Wolf Richter wolfstreet.com, www.amazon.com/author/wolfrichter
Here’s how a soon-to-be bankrupt company that’ll default on all its debts can still borrow $5.5 billion.
PG&E, the largest gas and electric utility in California, announced on January 14 that the holding company, PG&E Corporation, and its regulated utility subsidiary, Pacific Gas and Electric Company, would file for Chapter 11 bankruptcy “on or about January 29, 2019.” The announcement disclosed that PG&E was negotiating with four unnamed banks to line up $5.5 billion in “Debtor-in-Possession” (DIP) financing to fund the company through the bankruptcy process.
Now PG&E disclosed that on January 21 it has secured a commitment by four banks — JPMorgan Chase, Bank of America Merrill Lynch, Barclays, and Citigroup — for this $5.5 billion in DIP financing.
The package will include a $3.5-billion revolving line of credit, a $1.5-billion term loan, and a $500-million delayed-draw term loan.
Money from this DIP financing will not become available until after the company files for Chapter 11 bankruptcy, and until after the bankruptcy judge approves the DIP financing package.
But PG&E’s credit ratings have been axed from investment grade before January 14 to deep junk now and will be cut to default with the bankruptcy filing. This sudden destruction of its credit rating has locked the company out of the short-term credit market, and it can no longer fund itself.
In order to survive until the bankruptcy filing, the company needs new liquidity. So it announced that on January 21 it entered into a debt commitment letter with JPMorgan for a senior secured bridge loan of $250 million, with a term of six months. Collateral will be the Utility’s accounts receivable.
PG&E can start borrowing under this facility as soon as the deal is closed and before the bankruptcy filing. This allows PG&E to hang on until the bankruptcy filing.
But this bridge loan, though disclosed simultaneously with the DIP financing, is separate from the DIP financing and doesn’t involve a bankruptcy filing or a judge’s approval. It’s a classic loan from a bank to a distressed company with good assets.
So what is DIP financing? How can a company that is about to default on all its debts and obligations even qualify for an additional $5.5 billion in debt? And why would banks be nuts enough to do it?
These are very timely questions, as a coming wave of bankruptcy filings by over-indebted Corporate America is shaping up on the horizon. Bankruptcy is a profit opportunity for an industry specialized in it. This includes the biggest banks, bankruptcy lawyers, restructuring advisory firms, and others. They’re already licking their chops.
So here we go, step by step, using PG&E’s disclosure as guideposts.
Collateral for DIP loans: Everything ahead of everyone else.
In its SEC disclosure, PG&E said that borrowings under DIP financing “would be senior secured obligations of the Utility, secured by substantially all of the Utility’s assets and entitled to superpriority administrative expense claim status in the Utility’s bankruptcy case.”
In other words, this DIP financing would be more senior than the most senior existing debt, and would be secured by all of the Utility’s assets. If PG&E collapses and ends up being liquidated in bankruptcy court, the four banks providing the DIP financing would get practically all of the Utility’s assets, including that rotten utility pole eight feet from our balcony, likely dating from over 100 years ago. I’m not sure the finely clothed bankers would want it.
In other words, for banks this type of loan is fairly low-risk, though things can go wrong, and then they end up having to run an unpopular utility with lots of exposure to wildfires on the other end of the country.
How long will that $5.5 billion keep PG&E afloat?
The DIP financing would mature on December 31, 2020, and can be extended to December 31, 2021, “if certain terms and conditions are satisfied.” So it would be for two years, and maybe three years.
PG&E expects the bankruptcy process to last “approximately two years,” but if it drags out, PG&E can extend the DIP financing for one more year “at its option.” So there’s some breathing room.
As PG&E emerges from bankruptcy — possibly as a new entity with new shareholders that might include some of its stiffed creditors — it will be able to obtain regular funding and can pay off the DIP financing.
Why are banks doing it?
“The Utility will pay customary fees and expenses in connection with obtaining the DIP Facilities,” it said because, yes, this stuff is a profitable activity for banks, involving lots of fees and interest income.
Closing and a judge’s approval.
The closing of the DIP financing is still subject to “among other conditions”:
- “Execution of definitive documentation”; so some details still need to get done.
- “Approval by the Bankruptcy Court.”
The DIP financing becomes part of the bankruptcy filing and will become one of the early things to be dealt with. In a bankruptcy without DIP financing, PG&E would likely be liquidated in a fire sale. So it’s in nearly everyone’s interest to get this done, though some creditors might squeal, but hey, they’re already squealing loudly because of the bankruptcy filing.
But this approval process might drag on for four to six weeks, as PG&E expects, and it will be burning through its $250 million bridge loan in no time. So there is a quicker “interim” part, and then the rest:
PG&E would seek interim approval of the DIP Facilities, and availability of a portion of the DIP Revolving Facility in the amount of $1.5 billion, at an interim hearing in the Bankruptcy Court shortly after its filing of the Chapter 11 cases on or about January 29, 2019, and final approval, and availability of the remaining amount of DIP Facilities in the amount of $4.0 billion, at a final hearing.
PG&E is unable to predict the date of the final hearing but expects it to occur within 30 to 45 days after the petition date.
The alternative to DIP financing:
If the judge does not approve the DIP financing, the four banks will not be out any funds because PG&E cannot actually borrow under the DIP package until after the judge approves it. In other words, if the judge refuses to go along, the four banks will be fine but PG&E will run out of cash shortly thereafter and will likely be broken up and its pieces sold off in bankruptcy auctions, which could get messy. But this is highly unlikely, knock on wood.