Case Study Debrief: Distressed Debt Restructuring, Verso Corp. part four. The final option would be to do a liquidation. In this situation, we would take each asset on the balance sheet and apply a recovery rate to each. Now, in some situations, this is relatively straightforward to do. For example, it's easy to say how much the value of cash is. However, it's likely that any cash in the business will have already been spent. It's also straightforward for monetary assets like accounts receivable, but remember, you won't necessarily be able to liquidate them immediately so even then you would have to apply a slight discount. When it comes to things like inventory, it's quite tricky. There are several kinds of inventory. There's raw materials, there's work in progress, and then there are finished goods. Work in progress tend to be worth nothing, and even raw materials might be difficult to sell in certain sectors, so you're really just looking at finished products. And even then it's likely you'll have to apply a high discount to them. When it comes to fixed assets, again, the picture is pretty unclear. If it's a factory in an urban environment that's very specific to the industry, there would be a very high discount rate for that. However, if it's real estate in an urban area, you might be able to get a much higher price for that particular asset. Intangibles, unless they're very easily sellable, like a patent, would be very difficult to extract value from. Goodwill, of course, would be completely worthless in a non-enterprise value transaction. So the overall picture is very unclear and it can be very difficult to assess the liquidation value of the assets. As a consequence, it's usually the liquidation case that gives you the worst value. Lastly, when sorting out a business which has too much debt, you've also got a factor in costs of liquidating, and that will include professional advice, taxation. And in addition to that, there may be court costs as well, and those will reduce the liquidation proceeds. Now let's take a look at the actual situation with Verso. In this case, we're splitting the structure into senior secured debt and then all the other claims. As discussed, it's typically the senior facilities which are going to do the best in any restructuring. And normally, the revolving credit facilities and the senior term debt like the A, B, and C will all be pari-passu. Now, they may have different claims on the collateral, but in terms of loan repayment, they have equal standing. So taking the revolving credit facilities first, we can see that they agreed to a maturity extension of one year. They also increased the interest rate to 5% and the revolving credit facilities got 16% of the equity on the emergence from restructuring. For the other senior first lien claims, such as the non-revolver bank loans, the maturity was extended by two years. The interest rate was hiked from 9.5% to 10%. Now, the interest rate wasn't agreed to all in cash. They agreed to have 3% in cash and 7% in PIK, or paid in kind, which means that it doesn't get paid in cash, it just gets rolled up into the balance of the loan. Some of the tranches of senior debt had an interest rate of 5% of cash and 10% of paid in kind. Plus these tranches all got 83.6% of the equity when they emerged from restructuring. So effectively, the revolving credit facilities and the senior first lien claims ended up owning the business. They had to extend their maturity, but they ended up earning all the equity. When you take a look at the other claims, the second priority notes, they all got wiped out. Now, you're probably asking why on earth would they agree to get wiped out? Well, the alternative would be a liquidation in which case they would most likely get wiped out there as well. So it's a situation where if you're low down in the capital structure and you have very little influence, you might as well just get out sooner rather than later. Most of the driving of this restructuring is going to be done by the senior lenders. There are cases where the subordinate tranches will just hold out if they feel the assets can generate enough to bring them cents on the dollar, then they won't agree to a restructuring. And in those situations, sometimes they will get a few scraps thrown to them just to vote for the restructuring to happen.

Here we can see that the revolving credit facilities of roughly 350 million and the senior secured lien claims of 1.78 billion translates into an enterprise value assuming that the remaining debt and the equity is worthless of around 2 billion. This compares to the liquidation value which we calculated previously of under a billion dollars at 859.8, as well as the debt capacity we calculated of around 614 million. So typically the restructuring option is going to give you the best result for the creditors. Now let's take a a look at the liquidation. So we're assuming in this case that the liquidation proceeds are the 859.8. What would happen? So here, the revolving credit facility and the senior first lien claims are pari-passu. In other words, that 859 is going to get divided on a pro rata basis to those lenders, which in this case is about 40.3%. The other lenders get wiped out, which is effectively why the revolving credit facility and the senior first lien lenders end up owning the business. Now, we know that the senior debt capacity over a seven year period is about 614 million, which we did in the debt capacity analysis. So it's highly likely that if we have an overall capital structure of 2 billion of the revolving credit facility and the senior first lien, that there's going to have to be some further refinancing at some point in the future, because it's simply too much debt for the company to maintain. But that is a refinancing and not necessarily a restructuring. It's likely that in that case they would be redeeming the debt not from repaying the debt with cashflow, but repaying the debt with a future refinancing.

In summary, we've looked at three options. Debt capacity shows this company is clearly cashflow constrained, and at best we'll need to refinance any new borrowing since there isn't enough cash to repay existing debt. Hopefully, better days are to come. An alternative is to do a fire sale, but typically if you do a fire sale, it will be very difficult to get a reasonable value because you're selling to people who know you're desperate and that's because you're selling the business in a fire sale. And because you're selling the business in a fire sale, there's generally no goodwill. Liquidation usually happens when the business is unprofitable and there's no scope or reason for it to be a going concern in the future. Liquidation usually happens when the business is unprofitable and there's no hope for it to be a going concern in the future. Liquidation is usually the last option and it most always is the worst option for all of the stakeholders of the company. As we can see from the case study writeup, the reality for Verso was bankruptcy, which it filed for in January, 2016 and emerged from successfully in July of 2016, which is a relatively short bankruptcy period. Verso's restructuring reduced the company's debt by 2.4 billion, and it included 595 million in exit financing to support the ongoing operations and capital investment post bankruptcy. The exit financing consists of an asset backed lending facility with borrowing capacity of up to 375 million and a 220 million term loan facility with available loan proceeds of 198 million. Stock for Verso began trading again on the New York Stock Exchange on July 18th, 2016. So all in all, a very successful restructuring.