Who should a bondholder talk to?

[Reposted after a version control issue in the original post. Apologies].

“Judgement does not come suddenly; the proceedings gradually merge into the judgement.”

Franz Kafka, The Trial

Right now the Bibby Offshore Holdings Ltd bonds are trading in the mid .30 range implying the company will default on its obligations and that owners of the bonds are interested in what they will get paid out at in the event of credit event. On June 27 Standard and Poors lowered their credit rating to CCC- (negative outlook). For those unsure of what this means here is the definition:

An obligation rated ‘CCC’ is currently vulnerable to nonpayment, and is dependent upon favorable business, financial, and economic conditions for the obligor to meet its financial commitment on the obligation. In the event of adverse business, financial, or economic conditions, the obligor is not likely to have the capacity to meet its financial commitment on the obligation.

That ranking is “Poor (high default risk)” below “speculative” which is a B grade. The last Moody’s report I can find (Nov 2016) is even lower “Caa (Highly Speculative)” and one above an actual default. So this is well telegraphed and understood and followed by professional investors.

So the market understands completely that there will be an event of default here. For the avoidance of doubt default covers any of the following events:

  • A missed or delayed disbursement of interest and/or principal, including delayed payments made within a grace period;
  • Bankruptcy, administration, legal receivership, or other legal blocks (perhaps by regulators) to the timely payment of interest and/or principal; or
  • A distressed exchange occurs where: (i) the issuer offers debt holders a new security or package of securities that amount to a diminished financial obligation (such as preferred or common stock, or debt with a lower coupon or par amount, lower seniority, or longer maturity); or (ii) the exchange had the apparent purpose of helping the borrower avoid default.

Just to be clear: even voluntarily agreeing a debt restructuring is an event of default. The original bond investors were professional investors who have a process and warning system for investments that go into default and know what they are doing. Much of the trading in the bonds over the last couple of months is likely to have been from the original investors selling out, as they are “long only” funds that want the interest payments, and in are moving more aggressive funds who specialise in complex workouts and default situations. For those who want a flavour of the aggression of some of these funds they can be seen by Elliot Capital Management, who has partnered with Siem in offshore, have a unit NML who sued Argentina in a complex default case:

NML Capital, a unit of Elliott Management Corp. — sued under a different and cleverer theory. Argentina’s defaulted bonds had a pari passu clause that said that the bonds would “at all times rank at least equally with all its other present and future unsecured and unsubordinated External Indebtedness.” After the default, Argentina had done a restructuring in which it exchanged many of those bonds for new bonds, which it then serviced normally, while continuing to stiff holdout creditors who refused the restructuring and kept the old bonds. NML sued in U.S. courts, claiming that the pari passu clause banned Argentina from paying interest on the new exchange bonds without also paying off the old holdout bonds in full: By paying the exchange bonds and not paying the holdout bonds, Argentina was violating its promise that the old bonds would “rank at least equally” with the new ones…

But the U.S. courts, to everyone’s surprise, sided with NML Capital, and Argentina couldn’t make payments on its new bonds, and it was forced to default again, and everyone was very sad, and ultimately Argentina solved the problem by settling with NML and its fellow holdouts for quite a ton of money.

Getting companies like this on the bond register marks the beginning of the end because they force a solution and .02 or .03 movement is a big deal for these investors and they are very aggressive to get their ends. Some of the original investors will ‘coat tail’ on the skills of the restructuring funds knowing their tactics can generate higher payouts.

I should also note here that in keeping with all bonds like this the BOHL bondholders have a “share pledge” as part of the security package that essentially means should a payment be missed the shares are delivered to the bondholders or the administrator. There is no dispute about this and one of the reasons the interest payment was made in June, when  the company should arguably have preserved the £7m cash, was to stop this security package being invoked.

The only questions about the BOHL default are how it plays out rather than if one will occur. There are three scenarios:

  1. Complete liquidation. Management and investors take no action and eventually the company simply runs out of money and administrators are called in when payments start failing. This is pretty unlikely.
  2. Recapitalisation led by the Bibby LIne Group: in this scenario BLG seek to remain in control of the company, they reach an agreement with the bondholders on the size of the writedown they will take, and new funds are injected (in this case from a new capital provider not BLG) . Should a new investor not be found bond investors would be required to contribute new funds to working capital. I think this is more unlikely than option 1 but it is being tried at the moment.
  3. An event of default where the bondholders enforce their rights and seek to maximise value and seek to sell the operations of the company while leaving the debts with “Oldco” (BOHL). Clearly to my mind the most likely scenario.

There are few other viable outcomes because BOHL did borrow £175m and cannot realistically pay it back ever, and certainly cannot pay it back as it is contractually obliged to.

Option 2 is clearly management and BLG’s preferred option. There are however a number of problems with it: the core one being that BLG don’t have enough money to compete with other proposals and as soon as the bondholders were approached about a writedown and a potential “funding gap” they had zero incentive not to invoke the share pledge and wipe the equity holders (BLG) out unless there was serious money on offer. The only offer that has been presented publicy is a neglible contribution to the revolver from BLG and I suspect this enraged the bondholders as should a default event occur this would see BLG recover funds before the bondholders, and indeed there was a question on the first conference call this year as to why this money wasn’t going in as equity? BLG/BOHL has been trying to interest some large US/London funds in a conditional deal whereby the bondholders take a writedown and they inject liquidity into the business and receive these funds first and at a higher rate but I don’t believe a Heads of Terms has been signed nor even a writedown percentage agreed in principal.

Another problem with this deal is the scale of the writedown needing to be taken. When the bond was issued there were four Bibby North Sea class DSVs working and now not even two are sufficiently, and the Sapphire is going into layup. A normalised earnings might be as low as £6-10m EBITDA for a standalone business which would imply maximum debt capacity of £24-60m (at a 4-6x range), probably the lesser as there is little contractual backlog, so the bondholders are likely to rank even a small cash offer significantly above the promise of a higher payout later. In reality a business with such cyclical cash flows really needs to be mainly equity financed, a position the bondholders will be acutely aware of should they be prepared to cut a deal.

By approaching the bondholders BLG/BOHL ensured the bondholders needed to make sure this was the best offer they could get. So when someone tells you that “bondholders categorically haven’t had” a discussion with the largest and most liquid industrial company in the offshore and dredging sector in Europe the question is more, why wouldn’t they have had this discussion? If all BLG/BOHL are offering is a writedown of debt and dilution of returns to their own securities, while making any further BLG cash guaranteed, why wouldn’t they sound out in the market who would give them a higher price?

And I can assure you, that even though some discussions have been tentative, that is exactly what has been going on. This is a deal, in its many guises and possible forms, that is doing the rounds of the financial advisory firms all hoping for an angle on it. This will be a significant default in the London market (as opposed to Norway) and a large number of advisory firms and distressed debt investors are seeking to profit from it.

All the bond investors want now is to maximise their returns. A cash offer is better than anything but some of the new investors will happily put money in if this increases the likely future return. But fundraising becomes complex, expensive, and time consuming because the original bond investors who brought in still have rights and it is very hard to convince customers to sign up while the financing conditions are so uncertain.

So the bondholders are talking to anyone who will give them a higher payout potential. Indeed it would be a breach of their fiduciary obligations if they did not. They are not sitting there saying “we really like this management team who have had some bad luck” they are saying “how do we minimise our losses/ maximise value, all options are on the table and what is our exit route?”.

Anyone with the potential to help them gets a meeting and a serious hearing. A company with nearly €1bn in cash, current subsea investments in the North Sea, who took risk on a foray into Fugro, and has a strong UK business in dredging, get a big hearing. It is true McDermott is also likely to be part of the discussion along with DeepOcean and others (I have been told Hitec are putting no new money into OI so they are unlikely to do so).

For what its worth I think McDermott, without the windfarm work, and having seen how unprofitable the 2 x DSV UK Bibby Offshore business is, won’t want to risk GBP 20-30m in OpEx until they can sell some project work. But they have a lot of diving days in the Middle East/ Africa the vessels could cover to de-risk it. From a corporate perspective they would not want a loss making North Sea acquisition distracting investors from their very good Africa region story (into whom it would look likely to report). McDermott are a credible bidder, but their order book is less than they would like and should they win some big projects there is sufficient North Sea DSV tonnage for them to charter and commission relatively quickly should they not find a time charter availble (Nor, Toisa, Vard, Volstad) so I think they can achieve the same goal at a lower risk profile. But there is no doubt they are extremely credible as a bidder and the bondholders would be delighted to see a bidding war erupt between McDermott and Boskalis.

There could be others… my point is that the financial advisers to the bondholders serve their client the best when they generate the most options and ultimately get the best price, and to say they are not discussing this with credible transaction counterparties is absurd. Certainly every OSV company with some funds will have been called by investment bankers wondering if they are interested in the deal, waving a mandate letter in front of them, and claiming to have excellent contacts with the bondholders and their advisers. That is how financial markets work.

I know for a fact two big US private equity houses are running the slide rule over the deal. One I believe is working completely independently and is again in preliminary discussions with the bondholders. I just don’t see this going to private equity as BOHL has cash losses in all trading regions and has no backlog. PE don’t normally take 100% market risk with their money which is all this would be. I am least sure of this point because PE just have so much money at the moment that anything is possible, but this is at the very risky end of the spectrum. It would also be a 100% cash equity deal which is very rare when asset values are so uncertain.

The value of the business to an industrial player like Boskalis is the DSVs, systems, Master Service Agreements, project history etc. So there is value if contracts can be novated and the vessels can replace chartered in tonnage. As a general rule private equity houses struggle to compete when industrial companies can find synergies in an acquisition. My own view is that given their strategic position and stated plans, asset base, corporate development skills, track record, and a host of other factors, Boskalis are in the best position. But I am not close to this and it is an educated guess rather than having seen anything proprietary.

The one thing I am 100% certain of is that there is a seismic change coming to BOHL. Any new money simply isn’t funding a corporate centre to preside over three loss making regions. Loss making US office exposed to Borderlon claim and no competitive position? Gone. Loss making Norwegian office? Gone. Ex-pat jobs for the boys in Houston? Gone. Jobs for wives? Gone. Three separate Boards? Gone. The scale of these changes mean a change in legal form is also likely. These were part of a lifestyle business where the people benefitting weren’t supplying the capital and it is inconcievable that anyone supplying new money to fund the business, in whatever form it takes, would accept the current cost structure (as it would reply 100% on an improvement in day rates to make money). An industrial player will simply roll the business into their existing operations and take on really the UK projects teams and maybe not that much else. A PE player would send in a hit team of management consultants who would fundamentally transform the organisational structure.

All options, apart from the status quo, are currently very real.

(For the avoidance of doubt I have no financial interests at all in this position as someone asked me to clarify last week).

3 thoughts on “Who should a bondholder talk to?

  1. Hmm! So your last two blog posts which suggest that Boskalis taking Bibby was a near certainty are now an “educated guess”..? You’re still proving the points made in my reply to last week’s blog.

    Your rhetoric about Bibby following Harkand down the pan isn’t rocket science. It’s blindingly obvious to anyone but the most gullible – those who believe the purpose of the town hall meetings is to communicate reality, rather than blind key staff to it. My own senior management team took the executive decision not to contract with Bibby several months before BP caught up with that reality. To be fair, we’re a smaller player in the E&P market and don’t have the same level of workscopes for them that BP might.

    Any civil engineer watching The Dambusters could tell you what was about to happen. The cracks have become open fissures with water gushing out all over the floodplain. Why are you reveling in the obvious? The fact is a lot of good people will soon be out of a job and numerous creditors will be left high and dry. Some will still be licking wounds caused by Harkand and others.

    Meanwhile, some of the Board will be hoping no-one comes after them for being more focused on the flow of their pay checks than the obligations they are meant to be responsible for. The rest of the Board probably don’t even realize what those obligations are.

    You state you have no financial interest in the position, that’s true. But you did. And you should take at least some responsibility for setting the rot in place which is now coming to the surface.

    Liked by 2 people

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