equity returns. Your CLO counterparts, however, have different motives: they’ll push for more leverage. This misaligned incentive can sometimes get so bad that ad hoc groups will have to negotiate amongst themselves the go-forward capital structure without even getting management input. In this scenario, management projections are besides the point. If you’re looking for some explanation as to why there appears to be a rise in Chapter 22 filings, well, this might be one.

Not everything will have to file for bankruptcy a second time. But, as a practical matter, the result is the same here in terms of a capital structure refresh. Call this a Chapter 11.5.***

*Shockingly, the company didn’t boast of a “successful restructuring” like every other retailer-destined-for-a-chapter-22 tends to do. Perhaps retailers are now taking PETITION’s “Two-Year Rule” into account? 🤔😜

**The term lenders that made up the Ad Hoc Term Lender Group included a hodgepodge of private equity funds, hedge funds and CLOs.

***We really struggled with a witty thing to label a fact pattern where, within a year of bankruptcy, a company has to do a an out-of-court balance sheet refresh without going into a formal Chapter 22. Any ideas? Email us.