24 Hour Fitness Worldwide: Draws Down Revolver

The Wall Street Journal reported on March 24, 2020 that 24 Hour Fitness Worldwide closed all its locations due to Covid-19; drew down its Revolver for liquidity; withdrew earnings guidance and saw its 2022 bonds trade at 32 cents on the dollar.

All that’s bad news for the only BDC lender to the fitness chain: Barings BDC (BBDC). The BDC is a senior secured lender in a 2025 Term loan that was discounted (25%) at year-end 2019. At that point, the BDC Credit Reporter downgraded the company from performing (CCR 2) to Worry List (CCR 4). The latest news confirms our concerns that recovery of capital in full looks unlikely. That’s especially the case as 24 Hour Fitness was lagging even before the most recent crisis, and the 2025 Term loan is valued at only 33 cents on the dollar.

The saving grace for BBDC – in what was supposed to be a very safe loan (priced at LIBOR + 350 bps) – is its decision to lighten its exposure recently to just $4.7mn at cost from more than twice as much as of IIIQ 2019. If this loan defaults – and we expect that to happen – the income involved is only $0.200mn a year and the likely realized loss at 50% is ($2.4mn).

Commercial Barge Line: To Exit Chapter 11

Not very long ago in calendar days, we wrote about Commercial Barge Line’s pre-agreed Chapter 11 filing. Now, about a month later, we can report that the company is poised to exit from court protection. As we knew from the outset, a debt-for-equity swap will see lenders become owners. In addition, a rights offering and new debt facilities are planned for the barge company. A law firm involved in what seems like a successful restructuring says the company will be operating normally – much to the relief of its 2,100 employees as early as April.

We won’t delve too much into the details of the new arrangement because BDC exposure to the company will be de minimis to non existent going forward. We found out today that the biggest of the two BDC lenders with exposure – Great Elm (GECC) – sold out of its $15.9mn secured Term Loan earlier in the first quarter 2020. GECC was not interested in owning a non-income producing stake in a restructured company, and took its lumps. According to GECC, the BDC received 34 cents of par or $5.4mn. At year end 2019 the position was valued at $8.0mn, so GECC will be booking an additional ($2.6mn) loss. Overall, the realized loss will amount to ($8.9mn) for GECC.

Looking at GECC’s investment history on Advantage Data we see that the opportunistically minded BDC had been invested in Commercial Barge Line debt since 2017 and was increasing its exposure as late as IVQ 2018.

That leaves a question mark as to the only other BDC with exposure: FS-KKR Capital (FSK), inherited from Corporate Capital Trust, which also began lending in 2017. As of year end 2019, FSK’s debt – in the same facility as GECC- had a cost of $4.2mn and was worth about $1.5mn, down from $2.2mn at year end. We don’t know if FSK is going to hang in there as an equity holder, but given the small amounts involved relative to the BDC’s size and the absence of any income, this company is likely to become too small to be material in our database, and be removed from our active under performers list.

VIP Cinema Holdings: Bankruptcy Plan In Doubt

Back on February 19, 2020 when we first wrote about VIP Cinema Holdings, the movie theater seat manufacturer was in bankruptcy but planning to exit with a plan that included the conversion of debt to equity and new capital. Since then, though, we’ve had the Covid-19 situation, which has been a disaster for so many businesses, including the company’s prospective movie house clients.

Now, thanks to a legal challenge from a disgruntled unsecured creditor (Regal Cinemas) and a full fledged article in Law360, we hear that there is some doubt that the company will be able to proceed and get bankruptcy court approval to exit Chapter 11. Admittedly, this is one sided information as the company has not responded to claims made as yet.

However, one has to wonder – even without Regal’s complaints – if the company can survive in any form the extreme market conditions that Covid-19 has wrought and which show no signs of abating. For the three BDCs involved, this is making a bad situation worse. At year end 2019 – with the debt owed already on non accrual but before the Chapter 11 bankruptcy – VIP’s 2023 Term Loan had been written down by approx (55%). The expectation was that the BDC lenders would become owners in a fully de-leveraged entity. Now a complete loss on $23.6mn invested is a possibility. The BDCs involved are (in descending order of importance) publicly traded Main Street (MAIN); non-traded sister BDC HMS Income and public Garrison Capital (GARS).

We will check back when the BDC Credit Reporter determines if the company successfully exited Chapter 11 or not. Even then – and even without any debt outstanding – VIP may not yet survive. We are in a whole new environment and what was possible only a month ago in terms of company rescue will be very different going forward.

Men’s Wearhouse: Close Fulfillment Center, Stores

Tailored Brands Inc., the parent of Men’s Wearhouse clothing stores, announced on March 19, 2020 that it will close its e-commerce fulfillment centers from March 20 through at least March 28, out of concern over the COVID-19 pandemic. The company is also suspending operations in its retail stores during that period. The stock price of the retailer – already headed downward for months – has dropped to just over $1 share.

We last wrote about Men’s Wearhouse in December 14, 2019, when we maintained our CCR 3 rating that has been in play since IIQ 2019. Since then, conditions have changed – to say the least. The effective closure of the business and the two-thirds drop of the company’s public stock price in one month are more than enough to cause us to downgrade Men’s Wearhouse to CCR 4, one step above non accrual.

The only BDC lender with exposure – Barings BDC (BBDC) – with $9.9mn in the 2025 Term Loan had already discounted its position by (21%) at year end 2019. Now, that syndicated loan is trading at a (41%) discount, we feel validated about our increased pessimism and the sense that BBDC will not be able to extract itself without a material realized loss. Income wise – given that this was an aggressively priced facility that dates back to 2018, the impact will be modest should the worst occur. The loan is priced at L + 325bps. At the current rock bottom level of LIBOR the loan yield is just over 4.0% all-in and earning BBDC only $0.400mn annually, or only 0.3% of the BDC’s total investment income in 2019.

Craftworks Restaurant & Breweries: To Shutter All Locations.

Poor old restaurant chain group Craftworks Restaurant & Breweries. After filing for Chapter 11 on March 3, 2020 – shortly after our first and only article on the company so far on February 21, 2020. Then, we had predicted a bankruptcy or restructuring. Tick.

What we did not expect was the arrival on the scene of Covid-19, which has caused the company to lose its Debtor-In-Possession (“DIP”) financing and the decision to close all its locations. Craftworks hope the closures will be temporary – as does every restaurateur and diner in America – but cannot be sure.

One way or the other, the $13.4mn at cost lent to the company in the form of second lien debt – which only began a couple of quarters ago – seems to be in danger of being fully written off. At 12/31/2019, the 2024 debt was valued at a (25%) discount and was still current at a PIK rate of 12.0%, or $1.6mn a year of investment income. Chances are very high the BDC lenders will have to write down all the $10.2mn of FMV remaining in the next quarter, and lose all the income. FS-KKR (FSK) has invested $7.2mn and non-traded FS Investment II has $6.2mn.

Frontier Communications: To Skip Interest Payments

On March 16, 2020 Bloomberg reported that troubled telecom giant Frontier Communications plans to skip making interest payments on some of its bonds, starting a 60 day countdown to a payment default. We’ve written nine times (!) about Frontier before, given the twists and turns of what promises to be “one of the biggest telecom reorganizations since Worldcom Inc. in 2002″.

None of that is surprising as news reports and the BDC Credit Reporter have been predicting a Chapter 11 filing and a massive re-organization for months, but does indicate the day of reckoning is coming ever closer. The bankruptcy – which we expected in the IVQ 2019 – looks likely to land in the IIQ 2020.

Since our last report a couple of the many BDCs that hold the company’s debt have reported IVQ results and their latest valuations on their Frontier positions. Oaktree Strategic Income (OCSI) and non-traded sister BDC Oaktree Strategic Income II hold the 6/15/2024 senior Term debt and – in the case of latter BDC – the 2026 Senior Note. All we can report – without comment because we don’t understand the capitalization of Frontier well enough to differ – is that the debt is still carried at a premium. Obviously, Oaktree – which must be familiar with whatever plans for a restructure are underway – believes that there will be no loss booked if and when the seemingly inevitable bankruptcy happens.

We’ve not yet heard from all the other BDCs that have a position in Frontier, most of whom are part of the FS Investments-KKR group. However, publicly traded FS KKR Capital (FSK) has reported its IVQ 2019 portfolio and we see that Frontier has dropped out since September 2019. No comment was made on the latest conference call, but we imagine management may have decided caution was the better part of valor and sold out its position. For all we know that may be true for its 4 sister non-listed BDCs. If that’s true, BDC exposure to this upcoming massive bankruptcy might be very small.

We’ll continue to track this company and expect to be discussing the Chapter 11 filing and its implications before long.

Constellis Group Inc.: Update

We have written about Constellis Group on four prior occasions. With the publishing of IVQ 2019 BDC results, our most dire predictions appear to be coming true. That’s unfortunate because on January 4, 2020 the BDC Reporter was saying darkly: “We’ll probably be learning a lot about the company’s plans and the impact on its various lenders very soon and will be able to make a better assessment. At this point, though, with a potential loss range of $75mn-$100mn in a down case, this looks like a major credit reverse is on its way“.

Now we’ve just seen OFS Capital’s (OFS) latest valuation of the 4/1/2025 “First Lien” debt. The loan has been discounted by (96%) from cost versus (71%) at 9/30/2019. Worse, and according to Advantage Data, currently that loan trades at 1 cent on the dollar... Likewise, FS-KKR Capital II has also reported IVQ 2019 results and the value of its 4/15/2022 Term Loan. That was discounted by (14%) in September, but (33%) at year-end 2019. Currently that loan – also on non accrual – is discounted (87%).

Let’s tot up the damage. There’s $9mn of investment income already interrupted since November 2019 (according to OFS) and potential realized losses across several tranches of debt of ($96mn-$100mn) by our rough estimate. That’s ($30mn) in additional unrealized depreciation from the 9/30/2019 levels for which we have values for all BDCs involved. We don’t have the latest word about how the restructuring of the company is going but by the time we hear, the lenders involved appear set to recover very little. Even then, that might be in the form of equity rather than cash.

Frankly, this is an unmitigated disaster for this Apollo Group-led buyout and for the BDC lenders involved. To be specific, the biggest hit is being taken by the non-traded BDCs in the FS-KKR Capital construct (FS Investment II; FS Investment III; FS Investment IV and CCT II, all of which are being rolled into one entity). By our count 86% of the exposure is there, with OFS the second BDC group on the list with $9.8mn at cost. Far behind are Garrison Capital (GARS); followed by two non-traded players with small outstandings.

We’ll be checking back when the final decision about a bankruptcy-restructuring is finalized but – from a lenders standpoint – most of the damage has been done and material recovery of any kind seems unlikely from the information at hand.

Community Intervention Services: IVQ 2019 Update

Community Intervention Services is a PE-owned dependency treatment center chain that has attracted BDC financing as far back as 2015. The two BDCs involved were Triangle Capital, whose loan was acquired by Business Development Corporation of America (BDCA) some time ago when all its assets were sold to the non-traded BDC; and OFS Capital (OFS).

The initial subordinated loan facility was led by Triangle Capital and OFS was a participant, according to the latter. At the height, the two BDCs had $25.7mn invested in the company, but that’s down to $7.6mn at December 31, 2019. That’s because BDCA wrote off its entire investment back in 2019. OFS continues to have the $7.6mn at cost outstanding on its books.

However, the company has been on non-accrual since 2016 and the investment written to zero since 2017. That’s due to one of the company’s subsidiaries being caught up in a medical fraud case – a very familiar story in the healthcare sector. For some reason OFS has not followed the lead of its BDC peer and booked a realized loss as yet. We do know quite a lot more from periodic updates by OFS on conference calls over the years, but given that the investment is unlikely to ever be worth anything, we won’t revisit what has become ancient history in credit terms.

However, the BDC Credit Reporter has to assume OFS will eventually write off its position and the company will be removed from the list of BDC funded companies. At the moment, though, Community Intervention Services is an example of a “zombie” investment, of which there are many in BDC portfolios as lenders wait for final resolutions on investments gone bad.

The good news from the OFS perspective – at least – is that the company can have no further impact on its income or book value, except to increase its realized loss column when the time is right. The bad news is the reminder to BDC debt investors that debt investments can result in 100% losses when things go awry, as happened here.

Baymark Health Services Inc : Added To Under Performers

On March 14, 2020 we added opioid treatment company Baymark Health Services to the BDC Credit Reporter’s under-performers list, with an initial rating of CCR 3 on our five point scale.

We were motivated by five factors. First, the publicly traded 2025 Term Loan debt of the company dropped (8%) in value during the most recent market melt-down. Second, we noted that – after a 12 month period – the private equity owner of the fast growing chain of treatment centers “pulled” the company from being sold. Third, the BDC Credit Reporter is aware – and has written about – multiple other similar dependency treatment centers of late facing financial and operational difficulties. Fourth, the company has been growing very quickly of late – by merger and acquisition. Recently, a number of “roll-ups” in various sectors have gone wrong, raising a red flag to the BDC Credit Reporter where Baymark is concerned. Fifth, the industry is highly dependent on reimbursement by governmental authorities and insurance groups, whose track record for reliability has been unconvincing of late.

However, to be fair, the latest BDC valuation of that same 2025 Term Loan was at a slight premium to cost. That was by OFS Capital (OFS) – one of 3 BDCs with $12.9mn invested in aggregate, all in that same 2025 Term Loan. The other BDCs involved are non-traded Hancock Park and recent public BDC Crescent Capital (CCAP), which inherited the investment from Alcentra Capital, whose portfolio has been acquired. All the BDCs exposure dates back to early 2018. Investment income involved is $1.3mn.

To date, the term debt has been trouble-free, judging by the quarterly valuations. We are adding the company to our watch list (CCR 3) out an abundance of caution and remembering – if Alcentra’s disclosure back in the day when the loan was first booked – this is a second lien position. That seems to be confirmed by the pricing: LIBOR + 825 bps.

We admit that not everyone might agree that BayMark – owned by eminent PE group Webster Equity Partners – should even be on the under performers list. We leave to readers – having made our case herein – to make their own minds up.

Bass Pro Group, LLC: Loan Value Dropped

The BDC Credit Reporter added fishing and hunting specialty retailer Bass Pro Group LLC to the under performers list only in IVQ 2019. That was on the back of a worrisome note by Moody’s about the company, which we wrote about on October 1, 2019. The company is privately owned.

There’s been no new information from the ratings group that we’re aware of since, or anything material in the public record. However, when we checked Advantage Data’s records for the latest valuation of the company’s debt we noted a discount of (12%) on March 13, 2020, significantly higher than before the market melt-down.

Moreover, we couldn’t help surmising that a company still heavily reliant on walking around consumers – now stuck at home in some cases – might be impacted going forward. As Moody’s previously noted, the owners have had an “aggressive” financial stance. The loan in which the BDCS involved are funded was expanded in 2018 to allow for the repayment of junior capital, as Moody’s reported at the time. Also, EBITDA is at or above the levels we’d prefer for companies of this size. We are affirming our CCR 3 rating, but will be paying ever closer attention.

At the moment, though, BDC exposure is relatively modest: now just 2 players: publicly traded OFS Capital (OFS) and Garrison Capital (GARS), with $9.0mn invested at cost. (The latter has the bulk of the exposure). Non-traded GSO-Blackstone appears to have dropped out as lender late in 2019. In both remaining cases, the exposure is limited to involvement in the syndicated 2024 Term Loan, mentioned above. OFS actually valued the debt at a premium to par at 12/312/2019 (the GARS report is not available). That might even suggest the debt will shortly be repaid.

In our database, we’ve assumed some potential material credit losses in a worst case, but there’s no immediate reason to be concerned for the BDCs involved. Income at risk is just $0.6mn as the debt is priced at LIBOR + 500 bps.

3rd Rock Gaming Holdings, LLC: Credit Update

Following the Covid-19 engendered market meltdown, the BDC Credit Reporter is laboriously re-assessing every BDC portfolio, and every company therein, to identify any new under-performers or any change to existing denizens. At March 14, 2020, we’re making our way through the OFS Capital (OFS) portfolio with the goal of writing about every under-performing company:

We added 3rd Rock Gaming Holdings to the under-performers list with an initial rating of CCR 3, from CCR 2, on our five point scale back in IVQ 2018 in our database. This is the first article we’ve written about the company for the Credit Reporter but did mention 3rd Rock in the BDC Reporter back in May 2019 as part of an overall OFS credit review. The only BDC lender to the pre-packaged software firm is OFS, which has invested $23.6mn, mostly in a publicly traded 2023 Term Loan and an equity stake. The investment dates back to IQ 2018.

Frankly, we have found very little public information about the company and the BDC’s managers have never discussed 3rd Rock (no relation to the TV show but still appearing in any search results). That’s why readers will not have seen any article before this one. Our downgrade was driven only by the discount in the IVQ 2018 of the equity and the debt, and which has continued through 2019. Most recently, the 2023 Term Loan was discounted (15%) on March 13, 2020 and the equity discounted by (61%) at year end 2019, its highest percentage level ever.

Given the above, we will continue to track the company and the $2.0mn of investment income at risk, but have no immediate concerns. The company is not in a vulnerable sector and the discounts too date are modest in valuation terms.

Bluestem Brands : Files Chapter 11

After many quarters of balancing on the brink, Bluestem Brands Inc. has filed for Chapter 11. In a press release, the retailer indicated its commitment to remaining in business through the bankruptcy process, and the arrangement of a $125mn DIP financing by a “syndicate of lenders”. The “syndicate” is also serving as a “stalking horse bidder” for the company’s assets, and seeks to de-leverage and restructure the company’s balance sheet.  

Who are the members of the syndicate ? Not disclosed. What might the assets be valued at ? Not mentioned ? How much debt might be wiped from the balance sheet ? Still to be determined. Nonetheless, this seems to be a classic debt-for-equity swap where the lenders become part, majority or the exclusive owners of the new Bluestem Brands. Sometimes that works, and sometimes not.

We’ve been writing about Bluestem Brands for a very long time, both in the BDC Credit Reporter and in our database of all under performing BDC companies that we maintain. Barely a week ago we wrote to ourselves the following summation of our views:”3/4/2020: We worry that Bluestem might be about to meet its moment of reckoning in 2020 with the need to repay its publicly traded Term Loan in November 2020 and its modest liquidity above the mandated level at the end of the IIQ 2019. Sales and EBITDA trends are either anemic or negative. The debt is already discounted by nearly a quarter. As a result, we’ve added the company to the 2020 At Risk Of Non Accrual  list.”  

Now that’s happened we’ll be interested to see what the 4 BDCs with $28.2mn of exposure at cost  – Main Street (MAIN); Capitala Finance (CPTA); Monroe Capital (MRCC) and non-listed HMS Income – will be doing. We imagine they are committed to a portion of the DIP financing and are likely to end up as owners, and may also be committing more junior capital. As mentioned above, we don’t know how much historical debt will be forgiven. So any sort of valuation is hard , but Advantage Data shows the 2020 Term debt in which all the BDCs are invested trading at a (29%) discount; just slightly worse than the recently announced IVQ 2019 (25%) discount announced by the three public BDCs. That suggests, but does not guarantee, the eventual realized loss to be taken might be over ($8mn). In an earlier article, though, we’d been estimating ($15mn). More immediately, income forgone will be about ($1.4mn) annually, mostly absorbed (4/5ths) by sister BDCs: MAIN and HMS Income

We will report back as we learn more about how this bankruptcy will play out, and what individual BDC exposures to old and new capital (if any) will look like. 

Martex Fiber Southern Corp: Sold At A Loss

The BDC Credit Reporter has had Martex Fiber Southern Corp on the under performers list since IIIQ 2017. As of September 2019, the company was valued by THL Credit (TCRD) – it’s only BDC lender – at a (30%) discount to its $9.9mn cost. Now, with the latest TCRD conference call covering the year ended December 31, 2019, we hear the investment was “repaid at a loss”. To be specific, in January 2020, the BDC received $4.2mn, suggesting the realized loss to be booked will be ($5.7mn) and the additional loss between September and now is ($2.7mn).

No back story was provided about the payoff. TCRD is anxious to be done with its troubled portfolio companies and may have just “dumped” the debt. In any case, we have removed Martex from the under performers list.

Holland Intermediate Acquisition: In Default

THL Credit (TCRD) reported IVQ 2019 results on March 6, 2020, which included the revelation that portfolio energy company Holland Intermediate Company had defaulted on its $21.3mn Term Loan. There goes ($2.3mn) in annual income for the BDC. (Sierra Income – which has not reported – also has $4.3mn of debt exposure in the same facility). TCRD wrote down the investment to a (68%) discount from (32%) in the prior quarter. Sierra had already applied a (68%) discount as of September 2019.

None of the above is any great surprise to the BDC Credit Reporter. As we wrote in our prior post on December 15, 2019, we had long ago rated the company CCR 4, where we believe the chance of an eventual loss is greater than a full recovery.

The question now is whether if there’s any chance of recovery. We don’t know because the company is closely held and TCRD is close-lipped about the operations and financial performance of the business. To be realistic, though, with the oil price in freefall thanks to the global impact of Covid-19, which happened subsequent to the default and the IVQ 2019 valuation, we’re estimating this might be – at worst- a complete write-off. At best – barring a massive change in market conditions – this will be a non performing and devalued investment for some time to come.

What we also don’t know is whether the lenders might be asked to put more money up to support/save the business which might result in greater exposure. This will be a theme across the energy space and a conundrum many more BDCs than TCRD and and Sierra Income will face.

Hudson Technologies Company: IVQ 2019 Results

We last wrote about refrigerants distributor Hudson Technologies Company back on February 14, 2020. Then, we wondered aloud how the BDC term lenders to the troubled company – who have just participated in a restructuring and amendment of their debt – would value their exposure at year end 2019. As of the third quarter, FS KKR Capital (FSK) – for one – had applied a (44%) discount to their $38mn position. Now FSK has reported its latest IVQ 2019 valuation and the valuation remains essentially unchanged – discounted (42%), albeit the public BDC has reduced its capital at risk by ($5.3mn). No reason was mentioned by management for the lower debt level on the latest FSK conference call, but we’re guessing it’s part of a general debt paydown of its obligations by the company.

The unchanged discount suggests that the lenders remain unsure that the turnaround measures which the lenders – including Wells Fargo , which provides the company’s Revolver – will succeed.

On February 4, 2020 the company released its IVQ 2019 earnings and held a conference call. We’ve read both documents and are impressed by management’s optimism about market conditions and about the $22mn of availability supporting the company’s liquidity. The CEO said the following to sum up the financial re-engineering that has been accomplished:

“The amendment [ of the Term Loan ] reset the maximum total leverage ratio of financial covenant through December 31, 2021, reset the minimum liquidity requirement; and added a minimum LTM adjusted EBITDA covenant. With the new revolving credit facility and the amendment of the term loan in place, we believe we have the financial flexibility and liquidity that drive improved operating performance as we move through 2020 and beyond”.

With the stock price of the public company at $0.85 and with the FSK debt still deeply discounted, Hudson Technologies lives on to fight another day. We cannot tell if the procurement issues arising in China from the coronavirus will help or hinder its results going forward. We continue to have a CCR 4 rating on the company, which means we expect the odds of a loss are greater than of full recovery. For 2020, given what we know, we still expect further deterioration in value but don’t predict a move to non performing (CCR 5).

AVF Parent: Liquidating Business

Ouch ! This one is going to hurt. Art Van Furniture (aka AVF Parent in Advantage Data), the largest furniture retailer in the Midwest, has begun to liquidate the inventory at all its company owned stores. “Despite our best efforts to remain open, the company’s brands and operating performance have been hit hard by a challenging retail environment,” the company spokeswoman Diane Charles said in a statement. According to news reports there is still a chance the company will find a buyer, but the odds don’t look great. Not helping the matter is that the CEO has just resigned. A bankruptcy filing is imminent. This could end up Chapter 7 rather than Chapter 11.

Chances are the $169mn invested in the first lien debt of the company by 4 related FS/ KKR Advisor LLC BDCs is going to take a big hit. At December 2019, the only BDC lender to have reported so far – publicly traded FS KKR Capital (FSK) – has already discounted its $55mn at cost to $18mn. Even that ($37mn) write-down may not be As Bad As It Gets. If the company ends up liquidating completely, net proceeds may be even lower. Have you ever tried to sell furniture in a hurry in the midst of a health crisis ? The Term Loan in which the BDCS are invested sits behind an $85mn asset-based Revolver, which may sweep up all proceeds.

Let’s tot up the damage. Total investment income lost already thanks to the company being on non-accrual since the IIIQ 2019 on debt charged at LIBOR + 725 bps: about ($15mn) per annum. The unrealized losses in aggregate will be ($115mn). As we’ve discussed this will translate into an equal or greater realized loss. At worst, we wouldn’t be surprised if ($150mn) was written off. Or even the full ($169)mn…

For the FS KKR organization this has to be a major reverse. Still, the initial investment in a furniture retailer – almost a code word for risk amongst old time lenders like the BDC Credit Reporter – dates back to IQ 2017 when GSO Blackstone was in charge of underwriting. The initial exposure was $130mn., all in the same 2024 Term Loan that’s in trouble today. The first crack in the valuation didn’t occur till IIQ 2018 by which time $174mn was at risk. Still, the valuation discount did not exceed our hurdle of (10%) till the IIQ 2019. Two quarters later, Art Van Furniture was on non accrual and now in liquidation.

Portrait Studio, LLC: BDC Lender Exits

Frankly, we don’t what exactly happened at Portrait Studios, LLC, a portfolio investment of Capitala Finance (CPTA). At this point, it hardly matters because the BDC’s IVQ 2019 10-K says the investment in the company was sold and a ($6.2mn) realized loss taken. At time of writing, CPTA maintains $0.5mn on its books as “First Lien Debt” but a footnote says “the residual value reflects estimated earnout,escrow or other proceeds expected post-closing“. Given that as of September 2019 CPTA had $9.1mn invested at cost in two first lien term loans, preferred and equity, we’ll assume $2.4mn was repaid to CPTA and the rest consists of the loss and the remaining value.

For the II and IIIQ 2019, $4.2mn of debt had been on non accrual, so the sale of the investment will be a wash from an income standpoint. One of the loans – with a cost of $2.3mn was still on accrual, and that – presumably – was what was repaid and will continue generate income for CPTA. However, the BDC has lost $6.2mn of capital through the write-off and may lose that last half a million dollars. At a 9% yield on $6.2mn, CPTA has permanently lost ($0.6mn) of yield producing capacity.

From the BDC’s standpoint, though, a troubling non accrual has been removed, one of 4 in the last quarter of 2019. For our part, we’ve effectively removed the company from our under performers list as there is no other BDC exposure and the remaining amount to be collected is not material.

US Well Services: IVQ 2019 Results Published

On March 3, 2020 troubled publicly traded US Well Services (ticker:USWS) published its IVQ 2019 results and held a conference call. The bottom line: in the last quarter of the year the bottom fell out of the market for electric fracturing of oil wells. Here are extracts from the conference call transcript:

“Throughout the course of the year, market conditions deteriorated, culminating in a sharp deceleration activity during the fourth quarter. U.S. Well Services was adversely impacted by customer-driven decisions to delay jobs and longer than anticipated holiday shutdowns. As a result, U.S. Well Services active fleets experienced lower utilization than in prior quarters…Revenue for the fourth quarter was $92.7 million, which represents a 29% sequential decline relative to the third quarter of 2019. USWS generated an adjusted EBITDA of approximately $12.1 million for the fourth quarter as compared to $35.3 million for the third quarter of 2019.”

That’s a two-thirds drop in EBITDA in a short period. No wonder that the stock price of USWS is down to $1.07. That’s much lower than the last time we wrote about the struggling oil services business back on October 3, 2019. Then the stock – at a then all time low – was at $1.82. Only some $50mn in cash and the fact that several drills are operating for customers seems to keeping USWS from imploding. Management does not seem worried but the BDC Credit Reporter notes the $274mn of debt on the balance sheet and the much deteriorating market conditions. We don’t want to be unfair but these seem like ingredients for a bankruptcy (again) or equivalent.

From a BDC perspective, all the lenders who got repaid when the company went public recently must be sighing in relief. At one point not so long ago, there was over $100mn of BDC capital invested, mostly in debt in the company before its transformation into a public company. Now, there are still BDCs with equity exposure, but the amount at September 30, 2019 (we don’t have all the relevant BDCs results yet) was $9.4mn at cost. The BDCs involved were PennantPark (PNNT); Capitala Finance (CPTA) and BlackRock Capital (BKCC). The first two have reported and – curiously – PNNT seems to have increased its exposure from a immaterial $0.7mn to a more material $3mn. Their discount is only (21%), presumably because stock was purchased more recently and cheaply. CPTA’s equity is discounted by as much as four-fifths.

We’ll continue to watch the company’s progress, but the likelihood is high that this will end badly for US Well Services – managerial optimism notwithstanding. For the BDCs involved that would almost certainly result in a complete realized loss on all invested capital, given the debt sitting higher on the balance sheet.

Imagine Print Solutions: On Non Accrual

A few days ago, when Oxford Square (OXSQ) was holding its conference call, an analyst noted that the number of non accrual companies on its books had increased from 1 to 2. When asked who the new non-performer was, management demurred, pointing to the soon-to-be-published 10-K for the answer. Now that filing has been made, we now know the new non-accruing company was Imagine! Print Solutions (aka The Imagine Group). The BDC has invested $14.9mn in the second lien debt – which has been on our underperformers list since IIQ 2018 and was rated CCR 4 most recently, as OXSQ discounted the position by (51%) as of the IIIQ 2019. In light of what we’ve learned, the company credit rating has been dropped to a 5 our our 5 point scale.

Now the 2023 Term Loan has been placed on non accrual, and the discount increased to (85%). OXSQ may have been reticent to provide information but we know Moody’s downgraded the already speculative grade company to Caa3 from Caa1 in December 2019. This extract from Moody’s report should provide a sense of what is going wrong: “The company’s revenue and profitability significantly declined in 2019, driven by the loss of a material customer and significant weakness in its Midnight Oil subsidiary. This resulted in very high financial leverage on a debt/EBITDA basis of 9.1x for the twelve months ending October 2, 2019, up from 6.1x at the end of fiscal year 2018“.

Clearly the company is highly likely to file for Chapter 11 or restructure shortly. Chances are the second lien will not survive any remaking of the company’s capital structure. OXSQ will be losing ($1.6mn) of annual investment income permanently in the most likely scenario. We should note that non-traded Audax Credit BDC has a small $1.4mn position in the company’s 2022 first lien Term Loan, discounted only (15%) at 9/30/2019. However, judging by the parlous condition of the borrower and looking at Advantage Data’s Middle Market Loans pricing module at time of writing, the current discount may be (60%).

It’s no wonder that OXSQ’s management may not have wanted to engage in any discussion of Imagine, as the final outcome for the BDC and – to a lesser degree- for Audax , seems pretty grim.