Looking at adding to a current short position. The company is in a shitty situation, they have plenty of debt, no cash, and pretty weak cash flow. About ~90% of the debt is a revolver that last year averaged around 3.3% which at this point is only 40 bps above t bills. Pretty good considering the prospects for the company are terrible, management team is a joke, and that the revolver is permanent as they have little chance of ever paying it back (the amount outstanding is probably more than the company is worth).
So I'm trying to do a little modeling here and I was hoping some of you IB guys who really get in the nuts and bolts on this kind of stuff could share your expertise and maybe shed some light on how to think about rates on revolvers.. maybe how they are calculated and what the risks are that it could end up being refinanced at a much higher rate. For this company they could be in a lot of trouble if that rate got high enough.
From what you have said, I see no reason why a bank would structure a revolver later on for this company. A revolver is typically structured to meet short term financial needs and the company is often required to repay the revolver in a rather short term of time. This company is considered to be financially distressed and I doubt that if there would be any bank wishing to lend money when the company has asset coverage already below 100% before transaction. Alternatively, I believe a chap.7 or chap.11 will be present in the near future as soon as stakeholders find out how crappy the company has operated in the past and want their ass out of this company. I could be wrong so feel free to open up discussion.
Yeah we are pretty sure they had to sell off a unit to survive last year.. But they buy back shares every year. The share price rises to offset. It's insane. What are the risks it rises? They say that it uses the "prevailing rate at the time" so I can't just model it. It's half backed by the assets and the half by receivables, but the assets and especially the inventory look a lot better in a model or on paper than they do in real life.
What exactly is a springing lock box agreement? Is it relevant?
If this is the case, take a look at their bond price (if there is any bond issued). The stock price should be low to reflect the fact that they are not going to get themselves repaid in a liquidating event since the company is not even able to repay its revolver. The more junior bonds would also work the same. And think it this way, this company is stacking up in leverage if equity investor soon discover that they will get repaid with nothing and price drop to, for example, think 0.01. Forget about offset, that is just not going to work with total EV in this scenario. The risk arising here is more than just securities price fluctuation, it is about time for you to think about how much money stakeholders would lose upon a default event. I suggest you to take a look at distressed debt analysis by Moyer to get some sparks of how the mechanics work in an event like this. I'm as well only studying these so I may be wrong, and I would appreciate anybody who can point out my misunderstanding. Good luck man.
This is an ABL revolver. That rate doesn't surprise me too much. Do you know when it matures?
A lockbox is a restricted account that sweeps cash from A/R. It's "springing" because it only goes into effect at certain times (probably when a certain covenant is tripped).
Yes 2021
First, you are challenging the intelligence of the (we) bankers who decided to even extend revolving credit to a company as shit as your description portrays.
Second, you are challenging my intelligence into believing your claim of the tight yield of the RCF. No matter what the structure is, for a shithole like this yield of RCF drawn should be at least hundreds of bps over treasury.
Third, back to your question, I don't expect any RCF can be drawn given potential clean-down requirement (you said the co doesn't have much cash/cashflows) and springing leverage covenant (you said the co has shit EBITDA).
Bring a real case next time.
Generally speaking, ABL pricing is always pretty tight. Even for dodgy credits. They have a first lien on the assets that matter (with a haircut for safety). Not too insane a situation
Isn't the concept of ABL designed for company's without sufficient cash flow, but with assets of value that can be used as collateral? ABL deals get done all of the time with businesses that are unable to generate cash flow.
It's almost always lower cost than a traditional cash flor RC.
Also, credit agreement EBITDA is going to be much different than EBIT + D&A.
Exactly. Also a good route for company's which aren't a great credit prospect, but have top quality customers credit wise. Cheaper than a traditional RCF due to having first lien on the receivables of investment grade credits.
Well.... this is... as it actually happened and isn't some sort of case study or interview question
Go on CapIQ and under key docs pull the credit agreement. I assume this is an ABL, it’ll tell you the advance rate e.g. X% of A/R aged less than Y days.
Smart, but this is the crux of the problem. The CA is vague (does not tell you how it is calculated, as one might typically expect). Looks like there was some sort of arrangement with Wells Fargo and some smaller banks (PNC, Regions).
Also the CA will tell you the pricing usually expressed as LIBOR or Prime plus a spread.
"Looking at adding to a current short position."
"Yeah we are pretty sure they had to sell off a unit to survive last year.. But they buy back shares every year. The share price rises to offset. It's insane. What are the risks it rises? They say that it uses the "prevailing rate at the time" so I can't just model it."
Can you say "insider trading"?
"corporate finance"? I don't think you're really in the position to be challenging my expertise on equity research compliance.
LOL - I'm sure what "they said" is in public disclosures. And you're trading on it?
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