The pace of corporate restructuring has accelerated. GM, Chrysler, Lyondell, General Growth Properties and Thornburg Mortgage have all filed for bankruptcy in 2009 and are in the all-time top 20 largest public bankruptcies (Assets). We will see many other large companies follow them. The auto companies are receiving the most press, but there are dozens of large leveraged companies that are being overwhelmed by the difficult operating environment.
Despite some indications that the pace of economic decline is moderating, we expect that the operating environment for companies will continue to be very difficult for most corporations. The litany of headwinds includes pervasive deleveraging, uncertain access to capital and anemic spending. Distressed debt investors have a virtual feast of items on the distressed menu. The question is: how to choose among the menu items?
We are pursuing a strategy of focusing on good companies with bad balance sheets. The corollary is avoiding bad companies with bad balance sheets. We define good companies as those that have a defendable market share and can produce operating income even in very difficult economic times. Two examples are Univision and Six Flags. Univision was taken private in an LBO announced in June of 2006. The buyers paid approximately 12.6 billion or 16 times 2006 EBITDA. In keeping with the times, copious amounts of debt were used to fund the purchase. At the end of 2008 Univision total debt was in excess of $10 billion.
Univision is the leading U.S. Spanish language television network covering 96 percent of all U.S. Hispanic households. Univision also owns and operates 67 radio stations which include 16 of the top 25 Hispanic markets. The company has a huge valuable franchise and a growing audience. However it has not been immune to economic weakness. 2008 revenue declined 2.5 percent from 2007 and is marginally lower than 2006 revenue. Despite efforts to cut costs, EBITDA also declined in 2008 and is lower than 2006 EBITDA. Performance has substantially underperformed the optimistic projections used to support the transaction in 2006.
Univision is a survivor with a valuable franchise, but its debt and interest expense are overwhelming the company’s income generation. We believe that a restructuring is inevitable. Unsecured bond holders are likely to suffer significant haircuts as secured debt of over $8 billion is as much as the company can reasonably support and even term lenders may need to accept equity for debt reduction.
GM and Chrysler are two examples of bad companies with bad balance sheets. There is no need to rehash the painful history of these two companies. The key point is that there is substantial overcapacity in the auto industry and neither company had differentiated themselves to support their bloated balance sheets. Unsecured bondholders are getting very little and Chrysler secured debt is quoted at 27 cents on the dollar.
Over the next several years, there will be a wave of bankruptcies caused by the credit excess of the 2004-2007. Many of these companies will disappear or restructure as substantially smaller entities. It is important to recognize these and either short them or avoid them.
Steve Persky co-founded Dalton Investments with Jamie Rosenwald in 1998. He oversees U.S. operations for Dalton Investments LLC and serves as risk manager. Click here for his profile.
