This Time Around, Bondholders May Only Get 10 Cents On The Dollar


Bondholders usually do better than most other creditors in bankruptcy proceedings. The upcoming wave of bankruptcies is unlikely to be kind to such bondholders. They already face limited recoveries from companies that filed for bankruptcy.

According to Caroline Salas on on April 23, however, New York-based Fitch Ratings reports that, instead of receiving the historical average recovery of 42 cents on the dollar, in a default situation, bondholders of a third of high-yield, high-risk bonds rated B+ or lower may receive no more than 10 cents on the dollar. Another 22 percent are likely to only get 11 to 30 cents.

“When leverage was so ample, private equity firms were able to buy companies at multiples that didn’t make sense,” said James Keenan, who is co-head of leveraged finance at BlackRock Inc. “Most people use the assumption senior unsecured bonds are going to recover 40 percent. I don’t think you’re going to see that,” Keenan advised.

Bondholder recovery rates have become more crucial as the U.S. economy slows. According to court records compiled by Jupiter eSources LLC, Chapter 11 business bankruptcies rose 16 percent in the first quarter. Last week, Moody’s Investors Service said that the number of companies at risk of running out of cash is the highest since at least October 2002.

The Merrill Lynch High Yield Distressed Index has increased from $4.8 billion to $206 billion over the past year. Moody’s predicts defaults will quadruple to 5.9 percent in 12 months.

Bond investors such as Pacific Investment Management Co. and Capital Research & Management Co. may pay the price for allowing themselves to be subordinated to junk-rated companies, which borrowed a record $2.2 trillion in bank loans over the past three years. Unsecured creditors of companies like Fedders Corp and Buffest, Inc. have lost almost all their money, as lenders lay claim to the companies’ assets. Standard & Poor’s predicts a similar fate may be in a store for Burlington Coat Factory Warehouse and Univision Communications.

More battles between loan and bond investor may be in the offing as defaults rise. Typically, these fights have been reserved for subordinated bondholders, who rank behind bank lenders and senior note holders. As noted by Andrew Rahl, a commercial restructuring and bankruptcy attorney, that in this cycle the inter-creditor fights “will have moved up a level in the priority chain.”