This is a News Alert from the newly re-launched BDC Credit Reporter regarding a group of related companies on our Watch List.
April 17, 2017: Iracore International Inc., an industry leader in elastomeric lined pipe and wear materials utilized in oil sands and mining applications, announced a consensual restructuring and change of ownership has been completed.
"As part of the restructuring, the noteholders have acquired substantially all of the equity in Iracore, significantly reduced the company's outstanding indebtedness, and provided the company with additional liquidity in the form of a term loan to support future growth.
The restructuring provides Iracore with meaningful financial flexibility and a realigned balance sheet, making it more competitive in the current environment and positioning it for long-term growth. The current executive leadership at Iracore will remain in place."
BDC CREDIT REPORTER ANALYSIS
Two big name Business Development Companies have suffered a reversal with the news that Iracore International has had to undertake a restructuring, which has resulted in a change of ownership, and one appears to have dodged a bullet.
The Company manufactures lined pipes used principally in the Canadian oil sands market, but a drastic drop in demand caused Moody's to downgrade the Company as far back as August 25, 2016. At the time, the ratings agency mentioned that the Company's sales in 2015 were only $31mn. Loan covenants required the Company to maintain a minimum EBITDA of $7mn on a 12 month rolling basis and Moody's doubted that would be possible. At the time, the debt to EBITDA was already 15x and EBITDA to interest was 0.5x. Furthermore, liquidity was drying up and was not expected to improve. Not surprisingly Moody's downgraded the $125mn in rated debt to Ca with a negative outlook.
"Moody's believe the company will likely default or look to restructure its debt over the next 12 months."
Now we learn from a very de minimis press release that the expected restructuring has occurred. Because the transaction occurred outside of bankruptcy court, the parties do not have the obligation to provide the critical details. We know that the senior debt holders, who were secured by the Company's assets and made up the bulk of the debt outstanding, have acquired the equity of Iracore. Some or all the debt has been converted into equity. Moreover - as is often the case in these situations - the former lenders-now-owners have advanced additional capital to the Company "in the form of term loan to support future growth".
BDC EXPOSURE DETAILED
Total BDC exposure is $44mn, apparently a third of the debt that was outstanding. TCP Capital (NASDAQ:TCPC) and Goldman Sachs BDC (NYSE:GSBD) are in the Senior Secured Notes of Iracore International, which were to mature in 2018, and which paid 9.5%. However, both BDCs had the Notes on non-accrual status since the IVQ 2016. Garrison Capital (NASDAQ:GARS) has $8.8mn invested at cost in Iracore International Holdings, in the form of a Term Loan due in 2020 and which was still being carried at par value and was not on non-accrual at year end 2016. We don't understand the discrepancy, and doubted that any Iracore entity can have been spared in the meltdown of the business. Yet that seems to be what has happened. According to the GARS IVQ Conference Call, which occurred in March 2017, the debt was expected to be repaid in full:
"the loan is fully collateralized with cash and other current assets. This position was marked up to par during the quarter due to a pending repayment".
Which leaves the other two BDCs with $35mn of exposure at cost. At the end of the IVQ 2016, both TCPC ($14.2mn) and GSBD ($21.3mn) had written down their position in Iracore by 68%. Given a restructuring was underway, the discount may be a guide as to how much of the debt will be converted to equity. We would expect both BDCs to book a Realized Loss in their IIQ 2017 results based on the completion of the restructuring, rather than just carry the difference in value between any debt retained on the balance sheet and the equity to be owned in the restructured company. We assume, but cannot confirm, that both BDCs will be involved in funding a portion of the new, size undisclosed, Term Loan.
Given what we've read in the Moody's August 2016 note and what we know what's happening in the segment of the business which Iracore competes in, the BDC Credit Reporter is by no means convinced that Iracore can yet be removed from the Watch List, restructuring notwithstanding. We'll be waiting to be updated in the IQ 2017 results and see what the IIQ 2017 portfolio numbers look like. This restructuring continues a common trend amongst BDC and other "alternative lenders" these days to seek a Chapter Two for failed debt investments by seeking to gain equity control and use their loss as a currency. The former lenders-now-owners are loath to close the books and recognize a definitive loss. That could be because there is a credible chance the Company will succeed with a de-leveraged debt structure, but could also be based on an unwillingness to take the hits involved to the lenders capital account and income generation. Management, anxious to get back to work, is usually obliging as are other creditors, especially if some provision is made to repay them and/or continue as vendors. The biggest immediate loser in this deal is the private equity buyer (Friedman, Fleischer & Lowe) who acquired Iracore back in 2013.
However, if the new owners of Iracore - operating in an industry as far from Wall Street both geographically and figuratively as you can get - have miscalculated, BDC investors may ultimately have to endure a one-two punch of losses. One now with the restructuring and another in the future, which would include both the stub value from the original debt, the new Term Loan that is being advanced and any additional funding that may occur in the future. We would end with the traditional quote from Godfather III, but we won't.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.