I will resist the opportunity to be self-congratulatory after the inevitable crash. I genuinely didn’t get crypto and its price drivers, therefore it was always uninvestible for me. As an old school value investor, I have missed out on plenty of profits in the past couple of years as a result.

I’m losing count of the ‘the highest in 40-years’ and back to the 1970s references in copy. I’m astounded how poorly FinTwit explains bond convexity to journalists — time for a 9fin Educational?

Events this week have even made this perma-bear think there could be pockets of value appearing — even allowing for the unprecedented turmoil and poor economic backdrop.

Crossover at 500bps anyone?

LaLiga SSNs at 7.125%?

Telecom Italia 2039 $SUNs at just under 10%?

One of the big market misconceptions was that if things got ugly, the Fed would panic, reverse QT and interest rate hikes. If the economy slowed, surely it would flake and exercise the Fed Put?

But in recent weeks, perhaps the opposite is happening.

Powell’s and other Fed governor comments have spooked markets and created volatility, with the sell-off’s themselves to some degree doing their work for them on tightening financial conditions. The bad news is that the starting point was extremely accommodative.

Credit Suisse’s Zoltan Pozner goes a step further: “there is a strong policy case for the Fed to inject volatility into markets in order to control domestic services inflation (and demand for labor more broadly) through asset prices — stocks, housing, and crypto assets too.”

He cites a speech from Bill Dudley on 6 April, the former President of Federal Reserve said that for rate hikes to be effective financial conditions must tighten a lot more, and if the broader market expects rate hikes to undermine growth and lead to rate cuts in 2024, financial market conditions mathematically won’t tighten on their own, so:

“The Fed will have to shock markets to achieve the desired response…to inflict more losses on stock and bond investors than it has so far.”

Zoltan neatly dubs this the Fed Call. I hope the term gets more widely adopted.

Retail in need of therapy

The sharp sell-off in the NASDAQ, S&P and other risk assets on Wednesday came from an unusual source. It wan’t another big tech miss such as Netflix, but a bricks and mortar retailer.

Admittedly, it was a big miss for Target whose earnings were very wide of the mark.

Despite beating stimulus fuelled 2021 revenues in the first quarter, growing by 2.4% YoY, its shares fell 25% as it divulged that its product costs had surged 10.4% in Q1. That’s not much you might say, but retailers run on paper thin margins. Operating income fell by 43% as margins almost halved to 5.3% from 9.9% a year earlier. It was not an isolated case, Walmart a day earlier saw SG&A costs rise by 4.5% and COGS by 3.5%, leading to a 23% drop in operating income.

You’ve got to love operating leverage. Even Amazon revenues are slowing to a more pedestrian 7%, their slowest since the Dotcom bust, amid warnings of soaring cost inflation for its retail biz.

And it is not just happening in the US. Coincidently, on the very same day, Benelux DIY retailer Maxeda saw its bonds drop sharply after a disappointing quarter, and according to investors on the subsequent earnings call (feel free to ask me for a copy) the outlook was even more gloomy.

In the fourth quarter (to end Jan), sales rose 2.2% — impressive given Dutch Covid-19 restrictions, but EBITDA fell by 51.4% YoY with gross profit margins falling by 6.7% to 35.6%. On a LTM basis adjusted EBITDA fell from €260m to just €203m. Cash flow generation, a bug bear for investors pre-pandemic as cash flow struggled to cover leases, once again turned negative.

Management were ‘evasive’ on margin development with lots of investor frustration on the earnings call, said one. They admitted that “last year was a very special year,” and that the right margin comparable was 2019. It was too early to say whether freight costs had eased, with confusion on whether management said this had or not been passed through. It has been a long week at 9fin Towers, but I still can’t compute their answers on supplier payment phasing.

If the bond price action is indicative of the investor mood, the sell-off intensified during the call. Analysts sell reports must of landed on their PM desks the next morning, with another leg down, as the chart above clearly shows.

With Maxeda’s bond yield approaching 12%, amid price pressure on other retailers such as Alain Affelou and Picard, it is not an ideal backdrop for Matalan, which must approach the checkout kiosk on its looming refi by the summer break. Opportunistic bond buyers were in store earlier in the year, as refi hopes rose and Goldman hosted a series of January meetings. As 9fin’s Lara Gibson notes, the shop floor appeal of Matalan has since faded, with distressed funds and restructuring advisors now taking an interest, tempted by hefty bond price discounts.

The Hargreaves family shareholders are working with Lazard and Paul Hastings to explore options, with an A&E or a soft form of restructuring most likely. It was previously hoped the debt was refinanceable if EBITDA hit £100m on sub 5x leverage, but the UK’s cost of living crisis and rising labour and logistics costs may have led to a declined transaction on the cards. Anyhow, Hargreaves may have maxed out on his store credit following a £135m bill from HMRC.

Matalan’s £350m 6.75% Jan 2023 senior notes are currently 84.5-mid to yield 33.8% and the £130m 9.5% Jan 2024 2nd lien notes at 74.6-mid (29.6%).

Kirsten Dumped

Apologies in advance, I had hoped this would be an Adler and German Real Estate free workout.

Spare a thought for the poor beleaguered Adler Group Chairman Stefan Kirsten, who has put himself in the firing line on conference calls with investors on multiple occasions in recent weeks.

Tuesday’s call was meant to be Adler drawing a line under its murky past and moving forward, with a governance update, outlining appointment of serious grown-up and reputable advisors.

Bring it on.

But late the previous evening, its Consus subsidiary — Kirsten had called it a problem child, the brunt of hurtful taunts from short-seller Viceroy Research — provided yet more embarrassment to its parent. Under German GAAP it posted a loss leading to negative equity, a serious offence under German law which would need to be rectified as a matter of urgency.

Measures to fix the negative equity would be cash neutral, said Kirsten, who added under questioning that this would be done via inter-company loans (most likely from Adler Real Estate).

It has been well documented in these pages, that the relationship between Adler and its auditors KPMG has been strained to put it politely. Firstly after a forensic audit from its Frankfurt office, highly critical of a number of related party transactions and valuations, and secondly a disclaimer of opinion from KPMG auditors in Luxembourg leading to disputes as to whether the FY 21 audit was completed, and in compliance with the bond docs.

KPMG would be retained as auditors said Kirsten under questioning on the call. The half-year report is more audit-lite and a review. “[After the disclaimer of opinion for the FY 21] There is a need to harden from January 2022, otherwise there will be no clean audit for FY 22,” he said.

But just over an hour after the call finished, with perfect timing, Kirsten was dumped by KPMG:

Not long afterwards, Kirsten issued his own statement, in which he said:

“This decision by KPMG comes as a great surprise to us and is disappointing as well as irritating. We, and by that I mean all members of the Board of Directors of our Company, have had "very professional discussions" with those responsible at KPMG in recent weeks, just as I stated in good faith this morning.”

Later in the statement he said:

“It is important for us to emphasize once again that Adler Group certainly had its discussions and disagreements with the forensic department of KPMG during the special investigation, because the timely publication of our 2021 consolidated financial statement was jeopardized by the temporal sprawl of the special investigation. This would have led to a breach of bond conditions, which we had to avoid at all costs in the interest of the company and its stakeholders. However, and completely independent of this, is the fact that we had worked very professionally with the KPMG auditors and wanted to continue doing so.”

He concluded:

“In this respect, we very much regret the decision by KPMG. The fact that I misjudged KPMG's clear indications of a continuation of the cooperation this morning, which I thought were certain, is my responsibility.”

Oh, I nearly forgot, I still need to update you on the advisor appointments.

PJT Partners will undertake “a more detailed cash flow analysis” and have a dialogue with the market and stakeholders. They are known for their restructuring advice, but this is not a restructuring process, stressed Kirsten, who added they would look at all the alternatives.

A Bloomberg story from last night that it was exploring a debt for equity swap was ‘wide of the mark’, he said. “I told their journalist that it was one of many alternatives.”

PwC would look at compliance measures against best practice.

Oaktree puts on Aggregate accumulator?

Last week, we offered a teaser as to what might be going on at Aggregate Holdings, and more specifically at its VIC Properties Portuguese subsidiary. Events this week and a confirming scoop from Bloomberg, lead us to speculate that a very smart trade may have been put on by one of World’s cleverest distressed investors. A nice three-way accumulator.

“We understand a chunk of the VIC converts was bought by a distressed RE player, who might be motivated to do a deal with the company, or even finance a take out.”

To recap, VIC Properties convert holders have exercised their put option which allows them to demand repayment at 114%. Aggregate has talked about a VIC refinancing transaction, which suggests that collateral might need to be granted at its Portuguese subsidiary’s level, or stakes sold to raise cash. But time was running out, it only had until 28 May to make the payment.

9fin’s Emmet Mc Nally took an extensive look at Aggregate earlier this week. Focusing on the announcement that it would sell its most valuable asset, Quartier Heidestrassse — a 230k sqm mixed-use Berlin development close to the railway station. With two liquidity events in quick succession could it meaningful de-lever and avoid default?

VIC Properties converts were trading at 85-90, a significant discount to the 114 put price reflecting considerable doubt it would be able to refinance, as Aggregate’s senior bonds languished in the 40s. Remember, it is a cross-default if they were unable to meet the VIC put.

So, it wasn't a surprise that after conversation with VIC Properties bondholders, a consent solicitation was launched this week to amend the T&C’s of the bonds.

(i) an extension of the first optional put date from 28 May 2022 to 28 September 2022;

(ii) an additional call option which grants the Issuer an ability to redeem the VIC Bonds at any time by giving notice;

(iii) an increase in the redemption price of the VIC Bonds payable upon repayment;

(iv) the accession of Aggregate as guarantor to the VIC Bonds, the Trust Deed and the Agency Agreement in respect of the payment obligations of the Issuer under the VIC Bonds.

With Bloomberg outing Oaktree as the buyer of the converts, we can construct a scenario for the distressed funds trade.

As I shared internally yesterday evening:

“Great trade, buy the converts at 85/90, exercise put at 114. Aggregate cannot pay, so you negotiate an extension for a higher exercise price and get further guarantees at Agg level…Agg is struggling to refi - so has to sell its best development asset in Berlin - which they could turn around or bridge to sell…if only there was a giant RE fund investor who might be interested in buying or providing finance! The timeline is end Sept, Oaktree literally has a win, win, win.”

Meanwhile, holders of Aggregate Holdings bonds are feeling less smart, dropping back below 40, to 32.5-mid at time of writing. As my ex-colleague Gabe DeSanctis would say “there is strong support at zero.”

Consolis-dated financials; Food for thought

Surging cost inflation, the nature of contracts and companies ability to renegotiate contracts are a common theme in recent weeks.

At the risk of once again being called Harry Hindsight (surely the world’s greatest trader) I will remind regular readers of my shorts Elior, Consolis and Ontex (I hoped you covered in the low 80s before AIP’s approach), companies with a high degree of fixed price contracts on longer terms and significant pass through lags coupled with high energy costs.

Consolis management were only marginally better than Maxeda in their responses to analyst questions. EBITDA margins in its largest West Nordics segment turned negative (to -3.1% from 3% a year earlier). To mitigate, the France-based precast concrete forms producer is increasing the number of new contracts with indexation clauses, but significant lags in lead times for existing contracts are likely to see margins and EBITDA decline further in coming quarters, before an expected improvement in Q4.

Net leverage is now 5.2x, compared to 3.3x at the launch of its 5.75% 2026 SSNs last May. Cash levels ‘are clearly a bit tighter than expected,’ admitted management. But after drawing €55m under their RCF — despite further expected cash outflows in Q2 and Q3 — it should be enough to tide them over until Q4 where cash inflows are historically strong. The SSNs fell by around a point on the earnings release and dived another four-points during the conference call which began at 9am GMT, and are last seen at 79.2-mid.

Elior, the France-based catering and facilities manager, has bought itself some time with a covenant holiday granted by its RCF lenders until next March. The springing covenant leverage test is set at 7.5x, compared to current net leverage of 11.4x LTM to March 2022, the first half of the 2022 fiscal Year. The half year was affected by Omicron lockdowns and cost inflation, with Elior posting negative adjusted EBITA of €16m, and a free cash outflow of €59m. The group says it hopes to be near breakeven in Adjusted EBITA for the full year.

In November, in the Friday Workout we said that Elior was previously seen as low risk with high predictability of revenues (almost infrastructure like), and strong renewal rates, albeit with very low margins. We added that FCF was minimal with leverage approaching double-digits.

“It is suffering from cost inflation pressures and is trying to pass these on, but over 40% of contracts are on an annual basis, and in a traditionally low-margin business, failure to do impacts the bottom line. Add in uncertainty with regards to hybrid working and changing patterns of work, it may never get back to 2019 levels. The bonds are yielding 3% (yes, really), I have no appetite to dine at these levels.”

Fast forward six-months and group LTM EBITDA is only slightly higher at €107m. The bonds are now quoted with an 84-handle and yield around 8.3%. 

Elior says its number one priority is to push through price rises with its customers, but management admits that with the vast majority of its contracts are on a P&L basis [pricing determined in advance on a per meal basis, which is periodically adjusted] rather than cost plus, “these are more difficult to renegotiate.”

They further explained that although most contracts have index clauses, these are computed on past numbers and would therefore give no benefit. The onus is on Elior to go back and ask for 5-7% increases, they added. All contracts have now been reviewed, with around 22% falling below “satisfactory profitability levels” and 37% successfully renegotiated, of which 52% are in the US and 35% in the UK. Just 1% have been voluntarily terminated by the company, however.

In case of Fire - Break Glass

Adding fuel to the flames, Russia’s invasion of Ukraine has compounded the problems caused by the Romanian plant fire for Frigoglass in June 2021. On a conference call yesterday (19 May) the Greece-headquartered refrigerator and glass bottle maker confirmed engagement with Milbank and Perella Weinberg Partners (PWP) to advise on further liquidity needs to cover short term debt and working capital buildup caused as a result of supply chain curbs.

They declined to say whether they would be engaging with bondholders, just stating the generic “they are assessing all options.”

Q1 22 EBITDA for the refrigerator segment contracted by 76.6% YoY mainly due to a precipitous rise in transportation costs, steel and energy cost inflation, and the inability of the Russian plant to fill in for the lost Romanian capacity amid sanctions.

Frigoglass is cash-strapped with more than €60m of short term debt and only €59m of cash as of Q1 22, down from €79m at FY 21 mainly due to a build-up of inventories. As reported, €30m of the short term debt sits at the Russian entity and a non-payment of €15m in aggregate will result in a cross default on the €260m 6.875% SSNs due 2025.

Preliminary cash figures were announced during the call. As of April 22, total cash was €67m, o/w €26m is held outside Nigeria. Management confirmed a €15m minimum cash liquidity need outside of Nigeria, and that they upstreamed a dividend from the Nigerian asset in April. Cash outside Nigeria was €17m as of Q1 21, however we do not have visibility on cash flows during April in order to deduce the likely quantum of the upstream.

Once again, reflecting the prevailing market mood, following the earnings call, the recent sell off intensified. The €260m SSNs dipped by six points to the mid-50s and were indicated at 56.25-mid (STW of 31.4%) later that afternoon.

Other 9fin content

With two new hires — a warm Friday workout welcome btw to Bianca Boorer and Lara Gibson — a plethora of beauty parades for number of issuers, plus updates on stressed loan issuers, it was a bumper week for 9fin content.

Apologies for the brevity — the workout is already an extended one — if you want to know more about any of these following sits please drop me a line or ask for a trial.

A few days late (we are told due to a last minute back and forth over fees and economics between CoCom head, Apollo and other lenders) Schur Flexibles finally delivered its restructuring plan mostly based on the lender proposal.

Up to 25% of the SFA debt will be reinstated and up to 35% for the supplier credit facility (SCF). The reinstated debt will receive 45% of the economic upside, with the remainder (55%) going to the providers of the €150m new money facility, of which €60m will be available as an interim facility to be drawn from 6 June, and the remainder to be funded at closing. The larger percentage reinstatement of the SCF is due to structural seniority arising from claims against Schur’s Polymer Sourcing subsidiary

Orpea — back from the grave? The French care home operator said it had reached an ‘Agreement in Principle’ with its banks to provide a new €1.733bn syndicated credit facility despite ongoing investigations into malpractices and negligence. The new money comes after a tumultuous few months for Orpea during which CEO Yves Le Masne was dismissed following allegations of abuse detailed in Victor Castanet book Les Fossoyeurs (The Gravediggers) and its annual net profit plunged 59% due to costs associated with the ongoing investigations. But later in the week, there was a fresh scandal as Investigate Europe reported that it had uncovered a fraud involving several of Orpea’s managers and an obscure LuxCo called Lipany.

A high court injunction was recently secured by BRG the managing general partner of NOAL SCP (formerly Novalpina) to stop Ares from selling Laboratoire XO, 9fin’s Bianca Boorer reported. BRG is seeking to restore ownership of the French Healthcare group to Novalpina after Ares took control last week. According to the Financial Times, Ares refused to extend a change of control waiver under a €150m loan it lent to LXO (€100m drawn). The change of control was triggered by the US consultancy firms appointment to take over the running of Novalpina’s investments.

9fin’s educational series has been a huge hit, and Schenck Process’ announcement that it was selling its mining business would have had many reaching for our piece on asset sale covenants. Christine Tognoli, our co-head of European Leveraged Loan Research reviewed the docs, and if 2023 bondholders are hoping for early repayment, it is an Unsure Schenck Redemption. If you are not a client but would like a copy of this report, please complete your details here.

Corestate didn’t disclose which financial advisors it had hired on its update call last week. We subsequently discovered that Rothschild and Weil are company side on financials and legals.

One of our objectives is to provide more information on stressed loan names. In total we have 27 borrowers trading between 85 and 92, which we view as stressed. Two for you this week:

Holland & Barrett saw its Q1 22 EBITDA tumble by 25% YoY in the first quarter. Worst still, the UK health foods producer and retailer rejected a lender request for an updated business plan and more regular communication. Lenders have appointed Latham, with plenty of other pitches and appointments in the last few days. With uncertainty over Russian sponsor LetterOne many have exited, despite loans trading into the 60s. But interested distressed funds may have to wait for a default, before buying, given the presence of a whitelist.

GenesisCare has told lenders that a A$100m capital increase and the divestment of its cardiovascular business are going ahead according to plan and will be finalised by the end of June. The Australian-headquartered network of oncology and heart disease clinics was hurt by the pandemic. As containing and treating Covid-19 patients became a priority, new diagnoses fell and hospital procedures were postponed. EBITDA fell 36.8% in the six months to December 2021, with US business EBITDA falling by around 50%.

Cash burn remains high, with past delays in stakeholders injecting new money heightening nervousness amongst lenders. A series of sale-and-leasebacks though have raised cash for the business. Leverage has risen into double-digits and with a high fixed cost base, buysiders are concerned whether the company can grow sufficiently to sustain its current capital structure.

What we are reading this week

While rising gas bills and cost of living grab the headlines, something strange is happening in Natural Gas markets, with wholesale prices in the UK the lowest in 18-months. There is so much gas coming in via LNG ports we are struggling to ship it to Europe via existing pipelines, writes Sky’s Ed Conway in his excellent Twitter thread. Here’s an idea, rather than focus on windfall taxes, lets nationalise the surplus and sell it on.

Supply chains are stretched, but can’t always be blamed, Michael O’Leary certainly thinks so in this amazing rant against Boeing.

The latest rout in tech prices has led to Uber thinking about free cash flow and SoftBank having a Damascene conversion and becoming cautious on investments. Martin Peers thinks this is down to concerns in appeasing bondholders

Lots of speculation and column inches about the future of the Twitter deal after Elon Musk tweeted he was putting the acquisition on hold due to bots and posting poop emojis to the CEO.

But most observers missed the important release of disclosures on the deal — he lied several times about his intentions in filings with the SEC — as Matt Levine outlines in Money Stuff. Musk bought more stock after speaking to the board about the merger much earlier than previously thought, and filed his

14.9% holding ten days late — material information that sellers at the time could subsequently use to litigate.

He also filed as a schedule 13G, “not acquired the securities with any purpose, or with the effect, of changing or influencing the control of the issuer.”

Looking forward to how this plays out with the SEC — the deal is already secondary to the theatre surrounding it.

Finally finished the excellent Kleptopia by Tom Burgiss - any book suggestions for what I should read next?