Despite a higher oil price, there’s still plenty of credit trouble in the energy sector as reflected in the just-announced voluntary Chapter 11 filing of Sundance Energy Inc. (NASDAQ: SNDE) and its affiliates. As you might expect, the company and its major lenders have a plan already in place to restructure the balance sheet and exit from bankruptcy. The second lien Term Loan lenders seem to be ready to convert all or most of the $250mn owed to them into equity. Moreover, the press release suggests “certain of its Term Loan lenders” will provide $45mn in debtor-in-possession (“DIP”) financing to keep the business running. When this is all said and done:
“Upon emergence, the Company’s recapitalized balance sheet will include (i) $137.5 million of funded indebtedness comprising a senior secured reserve-based revolving credit facility, a senior secured second out term loan, and, if necessary, a senior secured third out term loan, in each case provided by the existing RBL Facility lenders and (ii) new common equity interests issued in exchange for DIP financing claims and Term Loan claims, subject to dilution by new common equity interests granted under a new management incentive plan“.
The only BDC with exposure is Ares Capital (ARCC) with $58.6mn invested at cost (par value is slightly higher) in the second lien Term loan. The debt has been non-performing since the IIIQ 2020, and was already discounted (37%) as of IVQ 2020. Before the debt went on non accrual ARCC was earning $6.7mn on an annual basis of investment income. We now expect there will be both a realized loss booked in the IQ or IIQ 2021 associated with the restructuring and – most likely – new capital advanced.
We won’t try to estimate the extent of ARCC’s loss, especially as this restructuring is just a way station in the BDC’s relationship with Sundance Energy, which began in IIQ 2018. Frankly, we don’t understand why ARCC – which often makes a great deal of its modest energy exposure – would have invested second lien capital in a “independent oil and natural gas company focused on the development, production and exploration of large, repeatable resource plays in North America“. To be blunt, given what has happened to a multitude of similar companies in recent years this seems unwise credit underwriting.
We’ll circle back once the restructuring plan is approved and when we discover how stage two of ARCC’s relationship with Sundance Energy looks like. This could be an investment we’ll be writing about for years to come.