On June 15, 2020 IHS Intermediate Inc. (also Interactive Health Solutions) filed for Chapter 7 bankruptcy. According to news reports, the company “collects employee healthcare data for companies” but “has faced more competition in recent months, according to Bloomberg Law“. Private equity firm FFL Partners is the company’s largest shareholder. The company filed in Delaware federal court claiming between 1,000 and 5,000 creditors and between $100 million and $500 million in assets. Any type of recovery for lenders is unlikely.
There are three BDCs involved with the company: publicly traded Solar Capital (SLRC); Goldman Sachs BDC (GSBD) and non-traded Sierra Income. SLRC has a long standing relationship with the company dating back to 2011. When the company was acquired in 2015, SLRC re-upped for another tour of duty in the 2022 second lien Term Loan, and was joined by the other two BDC lenders. (Interestingly, Pennant Park Investment – PNNT- which had been involved as well, bowed out for reasons unknown). For years the company performed well, only becoming underperforming by our standards in IQ 2019 when Sierra discounted the debt by (15%). By IIIQ 2019 Sierra and SLRC had the debt on non accrual. At that point, we rated the company CCR 5. GSBD only followed suit the next quarter. In fact quarterly valuations varied widely between the three BDC players but by the IQ 2020 the entire $59.6mn in outstandings had been written down to nothing.
Judging by the pricing (L +850) and the second lien status in a middle market company, this was always a higher risk transaction. The lenders have lost ($6.3mn) in annual investment income and will be recovering zilch. We have few clues about why the business failed except comments by SLRC along the way about the loss of key customers. This is one of those rare recent bankruptcies where Covid-19 is not being blamed as the company was essentially in deep trouble more than nine months ago.
For each of the three BDCs involved this is a material loss. SLRC is writing off ($24.7mn). To put that into perspective total aggregate net realized losses in the past 3 years have been only half that amount. For GSBD aggregate realized losses have been higher in the past 3 full years but this ($10mn) write-off is still equal to one-tenth of the total. For Sierra Income, whose realized losses exceed ($110mn) in this 3 year period, the ($25mn) loss is a serious additional blow.
Losses are going to happen in leveraged lending, especially when you’re charging a double digit yield. For this size company and at this pricing the capital involved is as much “equity risk” as debt and frequently when there’s a business reverse – as has happened here – results in a complete loss. That explains the understandable ambivalence investors, the BDCs own lenders and the managers themselves have about second lien lending. Both GSBD and SLRC have been boasting repeatedly for several years about the diminishing proportion of second lien debt on their books. This loss illustrates the downside involved.
We doubt second lien loans are going away in the future but unitranche debt – which wraps up into one facility both first and second lien loan risk – has already taken much of its market share and will continue to. This will not in any way reduce the risk of loss but will change the wrapper and make harder to distinguish the debt capital at most risk.
IHS Intermediate represents the 7th BDC-financed bankruptcy of the month of June (aggregate cost of those investments : $314mn) and the 23rd we’ve recorded this year. It’s the first Chapter 7 in June. Generally speaking Chapter 7 liquidations are rare. There have only been a couple of others in 2020 to date and most of the time result in little or no recovery for the BDC lenders involved. By the time asset-based lenders are repaid and the costs of the bankruptcy process absorbed, most lenders and unsecured creditors are left without a sou. In this case, we don’t know who the first lien lender was and what recovery they might or might not expect.
For our purposes, we will leave IHS rated CCR 5 till the BDCs involve book a realized loss, which should occur in the second or third quarter 2020.