As of June 19, 2019 the stock price of publicly traded refrigerants distributor Hudson Technologies (ticker: HDSN) has dropped below $1.00 and become a “penny stock”. The company – based on BDC valuations – has been under-performing since June 2018. As a public entity, we’ve been able to review quarterly filings and read the ever bullish Conference Call transcripts. We added Hudson first to our Watch List (CCR 3) and then – more recently – to our Worry List (CCR 4) and are concerned that the company may soon join our Bankruptcy List (CCR 5). Admittedly as of IQ 2019, the company was in compliance with much adjusted covenants on both its secured Revolver and its Term Loan. The business is admittedly seasonal but Operating Income was under a quarter million dollars and interest expense $2.4mn. Total debt, which includes the 2023 Term debt where all BDC exposure sits, is $131mn. All of which to say that the signs do not look good for the business and for its lenders. BDC exposure is $102mn, and generates $13mn of annual investment income. All the BDCs are part of the FS Investments-KKR complex and include publicly traded FSK ($39mn) and non-traded FSIC II, FSIC III and FSIC IV. At March 31, 2019 the Term debt had already been discounted (29%). The debt is publicly traded and that discount holds as of June 19, 2019 based on Advantage Data’s middle market loan real-time data. Unfortunately, the fundamentals of the industry in which the company operates are currently negative and we worry that if a Chapter 11 filing or out of court restructuring occurs there will be both income interruption and further losses both realized and unrealized. At worst, the BDC lenders might have to write off (or convert to equity) 50% of debt outstanding, or around $50mn, compared to ($30mn) already discounted. Given the size of the BDC exposure; the substantial investment income accruing; the very sharp drop in the stock price and the negative tilt in recent results, this is a credit worth paying close attention to.
On June 18, 2019, the famous TOMS Shoes LLC received a downgrade from S&P Global Ratings. The first sentence of the press release tells you enough: “[the company’s] turnaround effort is taking longer than expected and its adjusted leverage remains elevated at around 10x, which will make it difficult for the company to address its upcoming term loan maturity in 2020 without undertaking a subpar exchange”. If that’s not enough to worry you, then there’s this sentence from further on in S&P’s report:“The negative outlook also incorporates TOMS’ continued sales declines, eroding liquidity, and its fixed-charge coverage ratio, which is at or below covenant levels, due to the challenging retail environment and the company’s continued weak operating performance”.The ratings were dropped to CCC from CCC+ for both the company and the first lien debt.
The $9.3mn in aggregate BDC exposure (Main Street and HMS Income) is in the 2020 first lien debt and was already written down by (18%) in the last couple of quarters, even though income is still current. None of this is any surprise to the BDC Credit Reporter, which has had TOMS on its under-performing list since late 2015 and on our Worry List for about the same time. Our current Credit Corporate Credit Rating is 4, just one notch above non performing. Bankruptcy or a debt for equity swap seems almost inevitable despite the best efforts of PE owner Bain Capital to effect a turnaround. The BDC lenders involved seem at risk of absorbing $0.750mn of annualized investment income interruption for some period, and a Realized Loss at some point in the sub $5mn range. This may become yet another lender-owned company. Still, the amount of income and book value at risk are relatively modest for MAIN and its sister BDC.
On June 18, 2019 multi-unit retailer Bluestem Brands reported results for the quarter ended May 3, 2019. We reviewed the earnings press release, and the Conference Call transcript on Sentieo (not yet linkable). Notwithstanding lower sales in the period compared to a year earlier, the company reported progress in “turning around” the business in several areas. Adjusted EBITDA was barely positive but that’s an improvement over ($12.6mn) a year earlier. Most importantly, from a credit standpoint the company was nowhere near triggering the several key metrics imposed by its senior lenders. Nonetheless, the burden of total debt has remained unchanged over the past several quarters, and its principal Term debt becomes due in late 2020. We have a CCR 4 Credit Rating, which remains unchanged. There are 4 BDCs with $29mn in exposure – all in the 2020 Term debt. In the IQ 2019, the unrealized depreciation was reduced in the BDC valuations and may receive a modest boost in the IIQ, based on these results. Nonetheless, the retailer is far from being out of the woods.
On June 17, 2019 publicly traded gas exploration company Ultra Petroleum Corp (UPL) issued a press release announcing the extension of an offer to exchange the 7.125% Senior Notes due 2025 of its wholly owned subsidiary, Ultra Resources, Inc. for up to $90.0 million aggregate principal amount of new 9.00% Cash / 2.50% PIK Senior Secured Third Lien Notes due 2024, aka the Third Lien Notes. Unaffected directly is the only BDC with exposure – FS Energy & Power – whose investment of $45mn at face value is in the $975mn April 2024 senior secured Term Loan. That’s one of multiple debt facilities in this heavily leveraged company, with nearly $2.0bn in debt, even after shedding both Term loan and Revolver outstandings, as detailed in the latest 10-Q and on the IQ 2019 Conference Call. Thankfully, the BDC’s debt sits at the top of the capital structure, just under a Revolver, whose balance was only $38mn. Whether the exchange happens or not, though, the company will remain on our Watch List, given the large amount of debt and the fact that the price of Ultra’s common stock has dropped to an all-time low. The stock used to trade at over $15.0 a share, but is now at $0.35. There is close to $3.0mn of investment income at risk for FS Energy & Power.
Bloomberg published an excellent article about the different constituencies amongst Frontier Communications creditors, and the several alternatives being considered to cope with the telecom company’s mountain of debt. No change to the BDC Credit Reporter‘s views, as noted in the Company File.
On June 13, 2019 Restaurant Business published an article summarizing many of the financial and operational challenges facing Wendy’s and Pizza Hut franchisee NPC International. Based on what we read, other research undertaken (including reading Moody’s recent downgrade of the Company and its debt) and after reviewing on Advantage Data the latest prices quoted for the first lien and second lien loans, the BDC Credit Reporter downgraded our outlook from CCR 3 to CCR 4 on our 5 point scale. There are two BDCs with exposure, almost all held by Bain Capital Specialty Finance (BCSF), with $14mn of loans in both first and second lien Term Loans. Read the Company File for our analysis of investment income at risk and the potential for realized and unrealized credit losses.
On June 13, 2019 WhiteHorse Finance (WHF) filed a Prospectus relating to the sale of its stock held by insiders. Included in the Prospectus was up to date information about the BDC’s first lien investment in grocery chain AG Kings Holdings. “We also currently expect to place our first lien investment in AG Kings Holdings, Inc. on non-accrual status and determine the fair value of the investment to be marked between approximately 70% and 80% of face value as of June 30, 2019, compared to 85% as of March 31, 2019″. See page S-6. The only other BDC lender to the Company – Capital Southwest (CSWC) – had already booked its own investment in the same 2021 Term Loan as being on non accrual in the IQ 2019. However, CSWC had discounted the investment by only (9%). The (20%-30%) discount being applied by WHF suggests a further weakening of the Company’s performance in recent weeks, and the possibility of a default. For more about the Company, BDC exposure and our views, see the attached Company file.
Despite Frontier Communications recent asset sales, which will reduce its debt mountain, the regional telecom remains in trouble. On June 12, 2019 a JP Morgan analyst downgraded some of the company’s bonds; and the stock price dropped as much as 13% in reaction. Also, a distressed fund manager predicted a Chapter 11 filing would happen in 2019. Currently, the publicly traded FTR trades below $1.50, close to it’s all-time low. This must be disturbing for the multiple BDC lenders – in 4 different debt facilities from senior to subordinated, and in maturities as long as 2027. As we’ve noted in prior articles, BDC exposure aggregates $44.2mn, with non-traded Business Development Corporation of America (BDCA) with the largest exposure by far (nearly $40mn), including some junior. The only public BDC lending to Frontier is OCSI, with $1.5mn in 2024 Senior Term Debt and under $100,000 a year of investment income at risk of interruption. Frontier has been moved to our Worry List , just one step away from bankruptcy or restructuring, along with 32 other troubled BDC borrowers.
The Company filed for Chapter 11 on June 3. On June 11, in an article from the Global Legal Chronicle we learned that “ad hoc group of lenders also backstopped Fusion’s debtor-in-possession financing facility in the aggregate principal amount of $59.5 million, which consists of $39.5 million of new money term loans”. This suggests that the two BDCs with $18mn in senior debt exposure – CMFN and GARS – have increased their exposure to what was till very recently a fast growing enterprise, cobbled together from multiple acquisitions. It’s still too early to determine how this will all play out. The business may yet be sold or the existing lenders may be involved in a debt for equity swap. In either case, income from the pre-petition debt is going to be interrupted for months, and some sort of realized loss is likely. At 3/31/2019, the discount to cost that the BDCs were using ranged between (12%) and (17%). However, any income and return from the DIP financing should be money good.
The good news for 99 Cents Only Stores, LLC – which is owned by Ares Management and the Canada Pension Plan Investment Board ? Chapter 11 bankruptcy has been averted. Back on June 7, we warned on our Twitter feed that bankruptcy was a risk. Now the bad news: Ducking a trip to the bankruptcy court has been accomplished by a debt for equity swap and a fresh capital raise. According to Retail Dive: “under the agreement, 99 Cents Only is to issue common and preferred stock in return for its outstanding $146 million second-lien term loan facility and $143 million secured notes”. From what we can tell, there are two BDCs in the secured notes : sister BDCs OCSL and OCSI, with aggregate exposure at cost of over $20mn, and generating over $1.5mn in annual investment income. (The bulk of the exposure is at OCSL). At March 31, 2019 the debt was still performing and written down only modestly (11-14%), although restructuring negotiations were already underway. This is not a transaction the “new” management at OCSL/OCSI can blame on Fifth Street. According to Advantage Data, the debt was added in late 2017 after Oaktree’s investiture as external manager.
Frankly, we’re a little surprised at how generously the BDCs have valued their exposure throughout. As late as IIIQ 2018, the debt was carried at par even though 99 Cents Only has been in trouble almost from day one, thanks to heavy leverage placed on the 2011 buyout. For a sense of proportion – and quoting Moody’s – debt to EBITDA was around 8x. In 2017, the company almost filed for Chapter 11 and was only saved by an earlier debt restructuring. It’s unclear if this second restructuring will do the trick, but OCSL and OCSI are now in for the long term in a non income producing position at the bottom of a still leveraged balance sheet. We’ll have to wait till the publication of the IIQ 2019 results to see how the BDCs value their new positions and whether any realized losses are booked. BDCs have great latitude in this area, so investors should pay attention to what is done as well as said.
Also with exposure is asset-based specialist TSLX, with $32.2mn in 2021 debt. The BDC has continued to mark the position at par, suggesting TSLX will be repaid in full on its FILO ABL facility when the time comes. We have no further details from the public record. We do know – from Advantage Data – that TSLX will be paid more than OCSL and OCSI and – as far as we can tell – have a better credit outcome thanks to their ABL approach. No wonder multiple other BDCs are eyeing getting into this specialized form of lending. By the way – outside of the public filings – none of the three BDCs involved appear to have discussed the challenges at the company since the debt was booked, either on a Conference Call or Investor Presentation. (We use Sentieo which searches all available filings for any input keywords).
By the way, we don’t have a Company File for the company, but will be adding one given that – this restructuring notwithstanding – BDC exposure continues and the final resolution of the greater than $50mn invested is some way off. After all, S&P has a rating of CC for the company…
On June 10, 2019, Sportco Holdings, the parent of United Sporting Companies – an intermediate holding entity with no assets of its own – and all its subsidiaries Ellett Brothers, LLC, (“Ellett”), and four of Ellett’s six wholly-owned subsidiaries: Evans Sports, Inc., ; Jerry’s Sports, Inc. , Outdoor Sports Headquarters, Inc ; and Simmons Gun, filed for Chapter 11 bankruptcy. The filing is attached. From the report provided to the bankruptcy court, the financial difficulties of the group are of long standing, and both sales and EBITDA have declined precipitously. The owners – who include WellSpring Capital Partners IV and Prospect Capital (PSEC) – have been seeking a buyer since the beginning of the year, but Houlihan Lokey – who was in charge of the auction – found no buyers despite contacting 55 prospects. Liquidation of the companies assets seems to be the likeliest course of action in bankruptcy. 321 jobs are at risk of being lost.
From a BDC perspective, PSEC serves as both equity holder (21%) and a second lien lender. The BDC first became a lender in 2012 with a $100mn advance. Over the years, exposure reached $160mn, but was reduced by March 31 2019 to $127mn at cost. (We don’t know if the reduction in outstandings was due to repayments by the borrower, or the sharing of the debt with other PSEC entities or third parties). The debt has been on non accrual since IIQ 2017. The most recent value of the debt was $35.7mn. We expect that the entire second lien loan will be written down to zero, judging by the information in the filing. The company reports adjusted EBITDA of only $8mn, while there is an asset-based loan senior to PSEC’s debt with $23mn outstanding. In addition, the company reports $41mn in unsecured obligations outstanding which, arguably, rank pari passu with the second lien debt, which totals $250mn. There are also unpaid wages and ongoing payroll to contend with. A $30mn Debtor In Possession facility is being envisaged, but we’re not clear if PSEC will be providing that new debt capital in bankruptcy. If we are correct, the Realized Loss will amount to approx $0.35 a share and the incremental hit to net book value will be $0.10. There will be no impact on income as PSEC has been forgoing over $17mn in annual investment income for two years. This is obviously a major credit reversal for PSEC, and another indirect casualty of the shake-out happening in retail, made worse by some managerial miscalculations (see pages 7-8 of the filing). Although the business – according to management’s admission in the filing – has faced “headwinds” since 2d015, PSEC did not materially write down its second lien position until the non accrual occurred in IIQ 2017. That discount has risen over the subsequent quarters from (41%) to (72%) most recently.
On May 7, 2019 huge food distributor CTI Foods Holdings emerged from Chapter 11, after a short stay that began less than 2 months before. In addition, the company announced the arrangement of a new $110mn Revolver to fund post-bankruptcy operations. For the 3 BDCs with $37mn in debt exposure to CTI Foods, this will result in likely booking of Realized Losses in the IIQ 2019 results. There is $28mn of second lien debt from FSK, CCT II and Guggenheim Credit Income Fund which will be written off as part of the restructuring. Apparently, CTI Foods is shedding $400mn in debt to become viable after many months of deteriorating performance in 2018. Less clear is what happens going forward to first lien and secured DIP financing (advanced in the IQ 2019 to help the transition) outstanding. For the BDC Reporter’s Views on this credit, and for further details, see the Company File.
On June 4, 2019 Canadian oil exploration company Bellatrix announced the completion of its restructuring plan, which we wrote about in an earlier post on April 17, 2019. The press release provides useful summary details of the various components of the recapitalization but also addresses the 2023 second lien debt, which accounts for the $106mn BDC exposure to 4 different FS-KKR Capital BDCs, both traded (FSK) and non-traded. The deal is a partial debt for equity swap with lenders reducing the oil company’s total debt load by $110mn.
May 30, 2019: Yahoo Finance reported Frontier Communications Corporation (ticker: FTR) announced that it has inked a deal to sell its assets and operations in 4 states. The transaction is valued at $1.352 billion in cash, and is subject to regulatory approvals.The sale proceeds are likely to be utilized to pay off the company’s financial obligations. As of Mar 31, 2019, it had $119 million in cash and equivalents with $16,526 million of long-term debt. At the end of first-quarter 2019, Frontier Communications’ leverage ratio was 4.76:1. For the 5 BDCs involved, with $44mn in senior and subordinated debt at risk, this keeps the wolf at bay but is unlikely to result in full repayment at par. This remains on our Watch List.
On May 10, 2019 publicly traded Sequential Brands (SQBG) published its 10-Q. Two days earlier, the company held its regular Conference Call and issued its earnings press release. We reviewed the results on May 29, which only reinforced our concerns about the future of the business. Without getting into all the details, Sequential has $600mn in debt outstanding and is generating $16.8mn in “Adjusted EBITDA” and $15.6mn in interest. Plus, performance is headed south, with first quarter result “below expectations”. The stock is virtually worthless, valued at $0.6670, close to its all-time low. Yet, the 4 BDCs with a sit up and notice $293mn in exposure at cost continue to value their debt at or close to par. Admittedly, there is $10mn of equity invested which has been virtually written off, following the stock price. That leaves, though, a whopping $283mn in debt – almost all nominally first lien. The BDCs with exposure – ranking from largest to lowest are FSIC II, FSIC III, FSK and AINV, all in the 2024 Term Loan. FSK has exposure of $63mn and AINV $13mn. Should the company default, both the income loss from a non accrual and the potential loss of capital in a restructuring or bankruptcy could be sizeable. We assume in a Worst Case, the BDC lenders would lose all their equity stake and half their debt outstanding, or over $150mn in total. Given the size of the exposure; the financial condition of the borrower and the possibly overly optimistic valuation we’re placing Sequential on our Daily Watch List to make sure we don’t miss any development.
According to the Wall Street Journal, online furniture and appliance seller DirectBuy Home Improvement Inc., a subsidiary of e-commerce business CSC Generation, has won a bankruptcy auction for home-decor retailer Z Gallerie LLC with a bid valued at $20.3 million. DirectBuy’s bid comprises $7.7 million cash and $12.6 million in debt provided by KKR Credit Advisors and B. Riley Financial Inc, according to papers filed in the U.S. Bankruptcy Court in Wilmington, Del. Further details are sparse. The bottom line, though, from a BDC standpoint is that FSK ($30.2mn) and non-traded Sierra Income ($4.4mn) are likely to have to book an almost complete Realized Loss. At March 31, 2019 the respective values were a;ready down to $4.8mn and $1.4mn. The final discount could be higher. We note that KKR Credit Advisors is providing some of the financing, but don’t yet know how that relates to FSK , which is a JV between KKR and FS Investments. In any case, this is a reverse for both companies, albeit one that has been on non accrual for several quarters.
Under-performing shoe manufacturer TOMS Shoes, LLC saw its Moody’s ratings affirmed. The senior debt remains at Caa3, as did the Corporate Rating. The outlook was downgraded from stable to negative. Apparently, Moody’s is worrying that leverage is too high to expect 2020 debt maturities to be met in the ordinary course. This is a long standing under-performing credit that dates back to 2016, so no great surprise. BDC exposure – all in the afore mentioned 2020 debt- is $9.3mn, equally split between related BDCs MAIN and HMS Income, which have written down the debt by (18%) as of March 2019. The discount has been higher in the past, but actions such as these suggest we should be worried. After all, 2020 is just round the corner.
On May 20, 2019, the wholly-owned subsidiary of publicly traded Ascent Capital Group (ASCMA) – Monitronics International Inc. – entered into a Restructuring Support Agreement (“RSA”) with its latest creditor. This is part of a major restructuring effort that will reduce Monitronics debt and see the parent company merge into the parent as part of a pre-packaged bankruptcy. BDC exposure aggregates $21mn, spread over 5 public and non- public funds.
David’s Bridal has just emerged from Chapter 11, but remains troubled, according to S&P Global. That’s bad news for the only BDC with exposure – Cion Investment – with $2.6mn of debt and equity.
USA Today reported on April 25, 2019 that S&P warned that the home goods retailer Pier 1 might be headed for Chapter 11 bankruptcy. That should be a surprise to no one as the company is caught up in the retail revolution; same store sales are dropping; a turnaround plan has failed to be effective and management has been changed, etc. S&P dropped its debt rating to CCC- from CCC+. Yes, the writing is all over the wall.There are two sister BDCs with $16.3mn in senior debt exposure to the beleaguered company which has already been written down by a quarter. Those are MAIN and non-traded HMS Income. Our assessment of potential income and realized losses remains the same as expressed in the Company File on April 17, 2019.