Murray Energy: Assessing Restructuring Options

e don’t want to bury the lead: Murray Energy is likely to file for bankruptcy or re-organize and the BDC lenders involved are going to absorb some rather large losses. On September 10, 2019 the Wall Street Journal’s bankruptcy publication reported that the privately-held coal miner had hired Kirkland & Ellis and Evercore to assess restructuring options.

That follows a recent downturn in the short term prospects for the U.S. coal industry, according to Moody’s and as reported by S&P… That’s not to mention the obvious secular decline in the prospects for coal mining and coal usage. Previously in 2019 , the rating groups had downgraded the company’s debt to SD or Selective Default, so the writing has been on the wall.

BDC exposure totals $52.4mn, spread over 6 BDCs. These include publicly traded FS-KKR Capital (FSK) and three sister non-traded BDCs funds (FSIC II, FSIC III and FSIC IV but not – surprisingly – FS Energy). Then there are two others: Cion Investment and Business Development Corporation Of America.The exposure is in two different loans, one which matures in 2021 and the other in 2022. The debt has been on our under-performing list since IVQ 2018 and is currently rated CCR 4 (Worry List), where the chances of an eventual loss are greater than a full recovery.

As of June 2019, the 2021 debt was carried at par but the 2022 debt was discounted by a third. Currently, though, the 2022 debt trades at twice that discount, suggesting holders are not optimistic. We wouldn’t be surprised to see the 2022 debt fully written off once the dust settles, which would result in ($8.5mn) of further losses and ($12.5mn) in Realized Losses, to be absorbed by Cion and BDCA. Less clear is what might happen to the 2021 debt, which still trades at par. We won’t speculate at this point but will point out that – overall – $5.5mn of annual investment income is at risk.

In any case, we expect we’ll be discussing Murray Energy again in the weeks ahead.

Deluxe Entertainment Services Group: Agrees Debt For Equity Swap

On September 4, 2019 Variety reports Deluxe Entertainment Services Group , which was headed for bankruptcy, has agreed for a debt to equity swap instead. “In a deal announced on Saturday, Deluxe said it would offer a deal to all of its term-loan lenders to exchange their debt for 100% of the equity of the newly organized company”.

BDC exposure – Harvest Capital (HCAP) and non-traded Cion Investment – is material at $20.3mn, all in senior debt and carried at par or at a modest discount at June 30, 2019. The income likely to be lost – and right away – is approximately $1.6mn annually. We had a quick look at HCAP and calculated that investment income lost is equal to 11% of its latest Net Investment Income annualized.

Based on other news reports we’ve seen, the company will be writing off half its senior debt, suggesting the losses – both realized and unrealized – will be around ($10mn).

A bankruptcy is not yet out of the question. If all the lenders do not agree to the “reorganization”, a pre-packaged bankruptcy will be filed.

The BDC Credit Reporter had the company rated as under-performing since the IVQ 2018 with a CCR 3 rating. However, the situation deteriorated more recently. In July, the company announced it had abandoned plans to spin off its Creative Services division. The company – and its lenders – had hoped that the proceeds of which, along with a debt raise, would repay a sizable amount of the company’s term loans and ABL borrowings. The value of the existing debt dropped to 20 cents on the dollar on the negative news.

We are now rating Deluxe Entertainment CCR 5 on our 1-5 scale as a material loss is baked in. Nonetheless, as in all these situations where lenders become owners after the traditional PE sponsor has failed, we have to wonder if additional capital will be injected and whether the business can ultimately be made to work. We’ll be hearing more about Deluxe Entertainment for some time.

Charming Charlie: Selling Intellectual Property

On August 26, 2019 the Wall Street Journal reported that the bankrupt company is seeking court approval to hire Hilco IP Services to sell items of its intellectual property. That may help paying some of the bills associated with the liquidation of the business but is unlikely to end up in the pockets of its three BDC lenders (THL Credit, Cion Investments and Sierra Income) with $37.4mn invested at cost.

As of June 2019, the FMV of the investments – probably based on the hope of some recovery like this – is at $0.800mn, or 2% of capital invested. Notwithstanding the prospective intellectual property sale, we expect all BDC investments to be effectively wiped out. A resolution should occur before year end.

Charming Charlie, LLC: Seeking Financial Adviser And New Capital

Trade publication Retail Dive – quoting Debtwire says troubled women’s accessories retailer Charming Charlie has brought in a financial adviser. In addition, the nationwide chain, which was recently recapitalized by THL Credit (TCRD), is seeking new capital, in the form of debt or equity. All this sounds worrying from a credit standpoint. To date, TCRD – alongside non-traded Cion Investments and Sierra Income – have been funding the company with debt and equity in an ambitious attempt to bring the business back to performing status. At March 31, 2019, the three BDCs had advanced $37mn at cost to Charming Charlie, mostly in debt and mostly still on non accrual. The exposure is valued at roughly half of cost. We worry that Charming Charlie, which only exited Chapter 11 in late April 2018, might do a “Chapter 22” and need to file again. This time, though, that might mean liquidation and a potential significant write-off for the lenders involved.

Charming Charlie: Arranges Revolver Financing

On April 18, 2019 two specialist  lenders announced the closing of a $35.00mn asset-backed revolving line of credit for troubled mall retailer Charming Charlie, intended to finance working capital. The two lenders are White Oak Commercial Finance and Second Avenue Capital Partners. There are 3 BDCs with $37mn of debt and equity exposure to the Company, led by TCRD. At 12/31/2018, the 2023 Term Loan outstanding was on non-accrual. For what this financing might mean for the Company’s prospects see the Company File.

Lannett Company: Article Questions Ability To Remain Solvent

According to an article published on Seeking Alpha and in charges brought by the State Of Connecticut, Lannett Company (LCI)  and ” many other generic pharmaceutical firms have been conspiring for years to drive prices of generics up”. The author of the SA article continues :

…there is no clear path for LCI to remain solvent if they receive a fine roughly equivalent to their market cap (high end of the proposed range). In a previous report I highlighted how little free cash flow was projected given the current guidance. With a run rate of ~$107m in EBITDA, $68m in interest expense and $32.5m in CapEx (mid-range of the guidance) the company will be producing ~$7m in FCF.

$7m in FCF isn’t going to be very helpful in paying off the $650m in net debt, but in a situation where the government tacks on a few hundred million of additional liabilities – that probably spells bankruptcy protection”.

Admittedly, the author is short the stock. Nonetheless, there is cause for concern. There are 3 BDCs with $16.4mn in senior secured exposure to the highly leveraged company: OCSI, Cion Investment and OCSL with a smaller position. In the IIIQ 2018, the debt was written down sufficiently to cause us to place the Company on our Watch List. In the IVQ 2018 the discounts increased t0 a range of (6%) to (18%). More write-downs might be ahead or even non-accrual. About $1.25mn of investment income is at risk.