On January 21, 2020 McDermott International announced its intention to “commence [a] prepackaged Chapter 11 filing in the U.S. Bankruptcy Court for the Southern District of Texas (“the Court”) later today“. In a press release, the oil field services giant indicated that “two-thirds of all funded debt creditors” had agreed to a re-structuring package that would “de-lever” its balance sheet. That’s a massive $4.6bn of debt getting vaporized. The company hopes to re-emerge with just $500mn of funded debt and the ability to provide letters of credit in support of work projects – a critical aspect of its business. That will mean “nearly all funded debt” will be converted to equity.
To move the Chapter 11 along, McDermott has arranged $2.8bn in Debtor-In-Possession (DIP) financing. As has been frequently the case recently in these “pre-packs” the company hopes to be in and out of bankruptcy in a short period: two months is the estimate given till court confirmation of the plan is expected.
We learned from the press release that subsidiaries of McDermott have entered into a share and asset purchase agreement with a joint partnership between The Chatterjee Group and Rhône Group which will serve as the “stalking-horse bidder” in a court-supervised sale process for Lummus Technology. The sale of this subsidiary has been a key element in the MCDermott saga. Here are the key details from the press release:
Under the terms of the Agreement, the Joint Partnership has agreed, and is committed, to acquire Lummus Technology for a base purchase price of $2.725 billion. McDermott will have the option to retain or purchase, as applicable, a 10 percent common equity ownership interest in the entity purchasing Lummus Technology. McDermott expects to hold an auction in approximately 45 days to solicit higher or better bids for the Lummus Technology business. Either the Joint Partnership or the winning bidder at the auction will purchase Lummus Technology as part of the Chapter 11 process, subject to regulatory and court approval. Proceeds from the sale of Lummus Technology are expected to repay the DIP financing in full, as well as fund emergence costs and provide cash to the balance sheet for long-term liquidity.
We’re not bankruptcy experts so we don’t know what the odds are of the McDermott plan – which is ambitious by any standard – being accepted in its current form and timetable. More certain is that the two BDCs involved are likely to lose the $0.700mn of annual investment income being accrued and some sort of realized loss will be booked in 2020. The only BDC with material exposure as of September 30, 2019 was non-listed Business Development Corporation of America, with $9.8mn invested at cost in the May 2025 Term Loan, already written down (35%) as of the IIIQ 2019. Oaktree Strategic Income (OCSI) has a tiny $0.6mn exposure in the same Term Loan.
For our part, we’ve had McDermott on our Under Performers list since July 2019 and with a Corporate Credit Rating of 4 (Worry List) for months. Since October 2019, we’ve added the company to our Bankruptcy Imminent list, where we seek to flag for readers those credits most likely to hit the headlines. For all prior McDermott articles, click here. We expect there’ll be one or two more follow-up articles as the restructuring plays out, but the McDermott credit story seems closer to the end than the beginning.
According to the Wall Street Journal, McDermott International’s lenders agreed “to wait at least six more days before they declare a default, the engineering company said as it continues restructuring negotiations“. The initial forbearance was due to expire on the stroke of midnight (the BDC Credit Reporter is adding dramatic effect) on January 15th, 2020 after a missed interest payment in November of 2019.
Nonetheless, not all is well between junior and senior lenders, with the latter more forgiving and flexible and the former less so, leaving the possibility of an inter-creditor battle if and when Chapter 11 occurs, which we consider an imminent possibility. For the moment, though, as the WSJ indicates : “Lenders could have let the forbearance expiration on the junior bonds trigger a cross-default. They instead made a deal with the company to wait until at least Tuesday before declaring a default on their own claims“.
We expect to be updating the McDermott story, which we’ve written about 6 times since September 2019, shortly.
Bloomberg reported on December 30, 2019 that McDermott International’s stock had been declining for the past two days on rumors that a Chapter 11 filing was in the works and $2.0bn of financing has already been lined up to help the engineering company post filing as access to letters of credit to support projects is critical in its business.
None of the above will come as any surprise to the readers of the BDC Credit Reporter. We’ve been ringing the bell since September about the company and not been much impressed with the financial rescue plans that have been mooted or implemented in the interim to keep McDermott from “going chapter”. On October 21, 2019, we even placed McDermott on our Bankruptcy Imminent list. That fate for the company now seems everything but certain. The common stock shareholders seem to have come to a similar conclusion. Since that October post, the market capitalization of McDermott has dropped by nearly two-thirds.
For the BDC sector, the only good news – as noted in earlier posts – is that BDC exposure is small ( $10.4mn at cost) and limited to non-traded Business Development Corporation of America and Oaktree Strategic Income (OCSI). Both BDCs are invested in the 2025 Term Loan, which they’ve already discounted (35%) at September 30, 2019. According to Advantage Data that same loan now trades at a (43%) discount. Up ahead is likely some interruption/loss of investment income as well, with the non-listed BDC with the most to lose with 95% of the exposure.
On October 23, 2019 Seeking Alpha author Henrik Alex wrote an article about McDermott International entitled: “The ‘One McDermott Way’ Might Still End In Bankruptcy Court“. The article lays out in useful detail the various options available to the company and the obstacles faced in taking advantage of the supposed “financial lifeline” offered by certain secured lenders. Any one interested in the subject will find the article helpful. For our own earliest posts about McDermott, click here.
Mr Alex’s conclusion is as follows:
Even after Monday’s bridge loan announcement, the much-touted “One McDermott Way” might still end in bankruptcy court if the company fails to arrange a quick sale of the Lummus Technology business given the dealbraker requirement to exchange at least 95% of the company’s senior unsecured notes into new PIK notes. While secured lenders would likely waive a minor consent shortfall (e.g. 90%), I do not expect them to approve a material amount of holdouts. But even if the condition will be waived, McDermott will face a reduction in borrowing capacity and letters of credit.
Judging by this week’s trading pattern so far, both unsecured bond- and equityholders seem to have very little conviction in the company avoiding a bankruptcy filing and so do I.
That said, the company still has until January 31, 2020 to enter into a firm purchase agreement for Lummus Technology “in form and substance satisfactory to the Supermajority Lenders and the Administrative Agents” as required by the terms of the credit agreement.
Should McDermott indeed have to seek bankruptcy protection, common equityholders will almost certainly end up with nothing. Even unsecured noteholders might see very little or even no recovery as already implied by the very low trading price.
That conclusion largely coincides with our own thoughts, except that we are more skeptical about the chances of selling Lummus Technology, which has been for sale for some time. This validates our decision to add McDermott to our Bankruptcy Imminent list. Thankfully, BDC exposure is small: limited to two BDCs. Business Development Corporation of America has the biggest chunk: $9.8mn and Oaktree Strategic Income (OCSI) just $1.3mn.
Despite the financial lifeline offered by certain lenders to McDermott International, which we discussed two days ago, the company’s stock price continues to drop and has reached $1.6550 at time of writing, falling nearly (7%) intra-day. We have McDermott on our recently launched Bankruptcy Imminent list – our attempt to give readers a heads up on what credit calamity might be round the next corner. We’ve also checked on the current value of the company’s publicly traded loans and bonds, and both seem to be trending down in value in most cases. This is all adding to our concern that McDermott – and the $11.1mn of first lien BDC exposure to two BDCs – could default or be restructured in the fourth quarter 29019.
Nominally on October 21, troubled oil services company McDermott International arranged $1.7bn of additional financing to meet an upcoming severe cash shortfall. That sounded like very good news to the stock and bond markets worried about the solvency of the company for several weeks now. The stock price jumped. However, investors soon began to have second thoughts and the stock and bonds both dropped ! The Wall Street Journal reported “McDermott’s bond rose as high as 33 cents on the dollar after the refinancing was announced, from about 29 cents on Friday, before falling to about 24 cents when the revised estimates were disclosed in a U.S. Securities and Exchange Commission filing. The company’s shares plotted a similar course, opening 21% higher at $2.84 before dropping to $2.04“.
The reasons include the fact that the “lifeline” debt cannot be accessed in one lump sum , or at will, but only in 4 tranches that relate to performance and require “sign-off” by other creditors, which is another word from concessions. Those were well spelled out in another article, this time from Bloomberg. Furthermore, the company paid out millions in retention bonuses to senior executives. Often when you’re paying your senior people a small fortune to do the work they’ve been doing for a healthy paycheck already, the chances of things going off the rails is high. Just as importantly, the company revised its earlier financial projections for 2019:
The company changed its estimate of earnings before interest, tax, depreciation and amortization, or Ebitda, to $474 million in 2019 from $725 million because of incremental charges on existing projects, according to the SEC filing. It also revised its free-cash-flow estimate for the year to negative $1.2 billion from negative $640 million.
This is far from resolving McDermott’s financial troubles and may – ironically enough – accelerate the need for a Chapter 11 filing or a full scale reorganization. We’ve been writing about the credit since September 19, 2019 when a restructuring firm was first hired, but the company has been rated CCR 4 – our Worry List – since July 30. We followed up with an update regarding this impending lifeline on September 25, 2019. Now – as then – we remain skeptical that McDermott can dodge the bankruptcy/restructuring bullet. Furthermore, we’re placing the company on our still-under-development Bankruptcy Imminent list, which means we believe there is a strong chance of a filing or re-organization occurring within the next 3 months. Judging by the market reactions by closing time, we may not be alone. This would cause – judging by the current valuation of the 2025 debt in the markets – a (35%) or greater loss for the two BDCs involved, or close to ($4mn) between the two, and the loss for some time of nearly $0.800mn of investment income. Not disastrous for either BDC but another reminder that the “oil patch” is a difficult place to play in.
We first wrote about trouble at oil field services giant McDermott International back on September 19, 2019 when a restructuring firm was hired. Now there are reports that the company is seeking a huge bridge loan to fund a $1.7bn working capital deficit until assets can be sold to repay existing debt. Here’s what Bloomberg said about what asset sales might accomplish:
“The company confirmed it was working with Evercore to explore unsolicited interest in its Lummus Technology business, with a valuation exceeding $2.5 billion. That amount combined with its $1.5 billion in boats, equipment and buildings, as well as $500 million in storage assets, could be enough to cover its debt and preferred stock, Citi research analysts wrote in a Sept. 18 note.
McDermott said it had about $3.8 billion of gross debt at the end of the second quarter and $1 billion of cash available.
If it were to sell the technology business for more than $500 million, McDermott’s bond rules stipulate that it must use the net proceeds to repay debt, according to a Covenant Review report“.
We’re not expert enough in the intricacies of McDermott’s arrangements to determine if asset sales – were they to happen – would be positive or negative for the 2025 Term Loan held by the two BDCs with $11mn in exposure at cost. What does seems clear: the McDermott story – thanks to its massive cash needs and already high debt – will be on the front burner where credit developments are concerned through the rest of 2019. We maintain a CCR 4 (Worry) rating.
We placed giant oil field services company McDermott International, Inc. on our under-performing list back on July 30, 2019 with a Corporate Credit Rating of 4 (Worry List) after results came in much worse than expected and the stock sank. Now matters are getting worse, as the company has just hired turn around firm AlixPartners. What followed was the equivalent of an earthquake in terms of market reaction, even more so than back in the summer. Here’s what Bloomberg reported: ” The Houston-based company’s stock plunged as much as 76% Wednesday — trading was halted for volatility at least five times — while its bonds dropped more than 30 cents to 37 cents on the dollar, making them Tuesday’s most actively traded debt in the U.S. high-yield market..“
BDC exposure is relatively modest ($11mn at cost), divided between two BDCs: non-listed Business Development Corporation of America (BDCA) and listed Oaktree Strategic Income (OCSI). Both appear to be in the same April 2025 senior Term Loan and both valued their exposure at June 30, 2019 at par, or very close. We expect next time round that valuation will drop and even more so if McDermott files for Chapter 11 or restructures. There’s about $750,000 of annual investment income at risk, with BDCA having the bulk of the exposure.
The troubles of McDermott are part and parcel of the distress in the energy industry – especially but not exclusively in oil field services of one type or another, as we’ve previously mentioned. We expect to hear considerably more about the company and its less well known peers in the months ahead. In this segment at least recession-like conditions are already in play.