Mississippi Resources LLC: Major Realized Loss Booked

Understandably enough BDCs are loath to discuss with their shareholders losses taken on portfolio investments gone wrong. Managers prefer to spend time on their successes; latest deployments and just about anything but setbacks. However, from the BDC Credit Reporter’s perspective investors should want to know about what did not work – and why – to better evaluate a BDC’s chosen strategy and implementation. So we’re going to spotlight the announced the ($32.2mn) realized loss booked in the IVQ 2020 by Sixth Street Specialty Lending (TSLX) on its investment in independent oil and gas producer Mississippi Resources LLC.

This investment – which began in 2014 with $44.2mn of debt and equity invested – has been an abject disaster for TSLX – far and away the worst in its history. As is so often the case in these E&P investments ,TSLX does not seem to have been willing to accept the initial reverse on its investment when oil prices crattered in the latter half of 2014. As a result the company has been restructured and essentially taken over by the Sixth Street organization (then TPG Specialty Lending) and more funds advanced.

Over the years – starting in 2017 – the BDC has been forced to book realized losses on the investment. The first write-off was ($21.8mn); the next year ($9.6mn) and ($4.2mn) in 2019. This culminated in 2020 with the ($32.2mn) realized loss. That a total of ($67.8mn). Currently, Mississippi Resources remains on the books with a $1.5mn Term loan due in 2021, which is on non accrual and has been written to zero. (In fact, none of the debt outstanding to the company has been accruing for the past 4 quarters).

The total realized loss is half as much again as the initial amount committed back in 2014 and equal to 6% of all the equity capital TSLX has raised in its history and the equivalent of 42% of its 2020 Net Investment Income. Fortunately for TSLX’s management the 2020 write-off was overshadowed by slightly larger realized losses elsewhere, which kept total net realized losses at ($2.6mn) for the year just passed.

We’d say there are three lessons learned from the Mississippi Resources story. One is a recurring theme of ours: lending/investing in commodity-driven industries like energy is highly risky and better left to speculators or specialists. Second is that TSLX – like every other lender – is at great risk when “doubling down“, continuing to advance monies when initial amounts put into play get into trouble. The flexibility BDCs have to invest in almost anything and without regulators looking over their shoulders might be a boon at times. However, at other times, such as in this instance, bad money follows bad – to coin a phrase. Third, even well regarded BDC management teams – with an excellent credit track record over long periods – like TSLX’s – are not immune from making occasional MAJOR mistakes. It’s the nature of the business. We’re only sorry the management team could not – figuratively speaking – look their shareholders and analysts in the eye and de-construct for everyone’s sake what went wrong and how any lessons learned might help future outcomes.

Sequential Brands: Lender Appoints Board Members

Sequential Brands is the BDC Credit Reporter’s Godot. We’ve written multiple articles over the past two years breathlessly warning that something bad – a bankruptcy or a forced sale – was close to happening. Then: nothing. The company and their lenders always seem to arrive at a temporary modus vivendi, but no permanent resolution. (We’re desperately trying not to use the kicking of cans down the road analogy again). At times – given the high valuations the BDC lenders have maintained – we’ve doubted ourselves and the urgency of the situation.

However, the latest developments suggest – once again – that SOMETHING is going to occur at Sequential in the near future and that there is a possibility the BDCs – with $290.5mn outstanding in debt and equity to the company – may be materially impacted. Here’s what we know: According to a March 31, 2021 regulatory filing the company and one of its lender groups – led by Wilmington Trust – extended “a waiver of existing defaults under the Credit Agreement through April 19, 2021“. Furthermore, the lender “shall have the right to appoint an independent majority of the Board of Directors of the Company“. So gone is Martha Stewart and three other less famous Board members, probably letting out a sign of relief. Also a red flag: the company has not yet filed its IVQ 2020 and full year results.

The short extension period by Wilmington suggests that whatever “strategic alternatives” the company has been exploring since December 2020 is reaching some sort of conclusion. That might involve a sale of the business – in whole or in parts – or some pre-agreed Chapter 11 filing. The public shareholders seem to be bullish about this likely outcome, with Sequential trading at $22.22 as of the close on Thursday April 1, 2021. We are less optimistic – as is our self appointed mandate.

At risk for the BDCs involved is the prospect of ($28mn) of annual investment income from their 2024 Term debt outstanding being interrupted. Then there’s a good chance – based on the most recent quarterly valuations which discounts the equity owned by (99%) – a realized loss of up to ($10mn) will be incurred. However, the most important question mark is how the second lien debt will fare in the half billion dollar of borrowings Sequential owes. FS KKR Capital (FSK) and FS KKR Capital II (FSKR) and Apollo Investment (AINV) have advanced $280.5mn– more than half the total debt outstanding.

Currently, FSK and FSKR discount their debt by only (12%) and AINV by just (4%). If we apply the more conservative discount, that would still result in ($34mn) of realized losses on the debt and ($44mn) in total. The loss could be higher, but even ($44mn) is material given the big bets placed by the FS- KKR organization and which will shortly all be held by FSK, as FSKR is about to merge into its sister BDC. (AINV’s exposure is – clearly – much more modest even adjusting for the respective BDC sizes).

We should say – to be fair and recognizing that the stock market seems to believe that there is considerable market value left in Sequential – that this could all pass as quickly and harmlessly as a summer storm. Some deep pocketed buyer could be finalizing a generous deal as we write this or some hard working lawyers could be arranging a favorable “debt for equity swap” which will leave creditors undiminished. Maybe there’s a SPAC out there who wants to own a group of consumer brands…We don’t know, but we are as confident as we’ve been in two years that a change of status is in the cards for the company in the near future.

We are maintaining our CCR 4 rating on the company – as an eventual loss seems more likely than repayment in full. We are also adding Sequential to our Trending list because of the expectation that whatever is in the company’s future in the weeks ahead will be reflected in the BDC valuations and income – most probably in the IIQ 2021. For FSK especially this could either be a body blow, or not. We’ll be tracking the situation daily and will report back when something material occurs.

Currency Capital LLC: Placed On Non-Accrual

Over at the BDC Reporter we’ve been undertaking systematic reviews of several public BDCs following the end of IVQ 2020 BDC earnings season. Most recently we tackled Capitala Finance (CPTA) which happens to be the sole BDC lender to Currency Capital, LLC. The company bills itself on its website as “an exciting FinTech company specializing in transaction enablement“. As far as we can tell, this involves providing equipment financing.

Till the IIIQ 2020, the $16.3mn invested at cost in the company’s first lien debt was carried at only a (1%) discount, although a small preferred stake was valued at half its cost. In the IVQ 2020, though, CPTA placed the debt on non-accrual, resulting in the interruption of over $2.0mn of annual interest income. The debt was written down to just $3.75mn. The preferred was written to zero. We have downgraded Currency Capital (now known as Currency Finance apparently) from CCR 2 to CCR 5 in one fell swoop.

What’s gone wrong ? CPTA did not say on its most recent earnings conference call and the public record is moot on the company’s troubles, so we won’t speculate. However, this is clearly a major reverse for CPTA, and we’ll continue to monitor both publicly available information and any update that CPTA offers.

Integro Parent Inc: Downgraded By Moody’s

Integro Parent Inc. (aka Tyser’s) is a London-based specialty insurance broker and has just seen its corporate credit rating and debt tranches downgraded by Moody’s. The outlook is “Negative”. Apparently, the pandemic has impacted business conditions in many markets, leaving the company in a classic highly leveraged state, with weak liquidity and cash flow. The company rating has been lowered to a speculative Caa1.

That was enough for the BDC Credit Reporter to add the company to our underperformers list – the first addition in some time – with an initial rating of CCR 3. There are two BDCs with material exposure up and down the company’s capital structure : New Mountain Finance (NMFC) and Crescent Capital (CCAP). Total exposure at cost was $48.5mn at year-end 2020, most of which is held by NMFC, as this table from Advantage Data shows:

Both BDCs are valuing both first and second lien debt at or above par. The first lien is priced at 6.75% and the second lien at 10.25%. (CCAP holds a non-material equity position as well). We have also added Integro to our Trending list because it’s possible that with the Moody’s downgrade, the BDCs involved might reduce the value of their positions in the upcoming IQ 2021 results. Just a 20% overall discount could reduce the FMV by ($10mn) or so. We’ll check back when we hear from CCAP and NMFC in the next few weeks.

Bioplan USA Inc. : Moody’s Downgrades

On March 24, 2021 Moody’s downgraded BioPlan USA Inc. (also known as Arcade Beauty) to “D-PD from Caa2-PD, following the recent restructuring of the company’s first-lien and second-lien credit facilities“. By its standards, Moody’s considers the just completed restructuring at the company as a “distressed exchange and thus a default“. Here’s a link to a Moody’s press release with much more information.

The basic issue is that the lenders to the company appear to have “kicked the can down the road“, extending the maturity of all outstanding debt, and adding a payment-in-kind (“PIK”) requirement which will effectively increase the balance owed. Although the sponsor – Oaktree Capital Management – kicked in another $20mn of equity capital, Moody’s still believe the company’s capital structure is “unsustainable“. As the press release makes clear BioPlan has plenty of challenges including negative free cash flow; a slow return to “normal conditions“; very high leverage and much more.Still, the lenders and the sponsor seem to believe there’s a way out given enough time

There are two BDCs with exposure to the beauty products company: publicly traded Investcorp Credit Management (ICMB) and non-traded Guggenheim Credit, with total exposure at cost – all in the just restructured first lien 2021 Term Loan – of $18.2mn. The former BDC is on the record on its conference calls as being optimistic about the company’s prospects and has discounted its debt by (22%). Guggenheim is more conservative and has a (37%) discount.

We have had a CCR 4 rating for the company since the IQ 2020 when the onset pandemic sharply cut foot traffic at malls and the demand for fragrance sprays. We are adding Bioplan to our Trending list because we expect that with the restructuring there might be a change – probably upward – in the debt’s valuation. This should show up in the IQ or IIQ 2021 results of the two BDCs involved and – for the moment – reduces the risk of the debt going on non accrual. We cannot say whether in the long run this will result in a loss for the BDCs involved. Most at risk – but only modestly so – is ICMB, which could see nearly $0.7mn of annual investment income interrupted should the debt go on non accrual. Ironically, in the short term, the BDC’s income (and Guggenheim’s ) could increase thanks to the new PIK pricing…

We’ll circle back when ICMB and Guggenheim report 2021 results.

Avanti Communications: IVQ 2020 Update

We’ve just heard from Great Elm (GECC) regarding its IVQ and full year 2020 results. This includes an update on the BDC’s valuation of its largest investment : Avanti Communications. According to the BDC, the values attached were depressed by the then-uncertainties regarding the refinancing of the satellite company’s debt, which has been subsequently extended for a year. The total investment in debt and equity by GECC is now $105.6mn and the FMV $29.3mn. This compares to $103.0 at cost in the prior quarter and FMV of $39.3mn. That’s a (25%) decrease in the FMV of the BDC’s investment in the IVQ 2020.

The BDC Credit Reporter continues to believe that a complete loss is possible where Avanti is concerned, and that’s increasingly reflected in the valuation. All the debt instruments the BDC holds are accruing interest on a non-cash basis while the other BDC with exposure – BlackRock TCP Capital (TCPC) – has its loans showing as non performing. Effectively, despite $118mn invested at cost between the two BDCs – of which $62.4mn is in the form of debt – no cash income is being received already.

We maintain our CCR 5 rating and have Avanti on our Trending List. Next quarter we expect to see the total amount invested increase due to the previously mentioned refinancing. GECC will be adding $3.7mn to one of the debt facilities – as disclosed in its 10-K. TCPC may also invest further funds, but on a smaller scale. The valuation may increase as a result of the refinancing achieved but that will not necessarily continue in future quarters. We will revert back when the IQ 2021 results come out for GECC and TCPC or if something new transpires at Avanti.

Sundance Energy: Files Chapter 11

Despite a higher oil price, there’s still plenty of credit trouble in the energy sector as reflected in the just-announced voluntary Chapter 11 filing of Sundance Energy Inc. (NASDAQ: SNDE) and its affiliates. As you might expect, the company and its major lenders have a plan already in place to restructure the balance sheet and exit from bankruptcy. The second lien Term Loan lenders seem to be ready to convert all or most of the $250mn owed to them into equity. Moreover, the press release suggests “certain of its Term Loan lenders” will provide $45mn in debtor-in-possession (“DIP”) financing to keep the business running. When this is all said and done:

Upon emergence, the Company’s recapitalized balance sheet will include (i) $137.5 million of funded indebtedness comprising a senior secured reserve-based revolving credit facility, a senior secured second out term loan, and, if necessary, a senior secured third out term loan, in each case provided by the existing RBL Facility lenders and (ii) new common equity interests issued in exchange for DIP financing claims and Term Loan claims, subject to dilution by new common equity interests granted under a new management incentive plan“.

The only BDC with exposure is Ares Capital (ARCC) with $58.6mn invested at cost (par value is slightly higher) in the second lien Term loan. The debt has been non-performing since the IIIQ 2020, and was already discounted (37%) as of IVQ 2020. Before the debt went on non accrual ARCC was earning $6.7mn on an annual basis of investment income. We now expect there will be both a realized loss booked in the IQ or IIQ 2021 associated with the restructuring and – most likely – new capital advanced.

We won’t try to estimate the extent of ARCC’s loss, especially as this restructuring is just a way station in the BDC’s relationship with Sundance Energy, which began in IIQ 2018. Frankly, we don’t understand why ARCC – which often makes a great deal of its modest energy exposure – would have invested second lien capital in a “independent oil and natural gas company focused on the development, production and exploration of large, repeatable resource plays in North America“. To be blunt, given what has happened to a multitude of similar companies in recent years this seems unwise credit underwriting.

We’ll circle back once the restructuring plan is approved and when we discover how stage two of ARCC’s relationship with Sundance Energy looks like. This could be an investment we’ll be writing about for years to come.

Furniture Factory Outlet: Post Mortem

Now that Stellus Capital (SM) has reported IVQ 2020 results, we know the final outcome of bankrupt retailer Furniture Factory Outlet (FFO) that we’ve written about 3 times before. Unfortunately, despite booking a major final realized loss on the investment, SCM’s external manager was tight lipped about many of the details and was even shy of mentioning the company by name. However, from what we can tell the $13.1mn invested at cost as of September 2020 and valued at $2.1mn was written off in this most recent quarter, resulting in a ($10.1mn) realized loss. Virtually all that exposure – and loss – was in the form of first lien debt.

For SCM this means the permanent loss of about ($0.750mn) – taking into account the $2.1mn recovery – of annual investment income. However, the debt has been on non accrual since IIQ 2020 so the impact has already been reflected in the BDC’s most recent results. The company has now been fully removed from SCM’s books.

This has been a material credit set-back for SCM, equal to 3.7% of the BDC’s equity capital at par and more than three quarters of the funds advanced to FFO. From a post-mortem, Monday Morning Quarterback credit perspective this was probably an avoidable loss. As we explained in our prior article – which we’ll quote below – the choice of industry from the outset was problematic and the first lien position in the balance sheet afforded little protection:

The furniture business – as old credit hands like the BDC Credit Reporter will tell you – is a notoriously difficult industry to lend into, even if the bulk of your exposure – as with SCM – is nominally in first lien debt. This investment by SCM dates back to 2016, before the general “retail apocalypse” became crystal clear to all. However, as recently as IQ 2018, the BDC doubled its exposure, just when mall vacancies in the U.S. reached a six year high. In retrospect, SCM may have wished they had headed in the opposite direction“.

Paper Source Inc. : Files Chapter 11

On March 2, 2021 stationery retailer Paper Source Inc. filed Chapter 11. According to Bloomberg: “The company intends to hand control of the business to an affiliate of MidCap Financial, a lending arm of Apollo Global Management, in exchange for debt forgiveness, court papers show. Paper Source owes about $103 million to lenders, including more than $55 million under a first-lien term loan“.

This is no great surprise to the BDC Credit Reporter, which has had the company on its underperformer list with a CCR 3 rating since IIQ 2017. A further downgrade occurred in April 2020 tro CCR 4 and will now be moved to a CCR 5 – non performing. The principal BDC lender is Apollo Investment (AINV) , which has invested $14.2mn in the company, principally in the form of first lien debt, which was valued at $11.4mn at year-end 2020, a (20%) discount. Presumably some ($1.2mn) of annual interest income will be forgone as Paper Source is sorted out.

From what is being said in court papers, the Apollo Global owned lender Mid-Cap Financial – with whom AINV participated – envisages some sort of debt for equity swap. This will make the lenders owner/lenders going forward and reduce the company’s debt. Here is an outline of the plan, according to the Chicago-Tribune, quoting from court papers:

Paper Source said MidCap Financial agreed to serve as an initial bidder, or “stalking horse,” to purchase the company’s assets for up to $88.8 million, which includes $16.5 million in financing to help the company continue operating… A sale is expected to close in about 90 days”.

AINV only arrived on the scene as a lender in June 2019 when Paper Source was already underperforming, possibly as part of a “lend-to-own” strategy or just in a case of bad timing. Chances are now high that the BDC will be advancing additional monies; restructuring debt and the like and extending indefinitely its relationship with the retailer.

For AINV, whose credit troubles have been mostly concentrated in “legacy assets” booked some time ago under a different management team, this is a rare setback for loans booked by Mid-Cap Financial, the principal source of the BDC’s current new investment activity. We’re adding Paper Source to our Alert List because both income and investment values should be substantially different in the IQ 2021 results.

NGL Energy Partners LP: Suspends Dividends

We learn from a recent Seeking Alpha article (Trapping Value on February 21, 2021) that NGL Energy Partners LP (ticker: NGL) has recently refinanced its debt. As part of the agreement with the public company’s new lenders, all common and preferred dividends have been suspended. Admittedly, the suspension is supposedly only temporary and the payouts will resume once a target leverage is met. Still, given the pressures in the oil patch, we don’t suggest shareholders should hold their breath.

For the only BDC with exposure – FS Energy & Power – this looks like a body blow from what we can tell. That’s because the BDC has $173mn invested at cost in equity and preferred, of which $166mn is in the latter and yielded 14.3% from distributions. Our calculator indicates that’s ($23.7mn) of annual dividend income lost. A glance at the non-traded’s BDC IIIQ 2020 financial statements indicates that’s equal to 13% of total investment income and over 50% of Net Investment Income.

We had already rated NGL CCR 4 but now downgrade the company to CCR 5, given this was a yield producing investment. If this settled out today we’d expect the BDC to lose (25%-50%) of its investment, but that’s not happening, giving NGL – buoyed by its debt refinancing – the chance to fight on. However, this is a Major investment by our standards (over $100mn) and will be of concern to the manager of the BDC and its shareholders.

American Achievement Corp: Debt On Non Accrual

We learn from Sixth Street Specialty Lending (TSLX), following IVQ 2020 results, that a new portfolio company has been placed on non-accrual: American Achievement Corp. The company “manufactures and supplies yearbooks, class rings and graduation products, and as a result of COVID, underperformed for the 2020 sales season“. TSLX added: “We are currently working with the company on a potential restructuring to keep our term loan outstanding and to receive a majority of the equity in the business as a lender group. We expect to reach resolution on this in the near term“.

What TSLX failed to say is that the company “filed for involuntary Chapter 11 bankruptcy protection January 14, 2021, in the Northern District of Texas“, according to public records. In addition, TSLX did not mention that the near half a billion dollar in debt owed by the company is the subject of heated disputes, which adds an element of uncertainty to the outcome. This article by S&P describes some of the maneuverings underway.

TSLX seems to be (unduly ?) optimistic, writing down its $23.8mn first lien loan by only (9%). Furthermore, if a debt for equity swap – as mentioned above – seems the likeliest resolution, it seems unlikely that the debt will not be subject to a major haircut, which will impact long term income. At the moment, with the non-accrual TSLX has temporarily lost ($2.2mn) of annual investment income.

We have downgraded the company from CCR 2 to CCR 5 in one fell swoop. (As of the IIIQ 2020 TSLX valued its investment at a modest discount of (7%) and no mention was made by TSLX – the only BDC lender – of any challenges at the company). We are also adding AAC – as its known – to our Alerts list because it’s likely that the income, value and outstandings involved will be subject to substantial change in the next couple of quarters.

Frankly, we’re a little disappointed by the transparency of TSLX at this stage. Maybe with so much ill feeling between the parties involved with the company, the BDC did not want to stir up the pot on its February 18, 2021 conference call, but investors are left with an incomplete picture. This a company that bears watching and which we’ve added to our daily review for any new developments.

Country Fresh Holdings LLC: Files Chapter 11

On February 16, 2021 fresh food distributor Country Fresh Holdings LLC filed for Chapter 11 in Texas.

Pandemic-related supply chain and business disruptions have affected Country Fresh and our customers dramatically over the past year,” said Bill Andersen, Country Fresh President and CEO. “Despite efforts to improve company results before and during COVID, we believe that this sale transaction will result in a better capitalized company and positions our customers, suppliers, employees, and all other stakeholders for maximum success going forward.”

The company already has a “stalking horse” bidder in place in the form of PE group Stellex Group and has arranged debtor-in-possession financing with certain of its existing lenders, who were not named. Country Fresh hopes to go through the bankruptcy process in 60 days.

BDC exposure to Country Fresh is significant and includes 4 public and non-traded funds. Leading the group – and the earliest lender – is PennantPark Floating Rate Capital (PFLT) which has $23mn invested in the form of “super senior” term debt; a second lien loan and equity. Only PFLT has reported IVQ 2020 results so far and placed its $5.9mn second lien loan on non accrual for the first time. The other loans were still performing at the end of 2020, but are likely now on non accrual as well. PFLT also has $10.5mn of equity in the company which has been written to zero for the past 3 quarters and is likely to stay there.

Also with substantial exposure is non-traded Cion Investment while Goldman Sachs BDC (GSBD) and Goldman Sachs Private Middle Market Fund have tiny equity stakes left over from a 2019 restructuring and written off already on an unrealized basis.

At first approach, we’d guess PFLT and Cion might be involved in the DIP financing and are likely to receive back their “super senior term loan advances”. Still, realized losses are likely to be substantial: over ($25mn) , or 77% of all capital advanced because mostly concentrated in the second lien and equity. If the “super senior” don’t pay interest investment income will be forgone from the IQ 2021 forward, but may get recouped when the business is sold.

This is second time not the charm for PFLT and Cion, both who were involved in Country Fresh’s earlier restructuring in 2019, which resulted in ($7.1mn) in realized losses at the time for PFLT.

Also notable is that Country Fresh – by our count – is just the fourth BDC-financed company to file for Chapter 11 in 2021. Whether the BDCs involved will convert debt to equity and/or advance new monies in the form of loans or equity is not yet clear. We’ll circle back when we learn more.

RAM Energy Holdings LLC: IVQ 2020 Update

Every quarter we get an update from PennantPark Investment (PNNT) about its portfolio company RAM Energy Holdings, LLC. The BDC and company go all the way back to 2011 when the BDC first advanced $17mn in debt. Now, PNNT – after doubling down again and again – has invested $162.7mn at cost in the E&P company. The investment is currently in the form of non-income producing common stock. RAM is the BDC’s largest investment at cost and deserves our periodic attention.

RAM has has been an underperformer for years. As recently as the IVQ 2019 PNNT converted its first lien debt to equity. By the IIIQ 2020, the discount on the investment was -45%.

PNNT had the following to say on its February 10, 2021 conference call about the latest developments at the company, which we are quoting in full:

The new credit facility led by Vast Bank under the Main Street Lending Program, materially lowered RAM’s cost of capital and provide the runway to execute on its operating plan and time to wait for a recovery in prices. During Q4, RAM was impacted by the lingering impact from COVID and a difficult 2020, which included higher debt, continued lower prices, reduced production and the impact of monetizing its hedge positioning at the time of the refinancing. Additionally, RAM began work on its last 2 uncompleted wells, which were finished recently. While still early, production of these wells is expected to be strong. Even though the December 31 quarter had several impacts, RAM is now on stable operational and financial footing that should benefit from higher prices and production. The company is free cash flow positive after debt service, and we use any free cash flow to service and repay debt”.

The sanguine tone above notwithstanding, the discount increased to -55%, bringing the value to $73mn.

We retain a CCR 4 rating on the company. If the remaining value were to be written off – not inconceivable in an oil & gas investment at the bottom of a balance sheet – PNNT would incur a -$1.09 a share loss, an eighth of its net assets. No wonder management is looking for another way out. Given all the recent “great escapes” we’ve seen in the credit markets of late – admittedly very few in the energy complex – maybe Ram Energy can yet surprise us.

American Teleconferencing Services: IVQ 2020 Update

We’ve written about American Teleconferencing Services before: back on August 21, 2020 when we provided a IIQ 2020 update. The company has been troubled since IVQ 2018 and is rated “speculative” by Moody’s. From a BDC perspective this is a “Major” underperformer because aggregate exposure at cost is over $100mn and involves no less than 7 BDCs. We have rated the company CCR 4.

Now Capital Southwest (CSWC) – one of the seven – has published IVQ 2020 results. No word on its conference call about American Teleconferencing. However, the BDC Credit Reporter notes that CSWC has increased its discount on the first lien and second lien held to record levels. The former debt – which matures in 2023 – is discounted -45% and the latter -60%. In the prior quarter, CSWC’s discounts were -33% and -48%.

This does not bode well for the company, or CSWC or the other BDC lenders who have yet to report. We did undertake a public search to get some color but found nothing recently. The downward trend is undeniable, though, and keeps the company rated CCR 4 on our five level scale. We don’t where CSWC rates the investment. Some $8.2mn of annual investment income is involved.

Knotel Inc. : Files Chapter 11

Shared work-space company Knotel Inc. has filed Chapter 11 on January 30, 2021, according to multiple reports. We quote below from the company’s press release on the subject:

As part of its strategic path forward, Knotel has reached an agreement to sell the business to an affiliate of Newmark Group, Inc. (Nasdaq: NMRK) (“Newmark”), a leading full-service commercial real estate firm. The Company has also made the decision to exit multiple locations in the U.S. as part of the process“.

Not so long ago Knotel was an investor darling with an enterprise value of over $1.0bn, but then the pandemic came along and you can guess the rest, especially if you’ve followed the travails of better known competitor WeWork.

From a BDC perspective, there is only one fund involved: publicly traded, venture oriented TriplePoint Venture Growth (TPVG_ that has been involved since IQ 2019. (Bain Capital Specialty Finance – or BCSF – was a lender briefly in 2019 but has long departed). TPVG has invested as of September 30, 2020 a significant $31.1mn in Knotel, almost all in the form of senior debt due in 2022 and 2023. This has been generating close to $3.0mn in annual investment income and was performing last time TPVG reported. The BDC Reporter had a CCR 3 rating on the company, just added in the most recent quarter.

However, we’ve also learned from Bloomberg that in the month prior to the bankruptcy filing, an affiliate of the group that seeks to acquire the business has bought out the first and second lien lenders. That suggests there is no further BDC exposure to Knotel and we’re changing our rating from CCR 3 to CCR 6. Effectively, the company went bankrupt after TPVG – and the other lenders departed – but we’re still counting this on the BDC Credit reporter’s soon to be world famous Bankruptcy List. What we don’t know – and these details matter – is whether the debt was sold at par, including accrued interest – or at a discount. We assume the $0.160mn invested in preferred by TPVG will be lost.

Overall – and making some optimistic assumptions – it seems like TPVG may have (largely) dodged the Knotel bullet helped by a market full of buyers looking for opportunity and its position towards the top of Knotel’s balance sheet. We will learn more – most likely – when IVQ 2020 results are discussed.

Petrochoice Holdings Inc.: Downgraded By S&P

The BDC Credit Reporter really tries to be comprehensive and catch wind of credit troubles brewing at every BDC-financed portfolio company, but we’re not perfect. Here’s a case in point. We missed PetroChoice Holdings Inc. : ” one of the largest distributors of lubricants and lubricant solutions in the United States“. This is a business that was highly leveraged before Covid-19 and is being impacted by lower demand for lubricants because we’re all driving less.

Back in the IQ 2020 – we can now see with the benefit of hindsight – the company began to underperform. The ratings groups were fast to act with Moody’s downgrading the company from B3 to Caa1. The first and second lien debt – more on that in a minute – also got downgraded.

Fast forward to this week and we hear PetroChoice was also downgraded by S&P Global Ratings to CCC+ from B- on concerns about the company’s liquidity in the face of a “challenging” economic environment. Ratings on the company’s borrowings were cut as well, with the first-lien credit facility dropped to B-, from B, and the second-lien loan to CCC-, from CCC. Both ratings groups are worried about debt coming due in 2022 and the currently low odds that the company will be able to refinance the obligations.

This is worrying for 5 BDCs with first and second lien debt exposure. The total amount outstanding at cost is $102mn – a Major borrower by our standards. There’s more than $9mn of investment income at risk of interruption and/or loss if PetroChoice defaults. You might think the company has plenty of time to deal with its challenges but S&P warned forebodingly that by mid-2021 “total liquidity sources to fall below $10 million.” That’s too little to run a business of this size so we expect to hearing more about PetroChoice in the weeks ahead.

The BDC with the biggest exposure is FS KKR Capital (FSK) with $65mn at cost – all in the more vulnerable second lien debt, and priced at LIBOR + 875 bps, plus a 1.0% floor. The income involved is equal to 1.0% of investment income and 2% of Net Investment Income at the giant BDC. FSK has only discounted its position by -11% – which represents about 2% of its net worth. Of course, if things go awry at PetroChoice both income and net assets could be materially impacted.

Also at risk of taking a knock if PetroChoice should stumble is Bain Capital Specialty Finance (BCSF) with just over $16mn invested, but all in the senior debt, leaving both less income and capital at risk of ultimate loss. Golub Capital (GBDC) has a small position and two non-traded BDCs have moderate sized exposure..

We are rating PetroChoice CCR 4 because the odds of a loss at this stage are higher than of full recovery. We are also placing the company on our Alerts list – a new feature of the BDC Credit Reporter coming shortly and which you’ll find in the Data Room section showing which troubled companies credit situation is reaching some sort of resolution in the short term. There are so many underperforming companies out there we need a way to point out which ones might be affecting BDC results – for good or ill – in the coming quarter or two.

Dream Finders Homes LLC: IPO Completed

Pandemic or no, Florida home builder Dream Finders Homes LLC found a way to go public, selling 9.6mn shares at $13 a share to the public and taking the ticker DFH. Jacksonville Daily Record contributing writer Mark Basch wrote “not only is Dream Finders selling its stock in a strong market for its industry, but IPOs in general have been surging. Major stock market indexes have reached record highs recently, but stocks of home builders are doing even better than the overall market.”

This is good news for the only BDC with exposure to Dream Finders: PhenixFIN (PFX) – the former Medley Capital – which holds $4.5mn of Preferred Series B, which is accruing at 8.0% per annum in Pay In Kind (PIK). (The BDC previously was also a senior lender to the company but a remaining $1.5mn senior term loan was repaid in the IQ 2020).

Till this IPO Dream Finders was underperforming from IVQ 2019, when the PFX discounted its preferred by -21%. We downgraded the company from CCR 2 to CCR 4 on our 5 point scale, but moved the rating up to CCR 3 in the IIIQ 2020 as the discount shrunk to 13%. We’ve now returned Dream Finders to performing status (CCR 2) . Reading through the company’s public filings, we expect the preferred will get repaid by 2022 in full, including all accrued dividends.

This is good news – albeit on a small scale – for PFX which has been beset for years by multiple credit trouble spots. The good news coming out of the home builder will not affect the BDC’s investment income but should result in a write-up of the preferred value by over $0.5mn in the IVQ 2020 results when published.

Belk’s Inc.: Restructuring Deal Agreed ?

People who shouldn’t be talking have been about what’s happening at Belk’ Inc. , the regional department store. Negotiations have been going on – as we discussed in an earlier post – between Sycamore Partners and the company’s first and second lien lenders. “According to people with knowledge of the plans” – says Bloomberg – here’s a thumbnail of the plan:

The restructuring plan involves handing 49.9% of the company’s equity to its lenders, with parent Sycamore retaining a 50.1% stake in exchange for supplying up to $100 million of a new $225 million loan to the company, according to the people“. Plus, the company will make a quick run through bankruptcy court – one day is the goal – and come out the other side. Late February 2021 is the when this is all supposed to come down. That’s the theory anyway.

$450mn of current debt will vanish from Belk’s balance sheet, but will also add $225mn of new debt , of which $100mn might be supplied by Sycamore. We say “might” because the deal envisages Sycamore generously letting hungry lenders provide up to $65mn of its share of the new debt. There’s more besides, including juicy fees, and existing debt maturities being pushed out tp 2025 from 2023.

Given this is all hearsay – even if from people in the room where it happens – and subject to further amendation by the parties involved or by the court brought in to rubber stamp this deal doing, we won’t linger on the details till we hear something more definitive. Mostly the BDC Credit Reporter wants to emphasize that the Belk’s story is finally reaching some sort of conclusion a year after the second lien debt became non performing. (The first lien debt joined in in the IIIQ 2020). We still expect – equity notwithstanding – that major realized losses will need to be booked – see our earlier article. Furthermore – and this is new but not unexpected – the two key BDC lenders involved – FS KKR Capital (FSK) and FS KKR Capital II – will be putting up some share of the new debt monies as well. This could bring total BDC exposure up from $148mn to near $200mn, or possibly more.

This will be an excellent test of how these two BDCs fare in seeking to act as their own turnaround firm rather than taking the loss and walking away. Clearly there are a lot of the best and the brightest involved in this Chapter Two for a quintessential brick and mortar retailer, both on the lending side and from private equity. However, that’s no guarantee of success and the BDC Credit Reporter remains skeptical and in need of convincing this will all turn out alright. We’ll be back to you shortly.

Imagine Print Solutions: Restructuring & Sale Complete

We last wrote about Imagine ! Print Solutions Inc. (recently renamed The Imagine Group) back in early 2020, when some of its debt was on non accrual. We wrote at the time “Clearly the company is highly likely to file for Chapter 11 or restructure shortly“. We were right, except about the time frame, but now the reckoning has occurred. We now know from Moody’s, which is bowing out as a rating group, that :

On 22 January 2020 [we imagine Moody’s meant 2021] , Imagine completed a restructuring whereby first lien and second lien debt holders were either converted to equity or eliminated. Moody’s views these transactions as distressed exchanges and events of default as they reflect a failure to meet the original promise under the debt agreements and results in significant losses to lenders“.

The company will now be owned “by a combination of its former lenders and funds managed by Cerberus Capital Management, L.P. (“Cerberus”), the Goldman Sachs Merchant Banking Division and Arbour Lane Capital Management, LP.“.

Where this leaves the only BDC with remaining exposure to the company – Oxford Square (OXSQ) – is unclear. As of September 30, 2020, OXSQ had $14mn invested at cost in $15mn of second lien 2023 Term debt, with a FMV of under $0.2mn. The debt has been non-performing and depriving OXSQ of $1.35mn in annual investment Income since the IVQ of 2019. Along the way, non-traded Audax Credit BDC and Capital Southwest (CSWC) – through its joint venture – have sold off their positions, which amounted to $1.5mn and $3mn respectively at cost, leaving OXSQ the only BDC standing.

We don’t know if OXSQ is somehow involved with the new ownership or will just be writing off its entire exposure as a result of this transaction. Either way, though, the BDC seems almost certain to record a significant loss from this investment. Technically this was not a Chapter 11 filing but is being treatedas a distressed exchange and thus a default” by Moody’s, and will be added to the BDC Credit Reporter’s list of companies that went bankrupt. Given that OXSQ has essentially already written off the investment, we expect no impact on either book value or income going forwards. Tentatively we have re-rated Imagine from CCR 5 to CCR 6, which indicates sold or no longer held.

Alpha Media, LLC: Lenders In Conflict

Just hours after we wrote about Alpha Media LLC’s Chapter 11 filing, we’ve uncovered further details about what’s happening at this radio chain. According to several trade and financial articles we’ve read, management are working with second-lien lenders to provide Debtor In Possession (“DIP”) capital. In fact, the company already signed a $20 million Senior Secured Priming Superpriority Debtor-In-Possession Note Purchase Agreement.

The fly in the ointment – and what we were not aware of when writing our earlier article – is that there is a dispute about the future of the business – and its $267mn in debt – between first lien and second lien lenders. The group funding the DIP is from the second lien side, led by Intermediate Capital Group, said to hold over $100mn of pre-petition debt. The new buyers are offering to advance $37.5mn in expansion capital, which has the understandable support of the radio chain’s management. Here’s the actual bankruptcy filing with all the details.

The fly in the ointment is that – according to financial news reports – the senior lenders to Alpha Media, led by Fortress Investment Group, oppose the restructuring plan. Apparently Fortress made the company an offer it could refuse earlier and has chosen to go with the second lien lenders and their proposal of less debt and additional capital instead. More we cannot tell you at this stage but this might mean this Chapter 11 could get contentious. That can sometimes extract more capital for the company involved but can also exhaust already stretched financial resources and prolong the period of insecurity which a Chapter 11 filing involves.

Where the only BDC lender with exposure – WhiteHorse Finance (WHF) – sits in all this – with $11.2mn of exposure – we can’t say for certainty. WHF’s filings show the BDC holds a “first lien secured term loan“. That would suggest the BDC would line up with Fortress, but we don’t know. Probably WHF – due to its small position (which dates back to 2018 ) – has only little say in this situation. Just how this all plays out for WHF – and all the parties involved – remains a question mark that will get its answer in the weeks ahead. We’ll circle back as appropriate.