A North Carolina court is the first to offer coverage for physical loss Covid-19 claims.  However, it is notable that the language of the insurance coverage defined the term “direct physical loss” includes an “inability to utilize … something in the real, material or bodily world, resulting from a given cause,” and does not need physical alteration to trigger coverage.  So, this likely is more of an exception rather than the rule.

The case is North State Deli LLC et al. v. The Cincinnati Insurance Co. et al., case number 20-CVS-02569, in the State of North Carolina General Court of Justice for the County of Durham.  It’s the Order on Summary Judgment issued on October 7, 2020.  Here is a link to the decision – 1321000-1321752-2020-10-09 — order granting plaintiffs’ partial motion for summary judgment [filed]

(also available at https://www.law360.com/articles/1321752/attachments/0).  The article discussing the decision is below.

All — Sharing an article that my family friend wrote.  Discusses his perspective on developing temporary restructuring agencies. Also touches on perhaps using Japan’s Industrial Revitalization Corporation as a precedent. 

This is a guest post by Jay Alix and Richard Gitlin, which argues governments need to establish dedicated restructuring agencies to help economies whether the coronavirus storm. Alix is the founder of the global restructuring and turnaround firm, AlixPartners and was appointed by President Clinton to the national Bankruptcy Review Commission. Mr Alix also advised the nation of Japan on its national restructuring program and designed, developed, and helped lead the implementation of the rapid 40-day bankruptcy restructuring of General Motors, supported with US government funding from both Presidents Bush and Obama. Gitlin has played a leading role in the development of practices and procedures for successfully resolving complex global restructuring and insolvency cases, sovereign debt, and systemic corporate debt crises. He has also advised the IMF and the governments of Japan and Indonesia on their national restructuring programs.

Governments have created massive lending programmes to businesses to respond to this extraordinary economic crisis. Unfortunately, many of the these businesses were highly indebted even before the virus.

Combining highly indebted businesses with a collapse in demand and supply chain disruption is a formula for economic stagnation. A shift in policy by governments is urgently required to invest in companies that can grow once debt is reduced to sensible levels and businesses are restructured to adapt to new market realities.

How can this happen on the massive scale that is required?

Bankruptcy systems will be essential but will probably be overwhelmed.

Governments will need to invest growth capital but only as part of a commercially sensible restructuring of both the balance sheet and the business.

The development of an extraordinary government agency will probably be required to the oversee the job, staffed primarily with restructuring professionals. It would work in concert with the bankruptcy system harnessing its power to approve compromises and to eliminate contracts that are an impediment to a successful restructuring.

In essence, debt reductions, debt-for-equity swaps and equity for new investments will be required. There would be much shared pain by shareholders and existing lenders. And new capital will have to be properly rewarded.

Investors specialising in distressed assets would play a significant role in providing liquidity to lenders and would bring restructuring experience to the process.

But only the government can ultimately supply the massive growth capital required and only it has the power to create the expediting restructuring entity that will be needed to make this happen.

Speed is essential so there must be power to override regulatory roadblocks. It is also essential that tax burdens are not applied to the cancellation of indebtedness, for this would inhibit successful restructurings.

Capital relief for lenders who make concessions to enable a restructuring may also be required.

However, it’s critical that this new government entity is formed with a sunset provision, ensuring it is a temporary entity. It should be in existence for only the time necessary to complete the crisis restructurings and the time required to successfully sell to the market the interests received by the government entity in exchange for growth capital investments. It’s appropriate to accept extraordinary government involvement in the economy to resolve a crisis, but otherwise the practice is best left to the marketplace. The risk otherwise is that a powerful government bureaucracy is created that lives on forever.

There is precedent for such a recommendation. Japan created the Industrial Revitalisation Corporation of Japan in 2002 to unleash the growth potential of a great number of overly indebted companies. The IMF led this effort for many countries during the Asian crisis. The United States also created this type of entity to save the auto industry in 2009, when it launched its Presidential Task Force for the auto industry.

Time is of the essence. Planning and communicating this concept must start today.

Those countries who do this early and successfully will be the first to emerge from this painful, economic crisis and answer to the desperate needs of their citizens.

https://ftalphaville.ft.com/2020/05/20/1589972113000/Why-a-restructuring-strategy-is-needed-to-save-jobs-and-growth-/

It looks like the shareholders will be wiped out and that allowed Opiod claimants will become the new shareholders.  Set forth below are the terms of the Restructuring Support Agreement:

In connection with the Chapter 11 filing, the Company has entered into an RSA that provides for a financial restructuring designed to strengthen the Company’s balance sheet and reduce its total debt by approximately $1.3 billion, improving the Company’s financial position and allowing the Company to continue driving its strategic priorities and investing in the business to develop and commercialize therapies to improve health outcomes.

Parties to the RSA include:

• Holders of approximately 84% of the Company’s guaranteed unsecured notes;
• 50 states and territories; and
• The court-appointed plaintiffs’ executive committee representing the interests of thousands of plaintiffs in the opioid multidistrict litigation¹ (“Opioid MDL”), which has agreed to recommend that the more than 1,000 counties, municipalities (including cities, towns and villages), Native American tribes and other opioid claimants in the Opioid MDL support the RSA.

Under the terms of the RSA, at the end of the court-supervised process:

• All allowed First Lien Credit Agreement Claims, First Lien Note Claims and Second Lien Note Claims are expected to be reinstated at existing rates and maturities;
• Holders of allowed Guaranteed Unsecured Note Claims are expected to receive their pro rata share of $375 million of new secured second lien notes due seven years after emergence and 100% of New Mallinckrodt Ordinary Shares, subject to dilution by the warrants described below and certain other equity;
• Trade creditors and holders of allowed General Unsecured Claims are expected to share in
• $150 million in cash; and
• Equity holders and non-guaranteed unsecured noteholders are expected to receive no recovery.

Amended Proposed Opioid Settlement

The Company has reached an agreement in principle on the terms of an amended proposed settlement that would resolve opioid-related claims against Mallinckrodt and its subsidiaries and eliminate billions of dollars in alleged liabilities. The amended proposed settlement is supported by a broad array of opioid plaintiffs as detailed above.

Under the terms of the amended proposed settlement, which would become effective upon Mallinckrodt’s emergence from the Chapter 11 process, subject to court approval and other conditions:

• Opioid claims would be channeled to one or more trusts, which would receive $1.6 billion in structured payments.
  • $450 million would be received upon the Company’s emergence from Chapter 11;
  • $200 million would be received on each of the first and second anniversaries of emergence; and
  • $150 million would be received on each of the third through seventh anniversaries of emergence with a one-year prepayment option at a discount for all but the first payment.
• Opioid claimants would also receive warrants for approximately 19.99% of the Company’s fully diluted outstanding shares, including after giving effect to the exercise of the warrants, exercisable at a strike price reflecting an aggregate equity value of $1.551 billion.
• Upon commencing the Chapter 11 filing, the Company will comply with an agreed-upon operating injunction with respect to the operation of its opioid business.

Copies of term sheets outlining the terms of the RSA and the amended opioid settlement, as well as materials with additional information relating to the Company and its Chapter 11 filing, are available on www.advancingmnk.com. The term sheets and additional materials are expected be filed as an exhibit to a Current Report on Form 8-K with the U.S. Securities and Exchange Commission tomorrow.

Resolution of Certain Acthar Gel-Related Matters

Mallinckrodt has reached an agreement in principle with certain governmental parties to resolve certain disputes relating to Acthar Gel. The agreement in principle is conditioned upon Mallinckrodt entering the Chapter 11 restructuring process. The Company has agreed to pay $260 million over seven years and reset Acthar Gel’s Medicaid rebate calculation as of July 1, 2020, such that state Medicaid programs will receive 100% rebates on Acthar Gel Medicaid sales, based on current Acthar Gel pricing. Additionally, upon execution of the settlement, the Company will dismiss its appeal of the CMS Medicaid rebate ruling currently pending in the U.S. Court of Appeals for the D.C. Circuit. The settlement would resolve the CMS Medicaid rebate dispute, the associated FCA lawsuit in Boston and an FCA lawsuit in the Eastern District of Pennsylvania relating to Acthar’s previous owner’s interactions with an independent charitable foundation.

Mallinckrodt expects to complete the settlement over the next several months, subject to Bankruptcy Court approval.

So over the last couple of months I’ve had my eye on Dave and Busters stock (PLAY) – which closed at $16.04 today Oct. 7th (exactly 6 months ago it was at $14.68 so it really hasn’t been doing much. I vacillate between the idea that once a vaccine/new president/stimulus is announced that all of these economic recovery stocks are going to fly… however I believe that this virus is going to keep popping up in hotspots and we will see continued business and school shutdowns that will continue to cripple restaurants and the travel related industry well into 2021. I think that once there is a vaccine, not everyone will get it and I also think that people have a different way of looking at the world now and they are being more risk averse in the activities that they choose to engage in in general. Are people going to be ok with touching all of the same videogames and basketballs that others have touched? Although I can appreciate a good ringpop and a plastic bracelet  after spending $100 in an hour there, I think Covid might put the nail in the D&B coffin.

I think an easier strategy when looking at bankrupt companies is to look at their peers… because they must all be experiencing a similar level of contraction as well. So that’s how I’ve stumbled onto PLAY, as we’ve watched Chuck E Cheese and Ruby Tuesday file for bankruptcy recently. Now if I were a betting woman (and I am) I’d bet that Dave and Busters probably goes bust. no pun intended. It may take another 6 months but I can see it happening. Or maybe it doubles.. who knows.. More importantly, how can I trade this? As a gamble I would buy puts on this that expire in January $2021 with a $10.00 strike. $16 to $10 is a pretty big move, especially when you consider that it has recently been upgraded by a couple of analysts recently, but if anything were certain in life we’d all be rich. I’d love to hear any thoughts on this.   Check out this report:

DaveBuster’sEntertainmentInc_Oct_04_2020_PLAY 

Joscelyn 

DBRS, Inc. (DBRS Morningstar) assigned ratings to the Commercial Mortgage Pass-Through Certificates, Series 2015-HBS issued by Hudson’s Bay Simon JV Trust 2015-HBS as follows:

— Class A-FL at AAA (sf)
— Class B-FL at AA (low) (sf)
— Class C-FL at BBB (sf)
— Class D-FL at BB (low) (sf)
— Class E-FL at B (low) (sf)
— Class X-2-FL at BB (sf)

— Class A-7 at AAA (sf)
— Class B-7 at AA (low) (sf)
— Class C-7 at BBB (sf)
— Class D-7 at BB (low) (sf)
— Class E-7 at B (low) (sf)
— Class X-A-7 at AAA (sf)
— Class X-B-7 at AA (sf)

— Class A-10 at AAA (sf)
— Class B-10 at AA (low) (sf)
— Class C-10 at BBB (sf)
— Class D-10 at BB (low) (sf)
— Class E-10 at B (low) (sf)
— Class X-A-10 at AAA (sf)
— Class X-B-10 at AA (sf)

DBRS Morningstar did not assign a rating to Class X-1-FL as the class reached its stated and legal maturity in August 2016 and is no longer receiving interest payments.

DBRS Morningstar has placed all classes Under Review with Negative Implications, given the negative impact of the Coronavirus Disease (COVID-19) on the underlying collateral. Additionally, the loan is currently in special servicing as the servicer is pursuing litigation against the Borrower. The current ratings assigned by DBRS Morningstar do not carry trends.

These certificates are currently also rated by DBRS Morningstar’s affiliated rating agency, Morningstar Credit Ratings, LLC (MCR). In connection with the ongoing consolidation of DBRS Morningstar and MCR, MCR previously announced that it had placed its outstanding ratings of these certificates Under Review–Analytical Integration Review and that MCR intended to withdraw its outstanding ratings; such withdrawal will occur on or about October 13, 2020. In accordance with MCR’s engagement letter covering these certificates, upon withdrawal of MCR’s outstanding ratings, the DBRS Morningstar ratings will become the successor ratings to the withdrawn MCR ratings. Information about the MCR ratings, including the history of the MCR ratings, can be found at www.morningstarcreditratings.com.

On March 1, 2020, DBRS Morningstar finalized its “North American Single-Asset/Single-Borrower Ratings Methodology” (the NA SASB Methodology), which presents the criteria for which ratings are assigned to and/or monitored for North American single-asset/single-borrower (NA SASB) transactions, large concentrated pools, rake certificates, ground lease transactions, and credit tenant lease transactions. For further information on the NA SASB Methodology, please see the press release dated March 1, 2020, at www.dbrsmorningstar.com. On April 24, 2020, DBRS Morningstar placed the ratings on its outstanding SASB transactions secured by retail properties Under Review with Negative Implications while MCR placed the ratings on its outstanding SASB transactions secured by retail properties Under Review Negative as the global shelter-in-place and mandatory retail closures related to the coronavirus have contributed to retail bankruptcies and anticipated vacancies in retail centers. For further information on these rating actions, please see the DBRS Morningstar press release dated April 24, 2020, at www.dbrsmorningstar.com and the MCR press release dated April 24, 2020, at www.morningstarcreditratings.com.

To assign ratings to this transaction, DBRS Morningstar considered both the impact of the updated NA SASB Methodology and its scenarios attributable to the ongoing coronavirus pandemic on the ratings.

Because of the coronavirus’ significant impact on retail performance, DBRS Morningstar first considered the application of the updated NA SASB Methodology in conjunction with the “North American CMBS Surveillance Methodology” to arrive at a baseline result, which incorporated qualitative assumptions, capitalization rates, and loan-to-value (LTV) ratio sizing benchmark quality/volatility adjustments and excluded any potential changes in current or future expected asset performance resulting from the coronavirus.

DBRS Morningstar then overlaid scenarios incorporating additional reductions in net cash flow (NCF) to account for exposure to bankrupt or closed tenants. This resulted in stressed collateral value declines consistent with the projections in its “Global Macroeconomic Scenarios: September Update” published on September 10, 2020, on top of the baseline result to determine the impact of coronavirus-related changes in asset performance on the subject transaction on a tranche-by-tranche basis. For more information on these stress scenarios, please refer to the Coronavirus Impact Analysis section of this document. The global macroeconomic scenarios include a moderate decline of 15% for all commercial real estate (CRE), which acts as an average for all CRE property types. However, DBRS Morningstar expects a greater range of value decline for retail properties, ranging from 10% to 45% based on the type of tenant composition, exposure to bankrupt or challenged retailers, asset sponsorship, and asset location. DBRS Morningstar expects that lower-tier regional malls with in-line sales generally less than $300 per square foot will be the most affected.

LOAN/PROPERTY OVERVIEW
The transaction consists of an $846.2 million first-mortgage loan secured by 34 cross-collateralized properties leased to 24 Lord & Taylor stores and 10 Saks Fifth Avenue stores located across 15 states. The collateral properties represent 19 fee-simple ownership interests (64.1% of the pool balance) and 15 leasehold interests (35.9% of the pool balance), totaling 4.5 million square feet (sf). Individual tenant storefronts are located in various malls and freestanding locations with a concentration in New Jersey and New York, totaling 15 stores across the two states. The loan includes a $149.9 million floating-rate Component A that had a two-year initial term and three one-year extension options and has now passed its final maturity; a $371.2 million fixed-rate Component B with a seven-year term; and a $324.9 million fixed-rate Component C with a 10-year term.

The loan is sponsored by a joint venture between Hudson Bay Company (HBC) and Simon Property Group (SPG). Whole loan proceeds of $846.2 million, SPG equity of $63.0 million, and implied equity of $609.5 million from the contribution of HBC’s then-owned properties financed the acquisition of the properties for $1.4 billion and funded tenant improvements totaling $63.0 million. The portfolio is 100% leased to Lord & Taylor and Saks Fifth Avenue on two master leases with 20-year initial terms and six five-year extension options for each store. The operating leases are fully guaranteed by HBC.

In 2019, HBC sold the Lord & Taylor brand to Le Tote, a subscription-based online women’s clothing rental business and sold the flagship Lord & Taylor store on Fifth Avenue to WeWork for $850 million. In connection with the sale of the brand, HBC retained ownership of the real estate and reportedly agreed to pay the Lord & Taylor rent for three years; however, the collateral lease obligations are fully guaranteed by the firm. In January 2020, HBC ownership went private with the acquisition of minority shareholders’ interests.

In April 2020 the loan transferred to special servicing and SitusAMC (Situs), the special servicer, discovered that the loan’s Operating Lease Guarantor was subject to a post-privatization corporate restructuring that appears to have taken place in March 2020 without lender consent. In May 2020, the lender filed litigation against the Borrower in federal court in an effort to obtain documentation and knowledge regarding the activities affecting the Operating Lease Guarantor. The lender has not been able to obtain sufficient documentation and transparency to accurately assess the Operating Lease Guarantor’s current creditworthiness. Situs alleges that HBC violated loan covenants and related guarantees and that the entity that guaranteed the rental payments no longer exists. Additionally, Situs asserts that the financial strength of the Operating Lease Guarantor was a key consideration in the funding and structure of the loan and that the corporate restructuring has likely materially reduced the financial strength and capabilities of the Operating Lease Guarantor.

The loan remains outstanding for the April 2020 and all subsequent debt service payments and as of July 2020, Component A reached its final maturity date after the third and final one-year extension option matured. According to the servicer, HBC stated that it intends to secure refinance capital to pay the loan in full; however, Situs has also accelerated the loan and is prepared to initiate foreclosure proceedings, if necessary. The current financial condition of HBC is unknown, but the retailer is facing the same pressures currently experienced by all department store chains including a changing retail landscape, which has been exacerbated by the current coronavirus pandemic. In August 2020, the firm withdrew a potential $900 million bond offering to raise capital after investors reportedly required a higher interest rate than the firm was willing to pay.

At issuance the portfolio was valued at $1.4 billion; however, updated appraisals commissioned by HBC in connection with privatization plan produced an aggregate portfolio value of $1.235 billion, representing a decline of -11.8%. Furthermore, the aggregate dark value for the portfolio was determined to be $723.4 million; although, the special servicer disputed these valuations when they were disclosed in December 2019. As Lord & Taylor filed for bankruptcy in August 2020 and all stores will be liquidated, DBRS Morningstar analyzed the individual November 2019 appraisals, calculating an aggregate go-dark value of $298.7 million for the Lord & Taylor stores. Combined with the aggregate as is value of the Saks Fifth Avenue stores of $540.3 million, the total portfolio value totals $839.0 million (LTV of 100.9%); however, DBRS Morningstar opines that the true value of the collateral is likely lower today.

DBRS Morningstar derived the NCF using the latest reported servicer NCF with an adjustment, considering the unknown financial condition of the Sponsor and Operating Lease Guarantor in addition to the current retail landscape. The resulting NCF figure was $101.1 million and DBRS Morningstar applied a cap rate of 9.5%, which resulted in a pre-coronavirus DBRS Morningstar Value of $1.06 billion, a variance of -24.1% from the appraised value of $1.4 billion at issuance. The pre-coronavirus DBRS Morningstar Value implies an LTV of 79.6% compared with the LTV of 60.4% on the appraised value at issuance.

The cap rate DBRS Morningstar applied is at the higher end of the range of DBRS Morningstar Cap Rate Ranges for anchored retail properties, reflecting the current unknown financial condition of the Sponsor and Operating Lease Guarantor in addition to the uncertain strategy to backfill the 24 Lord & Taylor stores securing the loan.

DBRS Morningstar made no qualitative adjustments to the final LTV sizing benchmarks used for this rating analysis.

CORONAVIRUS IMPACT ANALYSIS
DBRS Morningstar overlaid various scenarios incorporating higher NCF declines, resulting in stressed collateral value declines consistent with the projections in the “Global Macroeconomic Scenarios: September Update” (https://www.dbrsmorningstar.com/research/366542) to estimate the impact of coronavirus-related changes in asset performance on a tranche-by-tranche basis for the subject transaction. The scenarios included deducting cash flow for Operating Lease Guarantor concerns, bankrupt retailers, and increased vacancy expected across the portfolio to arrive at a coronavirus DBRS Morningstar Value under the moderate scenario, a 25% reduction from the pre-coronavirus DBRS Morningstar Value. Because of the more permanent value impairment resulting from the lost tenancy revenue stream, DBRS Morningstar’s analysis considered this value when assigning ratings.

Under the moderate scenario, the cumulative rated debt was insulated from loss.

We’re currently on pace to exceed the number of filings during the peak of the Great Recession in 2010. I expect that many more will file after the holiday season, especially those with antiquated e-commerce operations and heavy debt loads. 

https://www.bdo.com/insights/industries/retail-consumer-products/retail-in-the-red-bdo-bi-annual-bankruptcy-upd-(4)?utm_source=morning_brew

2

Click the link at the bottom

During the first couple of days in class we briefly discussed litigation funding, which is the advancing of funds to law firms in exchange for a portion of the proceeds from litigation or arbitration. The key feature of litigation finance is that recourse is generally limited to the proceeds of the litigation/arbitration award or settlement, meaning that, the funded party only pays the litigation funder if the party successfully wins or settles its case. This has been a growing field in the investment industry as people are looking to diversify their portfolio of stocks and bonds as it doesn’t have a strong correlation to the overall markets. I stumbled upon this deck from LexShares that I think does a great job of explaining how it works. These guys are looking for a minimum commitment of $250k which I know is steep but this deck gives you a good starting point for how to understand the space. I’m invested with a company that does Pre-settlement funding that is very similar to this but I didn’t want to be super cheesy and post that deck so take a look at this one. 

Joscelyn

Binder1[5752]

Here is the restructuring case of Scandinavian Airline System (SAS), the largest airline in the Nordics. In the end the governments of Norway and Sweden had to step with significant capital in to save the company. The presentation gives a fairly detailed description of how the restructuring will be done. It gives a European perspective on a “voluntarily” restructuring that is fairly different from Chapter 11 under US legislation.

Investor-presentation-Revised-Recapitalization-plan

The podcast below pertains to distressed investment opportunities in the lower middle market (LMM), herein defined as businesses with up to $20 million in EBITDA:

The New Normal for Distressed Investing: https://www.axial.net/forum/the-new-normal-for-distressed-investing/

Changes made to Subchapter V in the CARES Act have created an interesting opportunity in for unsecured credit investments in small businesses. 

Importantly, Subchapter V eliminates the “absolute priority rule” – this would ordinarily be a major credit negative.

Despite the recent economic downturn, we are not seeing bankruptcy filings that are in-line with the numbers associated with larger businesses. This is especially interesting because subchapter V is intended to lower the direct cost of bankruptcy proceedings for small businesses. 

So why aren’t small businesses filing and what are the investment implications regarding subchapter V?

There are significant disincentives associated with bankruptcy for small businesses, despite the stipulations in subchapter V. Subchapter V may lower direct costs of a chapter 11 proceeding, but it does not account for the indirect costs of bankruptcy, such as frictional costs associated with customer or vendor arrangements. The magnitude of these frictional costs disincentivizes LMM businesses from pursuing filing under subchapter V. 

The disincentive to file under subchapter V, which is not credit-friendly, creates an opportunity for unsecured lenders. Subchapter V protects secured lenders and allows pre-bankruptcy control parties to retain control through the proceeding, wiping out unsecured creditors; however, this risk is partially mitigated by frictional costs of bankruptcy. This dynamic gives unsecured creditors an opportunity to lend on better terms and benefit from protection provided by the incentives of  distressed small business owners.

I received an interesting quote from Bloomberg on one of the big term American Dream bonds (7% 2050) which last traded at 87 and implies a yield of 8.16.  So, the question is, what price entices you to buy this bond (if at all)?