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 Chesapeake Energy Corp <CHK.N> for example is considering the
strategy to swap some of its roughly $9 billion debt.
Severely distressed companies may issue so-called 1.5 lien debt,
sandwiched between the first and second liens, to raise new capital.
Investors with a stomach for risk would get a better yield than for
the top debt, and have a stronger claim than junior creditors if the
company filed for bankruptcy.
Companies could also create a new, middle layer of debt to swap with
existing bondholders, offering them the option of giving up
principal to jump the queue for repayment in the event of a
bankruptcy.
But 1.5 liens, which often have longer maturities that help
companies buy time to pay existing bondholders in full, are a sign
of desperation that would anger junior creditors, restructuring
experts said.
Only six companies have done 1.5 lien deals over the past several
years, according to Moody's Investors Service.
The swap would make sense for Chesapeake because its bonds maturing
in 2017 and 2018 are trading at depressed levels, analysts said.
"This happens when the market kind of constricts," said John Rogers,
senior vice president at Moody's. "(You) see it in deals where the
company is overlevered and has a maturity coming up."
However some credit rating agencies view the exchange of new 1.5
lien secured notes for existing senior unsecured and 2nd lien
secured notes as a distressed exchange and a limited default
depending on their definition of default.
DIFFICULT STRATEGY
About 40 companies, including Samson Resources Corp, which tried and
failed to execute mid-layer lien deals, sought court protection from
creditors last year.
Roughly one-third are at a high risk of filing bankruptcy this year,
according to consulting firm Deloitte.
Chesapeake has said it has no plans to file for bankruptcy, and
declined to comment.
Chesapeake offered to swap new second liens for unsecured notes last
year, but few holders of its bonds maturing in 2017 and 2018
participated.
Chesapeake executives said on a February conference call that they
were looking to reduce or remove those maturities.
Citigroup Inc <C.N> said, in an analyst note last week, that
Chesapeake may target those holders in a 1.5 lien exchange that
would buy the company time until oil and gas prices recover.
Senior debtholders, usually banks which have extended revolving
credit lines to oil and gas companies, often balk at 1.5 lien debt
which could reduce their control over the collateral, bankers and
attorneys familiar with the deals said.
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Second lien lenders may protest because the new layer of debt would
come above theirs.
Companies considering such deals may have an uphill battle trying to
convince investors that the new liens would be worth anything, since
oil and natural gas prices have fallen so far in the past year.
U.S. benchmark West Texas Intermediate crude oil fell 77 percent in
the past 12 months before seeing some recovery in recent weeks.
Samson Resources Corp, which is owned by private equity firm KKR
<KKR.N>, proposed to raise new money by issuing 1.25 lien debt, and
swapping out old debt into a 1.5 lien layer, before it filed for
bankruptcy in September.
The deal was never finalized because it would have left Samson with
too much debt and the continued collapse of gas prices made it
impossible.
KKR did not immediately return requests for comment, and a
spokesperson for Samson declined to comment.
The latest announced 1.5 lien swap was completed by iron ore miner
Cliffs Natural Resources Inc <CLF.N> in February. The deal cut about
$300 million of debt by allowing noteholders to swap into new 1.5
lien debt for a reduction on their principal.
Many recent 1.5 lien deals have been done by companies in the
portfolio of private equity firm Apollo Global Management <APO.N>,
said John Rogers, senior vice president at Moody's. Large,
sophisticated private equity firms can negotiate more room for debt
in credit documents with banks, he said.
Apollo took Realogy Holdings Corp <RLGY.K>, a franchisor of real
estate brokerages, private for about $6.65 billion in 2007, right
before the housing bust. Until then, the company had never turned a
profit, but in 2012 it was able to raise 1.5 lien financing and
complete an initial public offering.
Apollo declined to comment.
(Editing by Carmel Crimmins and Richard Chang)
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