Forming Machining Industries: Downgraded

On June 18, 2020 Moody’s downgraded manufacturer of complex assemblies for commercial, military, and business aircraft Forming Machining Industries (whose dba is Atlas Group) to Caa1 from Caa2. This company is heavily involved in the aerospace industry and with Boeing’s ill-fated 737 MAX aircraft. Covid-19 has not helped the situation and liquidity is weak, forcing the company to rely on drawing on its Revolver to make up for break-even or negative cash flow. As you’d expect, leverage is very high as well.

There is one BDC with exposure to the company’s first lien and second lien debt: Bain Capital Specialty Finance (BCSF). Total exposure is $23.1mn at cost and was added to the underperformers list when the BDC discounted the debt by a fifth in the IQ 2020. We calculate that about ($1.25mn) of annual investment income is at risk for BCSF. Our initial rating was a CCR 3, but now we’re downgrading the company to a CCR 4. There does not seem any immediate threat of default so we’re leaving the company off our Weakest Links list for the moment, although the backstory does not seem promising.

This is just one of 142 companies added to the underperformers list (now at 583 companies) in 2020, mostly due to the impact of Covid-19. Of those only 19 so far have slipped two investment ratings down to CCR 4. This is an example of a potential Second Wave credit default candidate – a company that was performing as anticipated before the impact of the virus on its business environment was felt, except for the troubles with the 737 MAX.

We will circle back when new information comes out. We’ve heard today (June 19) that a new CEO has joined the troubled company, so we expect some sort of turnaround effort is underway.

Chisholm Oil & Gas: Files Chapter 11-Corrected

On June 18, 2020, Chisholm Oil & Gas Operating LLC filed for Chapter 11. The oil & gas explorer, though, has a restructuring support agreement in place with its two lending groups and plans for an exit sooner rather than later. The lenders include the reserve-based lending facility and the holders of the 2024 Term Loan. The restructuring plan involves converting all the $517mn in debt to equity; issuing two new – smaller – debt facilities; use of cash collateral and various minor concessions to other creditors. We’ve skimmed the 107 page filing – which includes the reasons for why the company got into trouble in the first place – and are not fully convinced this will provide a lasting solution, but nobody is asking the BDC Credit Reporter.

We should say from the outset that this a Major non-performing asset with $295mn invested in Chisholm’s debt and equity, spread over 3 BDCs. Sweating most heavily right now will be non-traded FS Energy & Power with $226mn. Next is FS KKR Capital II (FSK) , which is newly public with $39mn. Sister BDC FS KKR Capital (FSK) has $16mn of debt. Admittedly, the bankruptcy was expected as the debt was placed on non-accrual as of the IQ 2020 and the total fair market value marked down to $124.0mn.

We fear, though, that – notwithstanding the restructuring plan which envisages a debt for equity swap – losses could increase further now that the bankruptcy has hit the proverbial fan. If we’re reading the plan right, the Term Loan holders will only be getting 3% of the restructured company’s equity because the secured debt is deeply underwater from an availability standpoint. $263mn is owed but the current availability is only $120mn…We expect most of the capital invested by the BDCs to be worthless. Unclear is whether the same BDC lenders will provide some portion of the new restructuring facilities. At the end of the day the BDCs could write off $250mn or more of the $302mn invested and lose out on all the $21mn or so in investment income that was being booked on an annual basis before the non accrual in the IQ 2020.

This the eighth BDC-financed company to file for bankruptcy protection in June and the 24th in 2020 and – by far – the largest in both those categories. We are maintaining our CCR 5 rating till bankruptcy is exited and realized losses are booked in the second or third quarter 2020, including potentially incremental losses of ($80mn) over the IQ 2020 level.

For all the BDCs involved this seems to a classic example of why not to get involved in energy lending. This transaction is notable because even the reserve-based lender – who often dodges any losses due to their low advance rate and secured status – has managed to get into trouble. What hope did the second lien lenders and equity investors (where the BDCs were concentrated) have ? The investment was not even particularly richly priced for the potential catastrophic losses: LIBOR + 550bps.

We’ll update readers when we receive further information.

Correction: This article was updated on June 22, 2020 to remove our mention of Main Street (MAIN) and HMS income as lenders to the company. In fact, their investment is in Chisholm Energy Holdings, LLC, a separate entity with HQ in a different state. We apologize for the error.

ASP MCS Acquisition: Downgraded by S&P

On June 18, 2020 S&P downgraded ASP MCS Acquisition (dba Mortgage Contracting Services) to D from CCC, after the company failed to make a scheduled interest payment. Furthermore, the rating group grimly projects that the company is unlikely to make that payment within the allowed 5 day grace period, despite having the resources to do so. Also downgraded to D is the company’s 2024 Term Loan with a face value of $390mn.

This is all very bad – but not unexpected – news for the two BDCs with a total of $19.1mn at cost of exposure in that same 2024 Term Loan. The biggest exposure ($13.9mn) is held by non-traded Business Development Corporation of America and $5.2mn by publicly traded Crescent Capital (CCAP). Both BDCs had already greatly written down the value of their positions – by (61%) and (64%) respectively as of March 31, 2020.

The BDC Credit Reporter had already applied a CCR 4 credit rating to the company from IIQ 2019, and has been underperforming since the IIIQ 2018. However, we are now adding the company to our Weakest Links list given that non accrual seems to be inevitable. Just over $1.1mn of annual investment income will be suspended should that default occur.

We will circle back with an update shortly.

IHS Intermediate Inc.: Files Chapter 7

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.

APTIM Corp.: Wins Federal Contract

A subsidiary of APTIM Corp – the engineering management company – has been awarded a $129mn Federal contract for Navy barge dismantlement, according to a June 10, 2020 report. This follows the recent addition of a new CEO at the troubled company whose debt trades at a severe discount. He joined April 20, 2020. Nonetheless, we note that the 2025 bond is trading 5% points up currently versus the end of the IQ 2020. At that point, the 4 BDCs with $30.9mn exposure to that debt had applied a FMV discount to cost of as much as (65%).

These are green shoots for APTIM, and make our last May 11, 2020 assessment of the company – which is on our Weakest Links list with a CCR 4 rating – possibly too harsh. For the moment we are not changing our corporate credit rating, but we are removing APTIM from the Weakest Links list.

Borden Dairy: Bankruptcy Auction Completed

After much back and forth and a hard fought auction, bankrupt Borden Dairy was purchased by a joint venture consisting of Capitol Peak and “KKR & Co” according to the Wall Street Journal. (For the record, the WSJ in its article constantly refers to “KKR” as a lender to Borden, but – in fact – the debt is held by two BDCs which the famous investment manager co-manages with FS Investments: non-traded FS-KKR Capital II (soon to have the ticker FSKR) and publicly traded FS KKR Capital (FSK). As we’ve been discussing for months, these two BDCs, the management of which KKR took over from GSO Blackstone a few years ago, have $171mn in first lien debt outstanding at cost to Borden. We’ve read other publications, such as Bloomberg, all of which have not quite cottoned on that KKR’s involvement is through these BDCs which KKR & Co only co-manages and cannot even be called – as one journalist did – “KKR’s credit arm”.

Anyway, as far as we can tell, the two FS-KKR lenders are teaming up with Capitol Peak and will – in all likelihood – undertake some sort of “debt for equity” swap. More details to follow, so we won’t speculate about what the ultimate impact on FSK and FSKR might be. What seems sure is that the BDCs caught up in this bankruptcy will remain involved in the milk business for a long time yet and may yet be putting more capital to work.

Debt for equity swaps have been a way of life in the energy business for years, with unremarkable results for the former lenders as the industry has continued to struggle and is a mighty devourer of capital. Of course there have been debt for equity swaps in other industries as well and we expect the strategy to be the most popular one across the bankruptcy spectrum in 2020. That will leave many would-be buyers of distressed assets – currently raising funds as fast as they can – grinding their teeth. Lenders like KKR/FS Investments understandably believe “anything you can do, we can do as well” and are loath to walk away from troubled situations. So we expect a lot of debt turning into equity; more capital advanced in debt or equity and bold attempts to turn around businesses that have fallen on hard times. Like Borden. Whether that will prove a successful approach overall remains to be seen, but the BDC Credit Reporter will keep score best we can.

For the moment – short on gritty details and with the bankruptcy judge still needing to approve the winning bid – we are not changing any of our ratings. The debt remains rated CCR 5 – non-performing. Expect to be hearing more from us before long.

Evergreen Skills Lux: Files Chapter 11

On June 15, 2020 multiple news sources reported that private-equity education company Skillsoft Corp. (aka as Evergreen Skills Lux) filed for Chapter 11 bankruptcy. From the first details we’ve learned, this is a pre-packaged arrangement and the company – which has about $2.0bn in debt – expects to be in and out of bankruptcy court protection in a short time. As is the fashion these days, this is a debt for equity swap which will see $410mn of debt extinguished in return for control of the business. No word on whether a Debtor In Possession financing is involved, only that Skillsoft expects to have $50mn of liquidity available. More details will follow and we’ll circle back if worthwhile.

Under two different borrower names (Skillsoft Corp and Evergreen Skills Lux SARL) there is $50.3mn invested at cost in the company by 5 different BDCs. These are non-traded BDCs Cion Investment, Business Development Corporation of America and HMS Income, and publicly traded Main Street Capital (MAIN) and Monroe Capital (MRCC). [In an earlier version of this article because of a confusion about the company’s multiple names only one BDC was identified and the amount was smaller].

Skillsoft had been underperforming for some time. From the IIQ 2018 the debt had been discounted more than (10%). As early as IVQ 2019 Cion had already placed its second lien position on non accrual. By the latest quarter – March 31 2020 – all the BDCs had their first and second lien loans rated as non performing. This is yet another large cap company whose debt was priced inexpensively (LIBOR + 475 bps) seeing their financial condition deteriorate more quickly than might otherwise have been the case due to Covid-19. We call these companies First Wave credit casualties.

This is the sixth BDC-financed company to file for bankruptcy protection in June and the second on this day.

24 Hour Fitness Worldwide: Files Chapter 11

If the BDC Credit Reporter had waited just a few minutes more, we could have incorporated our last news item about 24 Hour Fitness Worldwide closing down a quarter of its locations for ever into the much bigger news of the day: the company’s Chapter 11 filing, just announced on Bloomberg. Obviously this was no surprise to anyone. What we learned today (Monday June 15, 2020) is that the company and its $1.4bn in debt was not able to agree a restructuring plan before filing for protection. We also learned that $250mn in Debtor In Possession financing has been agreed on, as the gym chain seeks to re-open many locations and operate as normally as Covid-19 allows.

We have downgraded the company from CCR 4 to CCR 5, i.e. non performing. Furthermore, the bankruptcy filing removes 24 Hour Fitness from the Weakest Links list now our projection has come true. For the only BDC with exposure – Barings BDC (BBDC) – this officially means no income is being generated on the LIBOR + 350 2025 Term Loan, a loss of under ($0.2mn) per annum. The value of the debt has already been written down by (80%) to under $1mn. For the BDC Credit Reporter, running from pillar to post with many other troubled names, the amounts now involved make this a Non Material investment so expect less coverage in the future.

This is the fifth BDC-financed company to file for bankruptcy protection in June. For BBDC this is a reverse for a loan booked in the IIIQ 2018 that must have seemed very “safe” given the pricing at the time. However, contrary to what management says, the troubles at 24 Hour Fitness predated Covid-19 . Over-building in the gym space; technological changes (“Peloton”) and the drag of high leverage had already caused BBDC to write down the debt by (25%) in the IVQ 2019. As a result, 24 Hour Fitness falls into our “first wave” of credit defaults – already weakened businesses given a knock out punch by the impact of the virus. Unfortunately that’s a reminder that we’re still at the beginning of a potential three waves of bankruptcies. Many more companies seem to be headed this way.

24 Hour Fitness Worldwide: Closing Locations

According to news reports, 24 Hour Fitness Worldwide is planning on closing a quarter of its locations permanently. This is likely related to bankruptcy plans underway. Prior to the closures – according to Marketwatch – 24 Hour Fitness had more than 400 gyms in 14 states, with around 22,000 employees. For our prior articles on the company, click here.

Serta Simmons Bedding: Creditors Clash

The plot thickens at Serta Simmons Bedding just two days after the BDC Credit Reporter last wrote about the mattress giant. A June 11 article in the Wall Street Journal describes an ongoing legal battle between two different groups of lenders for control of the company, which is teetering on the edge of bankruptcy. On one side there’s Apollo Global Management and on the other Advent International and a group of debt holders (led by mutual funds that invest in debt) that includes the only BDC with exposure: Barings BDC (BBDC).

What’s important to know is that BBDC’s group, working with Advent, is offering a debt for equity swap, summarized thus by the WSJ:

The traditional loan funds that own most of Serta’s debt made a counteroffer to Advent, pledging to lend Serta $200 million and to exchange about $1.3 billion of loans they owned for $875 million of new ones, reducing the company’s overall debt by $400 million. But the funds, many of which bought their loans years ago for face value, demanded that the new debt they purchased and swapped into have first claim on all of Serta’s assets, essentially leapfrogging Apollo and other lenders. Advent took the offer from Eaton Vance and the other mutual funds, prompting Apollo and its group to ask the court to block the deal“.

Who knows who will win this legal battle ? We don’t and – in any case – the terms could change again. However, this does give us a glimpse of how BBDC is prepared to proceed: advancing more monies; remaining a lender but also becoming an equity investor. That would tie the BDC to Serta’s fortunes for many years to come and increase its total investment outstanding, though likely only modestly.

Not to make too much of one incident in one company by one BDC, but the BDC Credit Reporter believes the strategy being chosen for Serta may be repeated many times over in the months ahead as more companies face or file bankruptcy. Big asset managers like Barings – with plenty of cash, big teams of professionals standing by and an army of lawyers on retainer – will – most of the time – choose fight over flight. The relative portion of any debt owed that will be turned to equity and any new cash to be advanced will vary by transaction but the basic model will be the same.

If played out dozens or hundreds of times as we expect, this will continue to shift the traditional roles of lenders to non-investment grade companies. No longer do mutual funds, BDCs or other lenders just supply inexpensive first and second lien debt but are also seeking to be owners when necessary to protect their interests. This could never have happened when banks dominated leveraged lending in years past, but asset managers, mutual funds and other non-bank groups do not have the same regulatory requirements or the same mindset. The Covid-19 recession (still looking for a good name) could accelerate this shift that’s been underway beneath the radar for years.

Boardriders Inc: Downgraded By S&P

Bad news for Boardriders Inc., the apparel company. A few weeks after an earlier article by the BDC Credit Reporter triggered by a downgrade by Moody’s, here comes another ratings blow- from S&P. The company’s rating has been lowered to CCC+ from B. The outlook is Negative. What caught our attention was this remark: that Boardriders would “likely need additional liquidity to meet its obligations over the next 12 months; otherwise a default might become highly likely,

We had already downgraded the company in our database on May 11, 2020 to CCR 4 from CCR 3. Now we are also adding the company to our Weakest Links list, based on S&P’s comments and the still difficult market conditions. As before, the only BDC with exposure is Great Elm Corporation (GECC), whose $8.8mn invested at cost in the debt of the company was valued at $8.0mn as of March 31 2020.

Serta Simmons Bedding: Debt Restructuring Proposed

Once again we’re hearing what’s going on in the conference rooms of troubled companies through the anonymous whisperings of a “person familiar with the matter” to the Wall Street Journal. In this case, the word is that Serta Simmons Bedding is eschewing bankruptcy and seeking to negotiate an out-of-court restructuring of its huge debt load. The WSJ indicates some debt would be swapped for equity and new capital would be injected in some form that is not clear to the BDC Credit Reporter. Nothing is yet finalized so just consider this a rumor in progress.

We’ve written about Serta Simmons before – one of a series of bigger companies considered lower risk when the debt was first issued at pricing of LIBOR + 350 bps which have gotten into trouble. As we noted on April 22, 2020, we’ve rated Serta CCR 4, which indicates that we expect some sort of loss to eventually happen. This news story, although not definitive, confirms our prediction. So do market prices, with the 2025 Term Loan involved here trading at a (60%) discount at the moment, even higher than the (51%) discount at March 31, 2020 when the only BDC involved – Barings BDC (BBDC) last valued its position.

This latest news item does not move any credit rating needles but suggests the company and its lenders are – at least – getting close to an understanding. The news story also suggests the company – not unsurprisingly – seems to be in need of fresh liquidity, which always focuses deal doing. Not to get ahead of ourselves, though, the amount of debt that might be converted from debt to equity seems relatively modest and may leave Serta still on our underperforming list even if some consensus is reached.

For BBDC – as in many other positions – the exposure is modest in and of itself and should not result in any significant loss of capital or income whatever happens. This investment, though, falls squarely in what we’re calling the “First Wave” of defaults/restructurings because Simmons was facing business headwinds even before Covid-19 kept their customers out of the showrooms. We’ll circle back if and when we get beyond Deep Throat-like coat and dagger revelations and official terms are agreed. Or not.

VPROP Operating LLC: Files Chapter 11

VPROP Operating LLC (also known as Vista Proppants and Logistics) has filed Chapter 11, according to news reports. We had written about the supplier of sand to frackers on February 12, 2020 when we heard about the company’s debt going into default in IVQ 2019. Now we’re waiting on the bankruptcy filings to find out what direction the owners and the company’s seemingly sole lender – Ares Capital (ARCC) – take the business. Consider this a placeholder article till those details get filled in.

For ARCC this is a major reverse with $158.5mn invested at cost and a FMV that dropped to $70.7mn as of March 2020 for the non accruing first loan and a dab of common stock. That gives you an idea of the extent of the likely realized loss: (55%) or more. Some ($17.2mn) of investment income has already been lost since the end of the IVQ when $148.8mn of first lien debt became non performing. (The remainder is in now value-less equity).

From a BDC sector perspective, this is the largest BDC-company bankruptcy in cost terms since Borden filed Chapter 11 ($170.5mn) back on January 7, 2020 according to our records. This is the fourth BDC-financed company to seek court protection in June and we’re just one-third of the way through the month.

From a finger wagging perspective, this is a classic investment in the oil services space, an area that most BDCs – including ARCC – have nominally “underweighted” or avoided, a fact that the BDC’s management was boasting of on its last conference call. VPROP may be the exception to the rule but its a significant one and may result in the BDC’s largest realized losses in some time. What’s more the BDC does have a total of over half a billion dollars at cost invested in energy over 6 companies (including VPROP) so this might not be the only ARCC-financed casualty of the BDC’s only partial avoidance of this most dangerous segment of the lending market.

For our part, we’ll be adding the company to the list of BDC-financed bankruptcies in 2020, bringing the aggregate cost this year to $830mn at cost. We will report back when the likely way forward for the company and ARCC – future owner of a frac sand supplier ? – becomes clearer.

Men’s Wearhouse: May File Bankruptcy

We’ve seen this movie before: a company gets into trouble; hires “financial advisers”; drops anonymous hints about possibly filing bankruptcy and then – nine times out of ten – does just that. Men’s Wearhouse is in the midst of that time honored process right now with “people familiar with the matter” whispering to Bloomberg about Chapter 11 as an option being considered.

For the BDC Credit Reporter, this does not move the needle as we’ve rated the company CCR 4 and added the name to our Weakest Links list since March 2020 when operational steps being taken let us know the situation was getting dire.

There’s no change in BDC exposure – which remains solely in Barings BDC (BBDC). We only write this update to warn readers that the headline “Men’s Wearhouse Files Chapter 11” might be flashing over the news wires soon.

CSM Bakery: In Forbearance With Lenders

Business and financial conditions have deteriorated fast at CSM Bakery which – according to Moody’s – “produces and distributes bakery ingredients and products for artisan and industrial bakeries, and for in-store and out-of-home markets, mainly in Europe and North America“. Both Moody’s and S&P have downgraded the company’s debt to SD, or “selective default“. Right now, the asset-based lenders to the company have entered into a forbearance agreement, but only till June 11. Moreover, the 2020 and 2021 term loans have been downgraded to CC and C respectively. This does not look good and a default or restructuring seems likely.

This is bad news for the 4 BDCs involved with $17.3mn invested at cost in those term loans, one which is senior secured and the second subordinated/second lien, according to Advantage Data’s records. The BDCs involved (in descending order of debt held) are non-traded FS Investment II; Monroe Capital (MRCC); Portman Ridge (PTMN) and FS-KKR Capital (FSK). PTMN is in both the loans and MRCC in just the subordinated.

At the end of 2019, this debt was performing and valued close to par. As of March 2020, the BDCs valuations had been discounted by as much as (18%) and the subordinated by (22%). (As always, BDC valuations vary). The current market value of these syndicated loans – using AD’s module – are not much worse right now despite the downgrades. Whether that will continue, especially for the more junior debt, if a default/restructuring occures remains to be seen. As is often the case, we are more pessimistic.

The BDC Credit Reporter had downgraded the company to CCR 3 from CCR 2 after the IQ 2020 results but now reduces the rating to CCR 4, as a loss seems very likely. Furthermore, we are adding the company to our Weakest Links list given the proximity of a non accrual and/or bankruptcy, even though interest has been paid currently till now. There’s ($1.2mn) of investment income at risk of interruption very soon and eventual losses that could exceed ($6.5mn) in our ungenerous estimation, or 38% of cost.

CSM is another example of that second wave of BDC portfolio companies affected by the impact of Covid-19. (The first wave were the companies already badly unperforming but still accruing income before the virus struck. many of those companies have since defaulted/filed Chapter 11 or undertaken major out of court restructurings or are close to doing so). Judging by its valuation the company was performing adequately before the crisis but has deteriorated fast. (Moody’s valued the first lien debt Caa1 in mid-2019). In less than 6 months CSM has gone from adequate performance to the edge of bankruptcy.

(Word to the wise, there will most likely also be a third wave of underperforming companies if the economy does not recover – even if not directly in the worst affected industries – as the weight of servicing debt and the difficulty of raising new capital increases. However, that’s an issue for another time).

We expect to be reporting back on CSM very shortly, given the short leash the lenders are giving the company.

Barfly Ventures LLC: Files Chapter 11

According to a regional business publication, Barfly Ventures LLC – a bar and restaurant operator in the Midwest – has filed Chapter 11. As you’d imagine, Covid-19 has sabotaged the business and made sustaining its reported $30mn in debt untenable. Thus the bankruptcy filing and the hope that the company can survive and return after a time under court protection. In fact, re-opening of several shuttered locations is already on the cards, so patrons of HopCat – their flagship brand – will be pleased.

This was no great surprise to the BDC Credit Reporter which already had the company rated CCR 5non performing – following the IQ 2020 results from Main Street Capital (MAIN) and non-traded HMS Capital, which have invested $15mn in debt and equity in this ill fated company. The $1.2mn in equity has been written to nothing, and the debt – senior not – has been reduced to a value of $1.4mn. By our standards – as we seek to direct our energies towards the more impactful credits – that makes Barfly Ventures “non material” given that no income is being generated and the likely capital to be rescued at the end of the day will hardly move any needles.

Nonetheless, we’ll continue to follow the progress of the company and how the lenders relate going forward. Will MAIN/HMS seek to take an ownership situation and – maybe – double down with some additional financing ? Or will the BDCs kick themselves for having invested in the restaurant business in the first place and with a growth strategy – as the CEO himself tells it – based on growth by debt-funded acquisitions. The model was already in trouble before Covid-19 came along but the impact of the virus was the equivalent of a body slam. You can’t win them all, but this investment seems to have been dubious from the start. At worst, the two BDCs may end up writing off all ($15.0mn), which we’ll discover in the IIIQ 2020 most likely.

Seadrill Ltd: May File Chapter 11

We hear from Seeking Alpha that energy company Seadrill Ltd may file Chapter 11 after failing to renegotiate with its creditors a mutually agreeable restructuring of its balance sheet. The company indicated :”We are considering all options at this stage, of which Chapter 11 is one.. We anticipate this to take place over the coming year, but it is too early to say for certain.”

This does not sound good for the only BDC with exposure: Barings BDC (BBDC), which has $9.5mn invested at cost in the 2021 senior secured term debt. Even at March 31, 2020 BBDC had written down the investment by (83%) to $1.6mn. Now the BDC faces losing ($0.600mn) of annual investment income from what was supposed to be a “safer” energy investment, if such a creature exists. Currently the debt trades at a fifth of par, but a complete write-off is still possible. The loan was first booked back in IIIQ 2018 but has been underperforming ever since. At this point the position is not material for a BDC with over $1bn in portfolio assets.

We are maintaining our CCR 4 rating for the company – which the latest news has only justified – and we are adding Seadrill to the BDC Credit Reporter’s soon-to-be world famous Weakest Links list, given that we’ve heard from the horse’s mouth that a bankruptcy filing is being actively considered. That usually means a bankruptcy firm is already on speed dial and contingency plans drawn up.

APC Automotive Technologies: Files Chapter 11.

On June 3, APC Automotive Technologies (“APC”) filed for Chapter 11 bankruptcy protection as part of a broad restructuring plan with its creditors. As the press release indicates the central component of the plan is reducing “APC’s outstanding indebtedness by approximately $290 million on a net basis, significantly strengthening the Company’s balance sheet and enhancing financial flexibility going forward.” In addition, the company has organized $50mn in Debtor-In-Possession (“DIP”) financing for what is expected to be a short period under court protection.

Frankly, the BDC Credit Reporter does not have much history with APC, which only showed up on BDCs books two quarters ago. At March 31, 2020 the largest BDC lender was non-traded Cion Investment, which had advanced $11.2mn in senior debt. With a much smaller position and in equity/preferred is newly public Crescent Capital (CCAP) with $1.8mn. Both BDCs had written down their investments: CCAP to zero and Cion to a FMV of $7.8mn. One of the two debt tranches Cion was involved in was already on non accrual as of the first quarter 2020.

This restructuring probably means i) the CCAP position will be written off. It’s a small stake and should have a material impact. ii) Cion is likely to be involved in the DIP and see its overall exposure increase. In terms of valuation, though, that will have to wait till the final exit from Chapter 11 when all the details are finalized. In the short term, all the existing debt is likely to become non-performing and all or some eventually written off. Cion will become an equity owner (we have to assume) and will be keeping the company on its books – in new forms – for some time to come.

We rate APC CCR 5 and – depending on the final structure of the company – will upgrade the company to CCR 3 when the bankruptcy is finalized. Otherwise this development is notable because APC is the second BDC to file Chapter 11 in June 2020 so far. We expect many more to come, and most to adopt the “debt to equity” format where lenders become owners and extend for an indefinite period (equity is called permanent capital for a reason) their investment relationship. If APC markedly recovers Cion may yet make back its losses. For CCAP, though, it may be too late.

Pure Fishing: Downgraded by S&P

The last time we wrote about outside sports retailer Pure Fishing was in response to a downgrade by Moody’s to speculative grade. Now S&P has joined in, dropping the company’s credit rating to CCC+, from B-, according to an article. There’s only a six week gap between these ratings so there’s not much new bad news. However, we did focus principally on liquidity matters, which included this comment by S&P: “…we expect working capital to be a use of liquidity in 2020, as slowed inventory turns coupled with delayed collections result in a net use of the company’s cash and reliance in 2020 on its $125 million ABL revolver, which had a $100.6 million balance at the end of March 2020. We expect the company to continue to generate negative operating cash flow through the end of 2020“.

We already had Pure Fishing in “speculative” territory, i.e. rated CCR 4 on our 5 point system. No change there. We also continue to have Pure Fishing on our Weakest Links list, expecting a default or restructuring to occur in the short term. That’s been a bridge too far till now, as the S&P review seems to suggest the company may yet avoid that fate. We tend to be more conservative, especially as BDC exposure here is in the more vulnerable second lien level.

Since we last wrote IQ 2020 results have been published. The two BDC lenders exposure at cost ($125.8mn) remain Major, but unchanged. Not surprisingly, the fair market value marks are catching up with the company’s problems. The discount is now (19%) from (13%) at the end of 2019. We continue to believe that’s still not a big enough discount. Given this latest downgrade; lower sales; Covid-19 etc we expect FS Investment (FSK) and FS Investment II will be taking a further unrealized write-down at the end of the IIQ 2020.