Legacy Reserves May Restructure Soon

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About: Legacy Reserves Inc. (LGCY)
by: Elephant Analytics
Summary

Legacy is evaluating strategic alternatives with its credit facility maturity coming up on April 1.

Legacy has not been able to extend its credit facility maturity yet, and extensions typically are secured well in advance.

Legacy also does not have alternative funding in place at the moment, so it faces a high chance of a near-term restructuring.

Restructuring could come at a time when peer company valuation multiples are at low levels, resulting in a relatively low valuation for Legacy.

Legacy also has not yet announced its Q4 2018 earnings, which could provide additional info about its situation.

Legacy Reserves (LGCY) announced that it was "evaluating and exploring potential strategic alternatives." While it did not explicitly mention restructuring as one of those strategic alternatives, it also noted that it hasn't been able to extend the maturity (currently April 1, 2019) of its credit facility yet. Thus, it can be easily concluded that a near-term restructuring will occur if Legacy isn't able to deal with its credit facility in time.

Credit Facility Issues

Legacy's challenges with getting its credit facility extended are likely due to its large amount of other debt and its 2020 debt maturities. While Mid-Con Energy Partners managed to get its borrowing base increased a few months ago, it also has no other debt outside of its credit facility, although it has preferred units that holders can elect to redeem for cash in August 2021. Mid-Con's credit facility matures in November 2020 now, and its lenders don't have to potentially deal with something else triggering a restructuring before its credit facility matures. If the oil market crashes, the credit facility lenders can force Mid-Con to stop making cash distributions on the preferred units and put all its cash flow toward paying down the credit facility debt.

On the other hand, Legacy has the August 2020 springing maturity on its second-lien term loan and its December 2020 unsecured note maturity as potential restructuring triggers even if its credit facility gets extended for a couple years. As well, Legacy is making approximately $75 million in interest payments per year outside of the credit facility, and those bond and term-loan interest payments can't be stopped without potentially resulting in restructuring as well.

The lack of news regarding Legacy's credit facility extension was a bad sign since the extension usually happens well in advance of the credit facility maturity. Mid-Con got its credit facility extended around nine to 10 months ahead of the November 2018 previous maturity date.

I had thought that in a best-case scenario Legacy would be able to get its credit facility extended by a year (which would still be before its other debt maturities). However, it appears that the credit facility lenders may not be interested in extending the credit facility maturity at all.

Next Steps

Legacy mentioned that the strategic alternatives it was looking at included "a sale or other business combination transaction, sales of assets, financing transactions, or some combination of these." Legacy would have been working on various ways to address its credit facility problem before (such as alternative financing), so it can be assumed that it has nothing in place and is putting the release out as a last-ditch call for help from any interested parties. When Gastar announced that it was considering strategic transactions, it already had received a preliminary restructuring term sheet from Ares. Legacy apparently has not received anything similar from GSO at this point.

One challenge for Legacy is that it has a lot of dispersed assets. When Legacy last announced a bunch of asset sales, it involved 24 transactions adding up to $50.9 million, or around $2.1 million per transaction. Legacy's assets appear to be scattered over close to 100 counties, so any attempt at paying off Legacy's debts via asset sales may involve a lot of separate transactions.

Source: Legacy Reserves

There's the possibility that someone (such as GSO or another firm) offers a high-yield first-lien loan to replace Legacy's credit facility. However, they would still be faced with the issue that Legacy might end up restructuring due to its 2020 note maturities anyway. Thus I believe that it's more likely that new money comes in as part of a restructuring plan. To get its leverage down to an acceptable level in the current climate for oil and gas producers, Legacy probably shouldn't be carrying more than around $600 million or so in debt (around 2x EBITDA based on my calculations), which means Legacy can't be carrying that much more debt than its current first-lien borrowings.

GSO is the key existing stakeholder here since they have the ability to put in enough new money to take care of Legacy's credit facility. Baines really doesn't appear to have the ability to put $550 million in new money into Legacy.

Valuing Legacy

As I've noted before, Legacy's common stock could end up being worth zero or close to zero if restructuring is triggered under current market conditions. It would be fairly easy to put together peer comps that suggest that Legacy is worth less than the total value of its debt at the moment. So for common stock holders, if Legacy is not able to deal with its credit facility without restructuring, the best situation may be to hope for a free fall bankruptcy and hope that oil prices and peer valuation multiples improve considerably before the case is resolved. I believe that Legacy's credit facility borrowings and second-lien term loan will still accrue/be paid post-petition interest in the event of a bankruptcy filing, so that would eat into the remaining value a bit if the case drags on.

Aside from that, we are left with incomplete information with which to determine Legacy's value at the moment. Legacy hasn't provided recent information on its new well performance (I'm particularly interested in the performance of its Midland and Martin County wells as it recently started developing outside of its core Lea and Howard County project areas). We also have no idea about how its production progressed in Q4 2018 nor its expectations for 2019. Some of these items should be answered in Legacy's Q4 2018 report, but there's still no indication of when that will occur as it wasn't mentioned during Legacy's recent press release. Legacy may end up delaying its earnings report and 10-K filing.

Conclusion

While it isn't completely certain that Legacy will restructure yet, it's in a very challenging position right now. Legacy's credit facility is set to mature at the beginning of April and it hasn't managed to secure an extension yet. Credit facility extensions are typically secured well in advance of maturity, and if Legacy is unable to deal with it soon, it faces a near-term restructuring.

Legacy's press release indicates that it doesn't have alternative financing in place, so it is seeking a last minute rescue. There is the potential for Legacy to secure replacement first-lien financing, but it hasn't been able to achieve that in the past months. At this point, any new financing would likely take place in conjunction with a restructuring that would wipe out much of Legacy's debt.

Disclosure: I am/we are short LGCY. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Short LGCY via a small amount of puts.