Restructuring Interview Question
Hi Monkeys,
I got a quirky question in one of my interviews and wanted to hear your thought process / approach on the below question:
"A company is about to go into liquidation. The enterprise value of the company is $1 billion and there is face value $600 million of senior secured debt (with 1L on said assets) and $500 million of unsecured debt outstanding where you can buy secured for 80 cents on the dollar and unsecured for 50 cents on the dollar. Which one do you buy and why?"
I am thinking you would go for the unsecured as its mispriced (it should be $0.80 on the dollar)?
I would approach it as follows, $1B EV and $1.1B of outstanding debt between the First Lien Senior Secured and the Unsecured. Buying the 1L tranche will cost you $480mm, whereas buying the unsecured will cost you $250mm. Note that $100mm ($1.1B outstanding debt - $1.0B EV) of the unsecured debt will be impaired. Doing simple math if you buy the 1L tranche ($600mm face value), for $480mm, and you get paid off in full (which you should with a $1B EV), you'll get a 1.25x MOIC (600/480), whereas if you buy the unsecured ($500mm face value, but $100mm is impaired so $400mm recovery) for $250mm, you get a 1.6x MOIC (400/250). Buy the unsecured.
Was this in a RX HF interview or RX banking interview?
Thanks for the clear explanation!
It is for a special situations fund, more PE type (vs HF) as they do loan to owns
Makes sense - best of luck with the process.
The way I see it is like this:
1) We are in a liquidation, which means the asset value is fundamental
2) At first, it seems that both options are worth to buy: senior secured should be 100 and trades at 80 (return potential of 25%) and unsecured trades at 50 but should be 80 (return potential 60%)
3) Is it really mispriced or does it reflect the risk that the EV might be lower in the liquidation? Consequently, you would argue that the assets must decrease in value by 52% until you would realize a loss with the senior secured debt (which is a lot)
I would probably opt for the senior secured debt because it seems like a decent risk-adjusted return potential. Of course if the EV is said to be true and can be realized in the liquidation I would go for unsecured because of the higher return potential, but the current pricing indicates uncertainty about the asset value
I don't have a problem with this take. On static EV the correct answer is to buy the unsecureds, on a risk-adjusted basis, not just inclusive of potential swings in EV but also form of recovery consideration, I'd opt for the secureds.
Sick thanks
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