DIP Financing

I have been reading a lot about DIP financing and I was wondering whether someone could go into specifics about it? When the DIP financing is secured, where does the interest rate on the financing come from and how does it usually compare to the creditor with a claim on the same asset? Also, what are the common terms involved with DIP financing (ie covenants or duration)?

Any insight would be great. Thanks

 
Best Response

Since the DIP facility is post-petition it is super senior to all pre-petition claims and therefore has a super senior, broad lien on substantially all debtor assets regardless of prior pre-petition liens.

Loan terms are subject to debtor-creditor negotiation with final approval by the presiding judge, so the rate and terms may not be arm's length, otherwise the company would never emerge, so it's generally structured to aid the debtor while reorganizing under chapter 11.

Other than a super-senior broad lien on all assets, the covenants may not be overly restrictive, because it already has a super senior claim on assets and receives steady cash payments, while all other creditors are subject to a stay, so they don't earn any interest or payments pending the final court approved allocation of reorganization value or liquidation proceeds to respective claimants.

For this super priority status most pre-petition senior secured lenders fight to convert or refinance their pre-petition claims into a post-petition DIP facility in order to preserve their claim status and continue earning interest on their debt.

 

Who normally kicks in the DIP financing? Would it just include investors who normally buy senior bank debt? PE Funds, Hedge Funds, institutions?

Also, how do they determine how large the DIP facility has to be? Is it structured on a "how-much-do-you-need" basis?

Lastly - how do you price it? Is it normally fixed or floating, and if floating, is it against LIBOR? And how is it priced relative to the senior tranches, i.e. revolver/term loan?

Sorry, I just find the DIP piece kind of interesting, because from all I've heard about it, it sounds like a great piece of financing to own that's relatively safe, even in a distressed situation, and wondering why everyone isn't rushing to extend this credit to every situation out there.

Also, where'd you get to learn about it? Was it simply from work, or some kind of text? I've been reading Distressed Debt Analysis by Moyer, but only 3 chapters in. Distressed is what I'd like to do ultimately, so I'm pretty curious.

Thanks!

 
werdwerd:
Who normally kicks in the DIP financing? Would it just include investors who normally buy senior bank debt? PE Funds, Hedge Funds, institutions?

When the DIP facility is provided by pre-petition lenders, they'll attempt to refinance all of their pre-petition claims into parts of the post-petition DIP, while also extending additional loans as part of the same DIP to provide liquidity for the debtor while the reorganization is underway.

If the secured pre-petition lender is a conservative or smaller bank not looking to hold paper of a bankrupt debtor, they'll probably sell their positions to a vulture fund, or another bank with a distressed fund, and that fund will take up the responsibility of refinancing the pre petition debt into DIP, while providing additional loans to provide sufficient liquidity for the debtor. The DIP fees are lucrative so yes, this is a good business to be in right now.

However it is unlikely that the original creditors would forefeit their opportunity to refinance and extend new loans under a new DIP, or at the very least they'll sell their positions to a vulture fund and book a loss on those loans. Plus a shrewd secured lender would have already made provisions for loan losees well in advance of the filing so the impact on their tier ratios should be contained.

werdwerd:
Also, how do they determine how large the DIP facility has to be? Is it structured on a "how-much-do-you-need" basis?

The debtor side financial advisor would work with the debtor to develop cash flow based models to determine the extent of additional liquidity needed under the DIP, given the unique circumstances under chapter 11.

Obviously the financial advisor would simultaneously explore other options including asset sales, liquidation, etc. while performing its other functions like preparing the going fwd business plan, valuing the reorganized business, determining the new capital structure and the allocation thereof, sorting out claims, and assisting the debtor with reviewing uneconomic contracts/leases that could be potentially nullified with court assistance, and of course the allocation between all claimants.

werdwerd:
Lastly - how do you price it? Is it normally fixed or floating, and if floating, is it against LIBOR? And how is it priced relative to the senior tranches, i.e. revolver/term loan?

Priced just like any other loan - revolver and term facilities refinanced into new DIP loans priced at LIBOR plus spread subject to negotiations and of course court approval. Obviously, the counterparties would consider their super secured status on the DIP when negotiating the spread.

werdwerd:
Sorry, I just find the DIP piece kind of interesting, because from all I've heard about it, it sounds like a great piece of financing to own that's relatively safe, even in a distressed situation, and wondering why everyone isn't rushing to extend this credit to every situation out there.

GE Finance or whatever it is called nowadays, and some other banks have pulled out of this market because their existing loan portfolios are already suffering and besides due to the constipated nature of the debt markets there is no guarantee that the debtor can refinance the DIP upon emergence and of course nobody wants to be left holding the bag in this market. It's tough getting an exit loan in this market and that's how the DIP lender exits for the most part.

werdwerd:
Also, where'd you get to learn about it? Was it simply from work, or some kind of text? I've been reading Distressed Debt Analysis by Moyer, but only 3 chapters in. Distressed is what I'd like to do ultimately, so I'm pretty curious.

Moyer should suffice to get you going in the right direction.

 
thadonmega:
When the DIP facility is provided by pre-petition lenders, they'll attempt to refinance all of their pre-petition claims into parts of the post-petition DIP, while also extending additional loans as part of the same DIP to provide liquidity for the debtor while the reorganization is underway.
This is cross-collateralization. http://findarticles.com/p/articles/mi_qa5352/is_/ai_n21332994

I'm of the opinion that the Code doesn't allow cross-collateralization. But if you're in Del or SDNY, anything's fair game. http://www.turnaround.org/Publications/Articles.aspx?objectID=3430

werdwerd:
Sorry, I just find the DIP piece kind of interesting, because from all I've heard about it, it sounds like a great piece of financing to own that's relatively safe, even in a distressed situation, and wondering why everyone isn't rushing to extend this credit to every situation out there.
thadonmega:
It's tough getting an exit loan in this market and that's how the DIP lender exits for the most part.
See Delphi. http://www.google.com/search?q=delphi+exit+loan
werdwerd:
Also, where'd you get to learn about it? Was it simply from work, or some kind of text? I've been reading Distressed Debt Analysis by Moyer, but only 3 chapters in. Distressed is what I'd like to do ultimately, so I'm pretty curious.

http://books.google.com/books?id=qiBe3em_b2oC&pg=PR5&lpg=PR5&dq=weil+go…

 

Refinancing is the best option for those are facing financial troubles due to foreclosures, bailouts and increased mortgage bills. Let me site to you an example. Bo Jackson was a standout talent as running back for the Oakland Raiders and as a left fielder and designated hitter for the Kansas City Royals, excelling at both before a hip injury sidelined him for good. Many would give short term loans to see him play again. However, he is trying his hand at something else. Bo is a part owner of the Burr Ridge Bank and Trust, a community bank in Burr Ridge, Illinois. He picked a community bank as a type of bank known for financial stability, and its unlikely Bo Jackson will ever need mortgage loan modification.

 

pre-petition secured lenders may be given the option to 'roll-up' their claim, whereby they effectively become the DIP lenders.

the upside is that their claim becomes post-petition and gets super-senior priority (usually only subordinate to post-petition admin claims from critical vendors).

thadonmega had most things correct, but I'd disagree that pre-petition lenders always want the roll-up. the downside to the roll-up is that they are obliged to provide more cash under the facility, so they could be throwing good money after bad. Often times, the pre-petition lenders become the stalking horse bidder and would prefer to use the cash to buy the company, so they don't take a roll-up to avoid wasting cash. They figure their maximum recovery - even a positive return on the initial investment - would come from having total control of the company. Suffice to say, this requires a lot of due diligence, and a boutique i-bank is usually retained.

And from the Company's perspective, this doesn't provide much liquidity since cash received = facility size - rolled up claims.

These days, we're seeing a lot of hedge funds and PE shops more than happy to provide DIP financing, if they feel the assets are worth anything. Additionally, issuing a DIP requires submitting a budget to the court (ie - how you're going to use it) and periodic updates, usually forecasting the next 3 mos, at least. So the debtor-side FA's work is crucial. Then the creditors' FA rips apart the model to stress test it.

 

Pretty much as many groups as possible. You will have industry coverage, Lev Fin, Restructuring, DCM, structured finance, legal, corporate defense, and probably a few others. Two main reasons for the plethora of groups: 1) they are generally pretty complicated deals and anything could happen. 2) if the deal goes south no MD or group head is going to want to take the brunt of the blame, thus they try to get as many groups as possible in on it to cover their backs.

 

Your S&T desk will probably do you fairly well for the execution side of things at one of the distressed hedge funds (York or Anchorage types) but likely not an investment role. The best way to get into these roles would be to work at PJT RSSG / Lazard RX, or HL RX, with M&A / Sponsors / LevFin groups at other banks being a distant second option. These funds typically hire headhunters who then find bankers to fill investment roles; I don't believe the headhunters who are retained by these distressed debt hedge funds typically reach out to non-bankers during the process for which they do the majority of their hiring (Jan / Feb recruiting in Y1 for a July Y2 start). I'm not an expert on recruitment for this specific space so could be off the mark on this one, so correct me if I'm wrong.

Regarding control investments in distressed companies, loan-to-own, turnaround, etc., I have a bit more experience with recruiting for this space and can safely say you would need to be in banking, as in M&A / coverage to be considered. There is a very short list of big funds with experience in distressed or turnaround and all of them are going to have very long lists of candidates from top banks, (banking) groups and schools who want to work there. I am thinking of a Centerbridge-type firm here, for context.

I may be misunderstanding your desk, PM me if you are confused about any of the above.

 

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