On Sept. 12, Cloud Peak Energy (CLD) launched an exchange offer for its two series of outstanding bonds: the 8.5% Senior Notes due 2019 and the 6.75% Senior Notes due 2024. The company offered to exchange up to $400 million face amount of these “Old Notes” for new 12.0% Second Lien Notes due 2021 and, for those tendering early, a small amount of cash.
Under the terms of the exchange, for each $1,000 face amount of 8.5% Notes, Cloud Peak is offering $840 face amount of new 12.0% Second Lien Notes due 2021 and, for those who tender prior to Sept. 27, $53 in cash. Similarly, each holder of $1,000 face amount of the 6.75% Senior Notes will receive $632 of 12.0% Notes plus $40 in cash, with an early tender date. Those tendering after Sept. 27, but before the exchange offer expiration date of Oct. 12. will get the 12% Notes but no cash.
The exchange offer is conditioned upon the tender of at least $200 million of the 8.5% Senior Notes. So if Cloud Peak gets the maximum $400 million of Old Notes to tender, it could end up issuing as much as $378.4 million of 12% Notes, if all of the 8.5% Senior Notes tender, or as little as $294.4 million of 12% Notes, if only the minimum amount of 8.5% Notes tender. (Cloud Peak could conceivably issue less than $294.4 million of the 12% Notes, if less than the maximum $400 million of Old Notes tenders.)
This looks like a great deal for holders of the 8.5% Notes. Those who tender early will take a 10.7% haircut to principal, but they will end up with notes that in theory will have priority over all of the old unsecured notes. The 12% coupon on the new notes will also provide them with more interest income than they were receiving from the 8.5% Notes.
The switch into the 12% Second Lien Notes does not, however, guarantee that tendering bondholders will get priority over the remaining unsecured notes in a bankruptcy. In all of the coal bankruptcies thus far, there has been no benefit from a second lien position when the first lien debt holders are impaired. In that case, the second lien notes are treated as unsecured. Since the 8.5% noteholders are only taking a 10.7% haircut, however, there should be little downside risk to exchanging their notes.
The exchange offer is not nearly as favorable for the 6.75% note holders. For them, the haircut is 32.8% of face value with an early tender early and 36.8% of face value otherwise. Clearly, Cloud Peak is focused on getting as many of the 8.5% note holders to tender as possible, because those notes mature just a little more than three years from now on December 15, 2019, By swapping them into the 12% Second Lien Notes, the company (and the banks) will get an extra two years of breathing room.
Speaking of the banks, Cloud Peak announced simultaneously with the exchange offer that it had agreed to a series of amendments to its revolving credit facility. Among them: The banks have agreed to drop the EBITDA test in favor of a minimum liquidity covenant (set at $125 million). The maximum permitted debt has been increased by $350 million to accommodate the new 12% Notes. Other covenants, such as permitted investments, asset sales and restricted payments have also been revised. The overall size of the revolving credit facility has been reduced from $500 million to $400 million; but the maturity date of the facility is unchanged at August 19, 2019.
Had the EBITDA test on the existing credit agreement remained unchanged, availability under the revolving credit facility would probably have been cut by the third or fourth quarter of 2016. After Cloud Peak’s surprisingly strong second quarter results and management’s reaffirmation of its 2016 guidance, I had thought that the company could squeak through the balance of the year without a cut in borrowing availability. However, the expected rebound in weekly U.S. coal production has been disappointing so far, which suggests that Cloud Peak’s financial performance will continue to be challenged in the third and possibly the fourth quarters (and maybe even into 2017). As a result, the company has taken prudent steps to amend its revolver and pursue the debt exchange offer now in order to preserve its borrowing availability, despite the $100 million cut to the revolving credit facility.
Given their earlier maturity, the 8.5% Notes are clearly the focus of this exchange offer. Cloud Peak has offered 8.5% noteholders a much better deal to encourage their participation. The offer for the 8.5% Notes looks attractive, given the only modest cut to principal, the granting of the second lien position and the bump up in interest rate.
However, the exchange offer is not so attractive to holders of the 6.75% Notes. In that case, noteholders are being asked to take a 33%-38% haircut in exchange for a shorter maturity, second lien position and higher interest rate. Gaining a second lien position will only be advantageous in a bankruptcy filing if the court finds that Cloud Peak’s valuation is sufficiently high to cover all of the first-lien debt’s claims and accrued interest. Otherwise, the tendering 6.75% noteholders will end up as unsecured creditors anyway but with reduced claims.
I might consider tendering my bonds, if I had a low cost basis in the 6.75% Notes; but I would probably skip the exchange, if I had bought the bonds near par. Alternatively, I might consider participating in the 6.75% Notes exchange, if the company sweetened the offer with equity.
September 16, 2016
Stephen P. Percoco
Lark Research, Inc.
839 Dewitt Street
Linden, New Jersey 07036
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