NOT AN ANALYST

This is an overview of the restructuring businesses discussed on the Blog, to update investors on recent developments. I would be glad to give my feedback, or receive yours, on the on any bankruptcy proceedings discussed here.

CIT Group – It emerged from Bankruptcy on December 10 and it’s now trading under “CIT” on the NYSE. As you remember, the Company cancelled the old equity and issued 200 mm of new common shares. The implementation of the Company’s strategy unfolds around CIT Banks; the subsidiary will be the focal point for the origination of middle market loans, bank deposits and other businesses like Vendor Finance (which provides leasing solutions) and Trade Finance (factoring and ABS). That is currently on hold; waiting regulatory approval from the FDIC. On July 2009, the FDIC imposed a “Cease and Desist Order” on CIT Bank, which prevents the subsidiary to grow deposits given the weakness of the institution at the time.

CIT_New_Business_Model

General Growth Properties – The Debtor is expecting to emerge from bankruptcy by the end of June 2010. There are still 3,000 mm in Secured Mortgage debt that need to be reorganized before a plan of reorganization for the Unsecured (Rouse Bonds, GGP LP Notes and TRUPS) and Secured Notes (2008 Credit Facility, 2006 Term Loan and Revolving Credit Facility) is implemented. Most likely maturities for the remaining Mortgage Debt will be postpones at higher rates and a debt-to-equity conversion will be implemented for all or part of the Unsecured Notes. Worth noting is the dividend of 0.19 dollars a share that the Bankruptcy Court authorized the Debtor to pay to common shareholders in order to maintain the REIT tax status and avoid tax penalties.

Chemtura Corp – The December MOR (Monthly Operating Report) reported EBITDA of 54 mm, which brings the 2009 EBITDA to 251 mm, well above my expectations of 220 mm. We might be able to see some equity value up to 2 dollars a share even before a POR is unfolded. The Equity Committee was appointed on December 29 and I am under the impression that the current shares will continue to trade post bankruptcy and reinstated on the NYSE, but shareholders will experience dilution (probably around 50%) due to debt-to-equity conversion and/or new offering. Read my last post on Chemtura Corp for more details on that.

Idearc Corp – The Restructuring process was completed on January 4 and the business emerged under the name of Supermedia Inc which symbolizes a new line of business that the Company launched.  The pre-emergence common stock of Idearc Inc. (which has traded under the symbol “IDARQ.PK “) was cancelled effective December 31, 2009 and the Company now trades on the NASDAQ under “SPMD”. The new name symbolizes the continuity of the old business and the implementation of new products. More details on the different business segments are highlighted in the presentation attached.

SuperMedia_New_Business_Model

Accuride Corp – A third amendment to the Plan of Reorganization was filed with the Bankruptcy Court on December 21. The last date to vote on the Plan is January 29 and the confirmation hearing is scheduled for February 10 2010. The Equity Committee has urged shareholders to strongly reject the plan, arguing that a 2% share of the reorganized Company (which will become 0.6% after dilution) is far too little. The Committee plans to object the Plan at the Confirmation Hearing, and might be able to get away with more, maybe 5% of the reorganized equity. The Committee is not wrong, given the fact that creditors are expected to get no more that 100% recovery plus accrued interest through bankruptcy, but because the proposed Plan offers a significant equity interest to creditors, the upside will be more that 100%. Look at my previous post on Accuride Corp on December 9 for more details about the POR and dilution.

Emergence from Bankruptcy The US Bankruptcy Court has approved today, December 8^th, the plan of reorganization that CIT Group proposed to its creditors. The Company is now expected to emerge from bankruptcy by mid-December. This is an overview on the plan of reorganization that CIT Group offered to different bond classes:

Series A and B Notes The company will issue two new notes in exchange for the old notes:

Characteristics: Series A note 7% coupon with maturities ranging from 2013 to 2017

Series B note 9% coupon with maturities ranging from 2013 to 2017.

Collateral: Series A and B are guaranteed by a lien on all CIT Group personal properties excluding interest in CIT Bank, certain equity interests in foreign subsidiaries (it’s unspecified which one) and other regulated subsidiaries.

Ranking: the collateral securing Series A and B notes is the same as the collateral securing the Senior Credit Facility but the lien of Series A and B collateral is subordinated to the lien of the Senior Credit Facility collateral.

Redemption: Each note will be callable @ 103.5 on Jan 1 2011 and @ 102 on Jan 2012 at the option of the issuer.

Covenants: The indenture of the new notes contain certain covenants that limit the Company’s ability to incur additional debt, pay dividends or repurchase debt or equity, merge with other companies, engage in transaction with affiliates.

Bond Classes Assuming holders of each bond class accept the plan, they will receive respectively:

Class 6 Letter of Credit – a payment of 103 cents on the dollar

Class 7 Canadian Senior Unsecured – 100% of series B note

Class 8 Long dated Senior Unsecured – 70 cents on the dollar of Series A note and 3.6% of new common interest

Class 9 Senior Unsecured – 70 cents of Series A note and 77.7% of new common interest

Class 10 Senior Unsecured Term – 70 cents of Series A note 1% of new equity common interest

Class 11 Senior Unsecured Credit Agreement – 70 cents of Series A note and 9.4% of new common interest

Class 12 Senior Sub – 7.5% of new common interest 

Class 13 Junior Sub- 0.8% of new common interest

Common interest will be cancelled and bondholders will own 100% of the post re-org company.

Post Re-org Price Class 9 holders are the largest creditors with 25,504 mm of principal outstanding and will own 77.7% of the post re-org Company. But how much is that percentage in share amount? The offering memorandum informs me that the estimated recovery on the note 94.4%, so if I am getting 70 cents on the dollar of the new note, there are still 24.4 cents that I am missing to arrive at the 94.4% recovery rate. The post- re-org equity will fill that gap. Assuming all bond classes accept the plan, the reorganized company will have 8,000 mm in equity, which is disclosed in the company memorandum, and will issue 200 mm in new shares to replace the current 400 mm shares outstanding per today’s press release. This will gives me a price of 40 per share. Is that reasonable? It is. If I am a buyer of all Class 9 debt, then I will get 155.4 mm shares of the new company (77.7% of 200 mm) and each Class 9 bondholder will get 6.09 shares which equals $240 (6 shares + cash). The math turns out perfectly, $700 of the new bond + $240 of new equity = $940 which is close to the recovery rate of 94.4% provided on the offering memorandum.

Series B notes There is a good chance that the Series B will go to par upon emergence. If you bought a Class 9 note in November at 70 cents on the dollar and you choose to participate in the plan of reorganization, you are definitely getting a great deal.

After 6 month of trading, your note can easily be trading par and the new equity at 50 per share, which gives you an annualized IRR of 17.5% without accounting for interest payments.

CIT Group Bankruptcy Overview On Nov 02, CIT Group and CIT Group Funding Company of Delaware LLC filed for chapter 11 Bankruptcy protection under the pre-packaged plan of reorganization. The conditions for the debt exchange offer were not met. CIT Bank was not part of the filing and will continue to operate regularly. Court proceedings should not take long and CIT Group is expected to emerge from bankruptcy by the end of the year or early next year. The firm is now trading under CITGQ.PK. I am skeptical about CIT Group’s ability to return to profitability even if the company is reducing its debt level and postponing maturities, since leverage remains elevated. In 2006, the company’s leverage was 12x operating earnings (EBITDA), in 2007 and 2008 it was 15x. Assuming operating earnings remain constant post re-org in 2010 at 4,260 mm; the company will be leveraged 9x, which it is still a high number.  The credit rating that will be assigned after the company emerges from bankruptcy and the evolving of ongoing regulatory issues, the “cease and desist order” imposed by FDIC on CIT Bank, will be a key factor for the firm’s capacity to raise short term funds.

CIT Preferred Class Z While I was looking up and down the capital structure, I found out that a mandatory convertible preferred stock, CITEQ which was formally CIT-PZ, trades around $16, surprising for a preferred stock. The interesting part is that the security is actually benefiting from bankruptcy filing. Let’s take a closer look at it.

Corporate Units On October 17 2007, CIT Group issued 24,000 m of mandatory convertible preferred shares called “Corporate Units”. Each unit represents a 1/40 or 2.5% ownership interest in $1,000 principal amount senior note maturing on November 15, 2015 issued by CIT Group and is composed of a purchase contract which obligates the holder to purchase, no later than November 17, 2010, for a price of $25 in cash, a certain number of common shares.

Treasury Units Holders of a Corporate Units have the right to substitute, anytime before November 1^st 2010 in integral multiples of 40, for Treasury Units which consist of an ownership interest in a $1,000 principal zero-coupon U.S. Treasury security (CUSIP No. 912820MJ3) maturing November 15, 2010. Each Treasury Unit is composed of a purchase contract which obligates you to purchase common shares under the same terms of a Corporate Unit Holder. More specifically, when the treasury security matures on Nov 15 2010, the proceeds are used to purchase common shares on Nov 17 2010.  

Bankruptcy Clause The offering states that in the event of Bankruptcy, the obligation under the purchase agreement is terminated. You are no longer obligated to purchase common shares on Nov 17 2010, which could cause a huge loss at the current price, and can no longer create Treasury Units from Corporate Units either, because that was contingent to satisfying your obligation under the purchase contract.

Conclusion CIT-PZ is trading at $16, slightly below what holders are expected to receive from Bankruptcy, which is 70 cents on the dollar plus some unspecified equity interest like. If you are looking to buy senior unsecured bonds and participate in the restructuring, you should buy CIT-PZ because it has the same recovery rate as a Class 9 Senior Unsecured bond but it offers higher liquidity and better price.

Related posts on this Blog:

CIT Debt Exchange Set to Fail

Introduction CIT Group and CIT Group Funding Company of Delaware launched a Restructuring Plan on October 1^st to enhance the capital levels of the firm. We will first look at the capital structure and then at the terms of the Plan. 

Capital Structure CIT Group has all the characteristics of a High Yield Issuer. The Company is structured as a holding company, it relies heavily on short-term bank debt (JPM Letter of Credit, most of Senior Unsecured Notes, Senior Unsecured Term Loan and Credit Agreement are bank debt) and debt is borrowed at the parent level (the senior unsecured notes are issued by CIT Group which is the parent) but funds to pay the obligations are generated from operating subsidiaries.  The offering memorandum provides very useful insights however it’s 250 pages!

Only the face amount for holders entitled to vote in the offering are displayed

Restructuring Plan The Company’s principal objectives under the Restructuring Plan are to reduce leverage, return to investment grade rating, transfer business platforms to CIT Bank and recapitalization. Bondholders can elect to participate in the Restructuring Plan through consummation of the Offer or the Plan of reorganization. The Offering is conditioned upon achieving acceptable liquidity and leverage targets and the Plan of Reorganization is accepted if it reaches a certain approval percentage. The Company will file for bankruptcy protection without a prepackaged restructuring plan if the offer is not consummated or the plan of reorganization is not accepted.

Terrible deal Investors holding the Canadian Senior Unsecured Note or Structurally Senior Unsecured debt in the table above (for amount of $2,188 mm) are pushing for greater consideration from the Offering Plan as they are entitled to recover close to 100 cents on the dollar from the pre-packed Plan of Reorganization. Also Subordinated Bondholders (amount to $1,979 mm) are only offered Preferred Stock and are asking for more equity or extra money if the company will perform well. It’s important to note that the “New Preferred Stock” offered is not a preferred stock per se but it’s basically an equity stake in the company. The “New Preferred Stock” will have no stated dividend, no intention to pay a dividend, no maturity, it will not be listed on any exchange, it will not be subject to any sinking fund provision and only redeemable at the Company discretion. Should I go on? This Preferred Stock may very well be worthless if the company seeks Chapter 11 protection a few months after the offering.

Amendments and more On October 19, Carl Ichan offered to underwrite a $6,000 mm loan to rescue the lender after the offering was amended on October 16 to include some minor changes that are “sweetening” the offer. However, the company has major liquidity and operating issues and these actions are just postponing the problem. For the months ending on December 31 2009, there is $1,600 mm in notes maturing, including $800 mm due in the first week of November and for the months ending in August 31 2010, there is $7,600 mm of debt funds needed.

Little Hope Bankruptcy seems inevitable for CIT Group even if an out of court reorganization is implemented. The company’s ability to raise funds is impaired under two fronts: capital markets because the company has credit rating below investment grade and cannot issue short term debt like commercial paper (or it might be able to at high rates) to fund its lending business and bank deposits because the FDIC imposed a restriction called Cease and Desist Order on the CIT Bank ability to grow deposits as the regulator is concerned about the firm’s financial well being.

Covenants Restrictions The new notes are going to be subject to certain covenants that protect bondholders but will impair the ability of the Company to generate income.

• Restriction on the parent and its subsidiaries from incurring additional debt. This is obvious but there should be some tests implemented every quarter to check if capital levels are adequate (maintenance or debt incurrence test).
• Pay dividend. The Company has to retain income, if any.
• Make investments .This is my point, how is the company going to grow?
• Create liens or use assets to secure other transactions. A principal element of he Restructuring Plan is to “negotiate new or amend secured credit facility to provide additional liquidity” but this is not possible under the new notes covenants.
• Sell certain assets or merge. If the company ends up in trouble again, which I deem very possible, the only solution will be Chapter 11
• Transaction with affiliates. Part of the business Post-Restructuring Plan indicates that the “most likely scenario” is to transfer all “bank-like” operations (that takes place in other subsidiaries) to CIT Bank, but this is not possible under the new notes covenants and until the FDIC lift the restriction discussed above.

A breach of any of these covenants could result in a default under the New Notes Indenture.

Conclusion The Restructuring Plan doesn’t seem well drafted as some of the core objectives cannot be implemented due to the restrictive bond covenants of the new notes. The company may end up in court for bankruptcy under Chapter 11 as the Offering doesn’t look appealing to bondholders.