Dunn Paper: Update

6/8/2022: We first wrote about the troubles at Dunn Paper not very long ago on April 28, 2022. At that point, second lien lenders were agitating for some sort of change after the company sought - and received - a forbearance from its lenders. Now a specialist bankruptcy publication indicates the company is "working on a restructuring agreement that may give ownership to a group of first-lien lenders". A Revolver and a first lien term loan come due in late August and the company is clearly hurting, so there is pressure for a satisfactory resolution.

Last time we wrote, as we downgraded Dunn Paper from CCR 5 from CCR 3 on our 5 point scale - as far as one can go - we were inexplicably optimistic about the odds of a decent ultimate recovery for the 3 BDCs with exposure in first and second lien debt. Now we're not. In the interim, we've heard from Prospect Capital (PSEC) that the BDC sold its first lien position for $4.1mn and a ($0.4mn) realized loss on March 18, 2022. Furthermore, PSEC reduced the value of its second exposure - which has a cost of $11.5mn down to $9.5mn.

Now all BDC exposure - $16.9mn - is in the form of second lien and discounted by as much as (28%) - in this case by non-traded Barings Credit. Some ($1.7mn) of annual investment income is likely not getting paid to the three BDCs. PSEC remains the largest lender with $11.5mn at risk.  

If the first lien lenders are really ready to exchange their debt for equity, chances are there is little or no value left for the second lien lenders, and the BDCs involved. That's up to $13.4mn of remaining fair market value at risk of further write-down.

This is a relatively fast moving story, so we expect we'll be back with an update before long. For the BDCs involved, the amounts at risk - even in the case of a full write-off - are modest, but PSEC might wince a little if matters reach that pass.

Furthermore, the Dunn Paper drama is also instructive as one of the most recent and tangible examples - for what we've been able to gather - of a highly leveraged company brought low by the recent inflationary pressures and supply chain constraints. (Of course, these are often two sides of the same coin). BDCs have been mentioning for a couple of quarters now that some of their portfolio companies are facing challenges due to these issues but Dunn is one of the few names so far to have actually stumbled and required restructuring. Canary in the coal mine or outlier ? We shall see.