How much is enough?

How much equity and working capital do you need to be a UKCS saturation dive contractor? And just as importantly, how much can you make from such an investment? Two different groups of North Sea DSV bondholders are pondering this question at the moment.

On the one hand are the Bibby Offshore Holding Ltd (“BOHL”) bondholders who must realise now that a financial restructuring is coming. Moodys noted in November that:

Bibby Offshore cash generation has been negative since the beginning of the year resulting in a reduction of cash on balance sheet of approximately GBP40 million out of the GBP97.1 million it had at the start of the year. Moody’s believes that cash generation will remain negative in 2017 to approximately GBP30 million with increased pressure in the first half of 2017 due to seasonality. Cash generation in the second half of 2017 should slightly improve due to the anticipated positive effects of the renegotiation of charter rates.

In anything things have only got worse… Let’s leave out the fact that the only charter open for renegotiation in 2017 is the Bibby Topaz and here BOHL have a problem: give the vessel back and the bond holders know they are not getting paid back in full as BOHL can’t generate enough revenue; or, keep the vessel, and spend some of the remaining cash on a vessel with little backlog.

Moody’s estimated Bibby will generate EBITDA of GBP 12m for 2017 and means leverage rises to more than 20x EBITDA (including operating lease calculations): a totally unsustainable number. The only hope could have been a really busy 2017 summer with extraordinarily high day-rates; however, despite high tendering levels, rates are rock bottom and the volume of work is small. The question for BOHL is only the size of the financing gap not the reality of the need for one.

BOHL needs a debt-for-equity swap. [Non-financially interested don’t need to worry about the specifics here but in essence the people who lent the company money on a fixed basis agree to turn this into shares accepting the may carry some upside potential].  In reality, I think there will be a raidcal restructuring of the BOHL. I believe the bondholders will seek a restructuring that takes the business back the 2005 model of 2 x DSVs based in Aberdeen. Singapore, Norway, and the US are gone. No offices outside Aberdeen appear to be cash flow generative at all even taking into account ROV utilisation. The bondholders are in for the Sapphire and Polaris anyway so the need to come up with the least cash exposure that offers them the maximum return. ROVs are not a BOHL specialty and there is no reason to fund that business with precious working capital beyond the DSVs own need. Its back to Waterloo Quay and 2005 for those of us who were there (and they were great days I can assure you).

Given the size fof the debt write-down the bondholders will be expected to take they will leave enough cash in to allow the business to trade for a few years in a way that maximises their chances of recovery and nothing more. So unless they can reach a revenue sharing agreement with the Volstad Topaz bond holders that won’t feature as well. The ramifications to the BOHL brand will be enormous but the cash call will be of a magnitude that will allow for little sentimentality.

What % of the business they demand for this is anyone’s gusess and will be dependent on any equity Bibby Line Group agree to put in.  These things are a matter for negotiation rather than hard-and-fast rules. Remember also this is a business that is going to have to be 100% equity financed for the foreseeable future as no one will lend to such specialist vessels without backlog (i.e. an asset and cash flow facility) for a long time. However what does seem reasonable is this:

EBITDA per DSV: GBP 8 – 12m; Corp Overhead: GBP 4m; Implied cash flow for debt multiple: GBP 16m (mid-point average). [Debt at 4.0x EBITDA: 64m]; [Debt at 5.0x EBITDA: 80m]. Outstanding debt: GBP 175m.

I get valuation and cash flow modelling are an art not a science and that I have made a lot of assumptions here. But also bear in mind most DSV operators will kill to get EBITDA of GBP 10m per vessel this year, many DSVs are going out at OPEX plus a small margin if they are lucky, and given the way discounting works I could be seen to be generous here front-loading cash flow. Don’t forget the risk either: this market is far more volatile than anyone, including me, ever thought possible. I think I am directionally correct here and I don’t need to to into greater detail in this forum. The core point is this: under any number of reasonable scenarios the bondholders are looking at writing off at least 50% – 66% of their debt and if a working capital call is made then way more than that; and that selling the DSVs in this market is probably the worst, but not unthinkable, option for them.

The BOHL bondholders are (rightly) terrified of getting the Polaris and Sapphire redelivered. Not only have the Nor/Harkand bondholders taken the vessels out of the market for them they have also highlighted what a shambles getting re-delivered such vessels can be. It is very doubtful the two BOHL DSVs could be sold at anything like the value implied by recent bond market prices (.60-.67) if at all. The bondholders knew the DSVs didn’t cover the value of the bond (i.e. it wasn’t fully secured) but they are currently spending funds they thought would be used to grow the business on basic working capital (that is the fault of the market not management it needs to be said and was a risk they took signing up to a huge unsecured portion of the bond for “general corporate purposes” in a cyclical industry). The cash position could be significantly worse than Moody’s forecast: I doubt EMAS has paid for the Angostura work and some sort of agreed deal with Borderlon, currently in arbitration, could see c. USD 5m handed over for a settlement for 10% of the outstanding claim. Anything more could mean a nuclear outcome for BOHL. Better to stem the exposure now…

At these sort of levels the bondholders are going to ask for a significant dilution of the Bibby Line Group stake (potentially all of it if a signficant amount isn’t invested with the bondholders in the new working capital facility). But the most logical option here is therefore to cut the business back to what could realistically trade at a profit and cauterise the loss making exposure. That means everything apart from the core UK dive business with maybe a couple of ROVs to support it. But the BOHL bondholders are disparate and international. And while M&G (who have their own workout team) are the largest I believe, and may have some interest in a controlled restructuring, this was a “US 144 issue” meaning that a lot of the bonds will be held by US institutions who may just write this off as it becomes to complicated. In such a situation a rump business being sold is the most likely option as there is some value there, just nothing like GBP 175m + working capital.

I think we are looking at a pre-pack here with a “credit bidding” element where the bondholders, or new investors, agree to buy the vessels, backlog, IP and management system and very little visibly changes apart from the closure of international operations and the redlivery of the Topaz and the Olympic vessels with the Borderlon claim left in the insolvent rump. Quite how far they will run the cash reserves down to before such a transaction happens will be the call of from the legal/financial advisers. Olympic, who would appear not have to any Bibby Line Group guarantee, will simply end up as an unsecured creditor and have to accept redelivery of their vessels for what in this market are essentially onerous charters. Borderlon in Houston potentially have the most to lose: having built a vessel for Bibby in the US the charter was cancelled when the market turned. I have no idea who was wrong or right legally, but UK companies traditionally do very badly in US Courts/ Arbitration and they must be hoping for a meaningful payout.

I am not sure the scale of the problems are acknowledged. The company has 10 Directors now, and seems to be focusing on such diverse strategies as small pools (which offer the prospect of cost with no immediate revenues). It’s the ultimate re-arranging of deck chairs on the Topaz  Titanic. I undertand why. I have been in a similar position and there is an element of cognitive dissonance involved. But to believe the bondholders would write off at least half their debt and fund an international expansion for a loss-making business is about as likely as believing the UKCS SAT diving market will miraculously recover. Stranger things have happened.

The only other option would seem to be an investor throwing millions into this business to keep it going until the market recovers and would involve keeping the bondholders whole. I just don’t see it and it pains me to say that. Because the answer to the first question is of course, like all post-modern phenomena, the answer is relative. BOHL not only need enough working capital to satisfy their creditors they need enough to outlast other players in the market especially DOF Subsea.

The marionette Nor Bondholders and their puppet-master Maritime Finance Corporation have a plan so cunning Blackadder would be confused. The top secret idea is to do exactly what they did last year and tie the DSVs up in Blyth and wait for the market to recover and thus, without any investment in infrastructure and systems that the other five SAT dive companies have spent millions per annum on; they will ride a demand wave and recover their investment. Like all cunning plans it involves an element of risk, namely, exactly like last year where they end up spending USD 350k per vessel per month and get no work. But hey I realise I’m a glass half empty guy…

The Nor bondholder have gambled that USD 15m is enough. However, they have burned through at least USD 2.1m since November when they raised the money and appear no closer to some paid days. The problem for Bibby isn’t that they are seriously threatening work its that it is artifically depressing DSV asset prices. I’ll discuss my views on the Nor vessels in depth later. But while their strategy is economically irrational it isn’t depressing rates because 1) E&P companies buy a system + DSV (i.e. engineering, HSE, etc); or 2) the current SAT dive companies all have excess tonnage.

The amount of working capital and the financing gap BOHL have is dependent on all these factors and there is no firm answer here. Keep the debt high and you need a lot. But whatever the agreement is it represents a number in the low tens of millions each year until a market recovery and no one can supply any quantitative information suggesting one, in fact a lot can be shown to make the opposite: this is a period of structural decline for UKCS DSVs.