That Sinking Feeling — Lessons Gleaned From Recent Maritime Bankruptcies
Bankruptcies of major shipping companies over the last few years have furnished guidelines for conducting a successful reorganization and restructuring. Blank Rome’s Stephen T. Whelan and Marc E. Richards identify a few pitfalls and positive lessons to be gleaned from these recent cases.
Recent years have witnessed several bankruptcies of significant shipping companies, and some observers have contended that more restructurings and bankruptcies of shipowners and charterers loom on the horizon. This article will describe some successful tactics in recent cases and warn against others that are likely to siphon cash and cause unnecessary and unwarranted delay.
Instead of posing “What went wrong?” this discussion will begin with the General Maritime (GenMar) reorganization cases, which commenced with the filing of Chapter 11 petitions on November 17, 2011. GenMar is one of the world’s leading providers of international seaborne transportation services for crude oil and refined petroleum products, owning and/or operating a fleet of 33 vessels. By 2011 the oil tanker industry suffered an extraordinary downturn resulting from, among other things, a considerable decrease in global demand for crude oil transportation services and the oversupply of oil tankers. The GenMar cases along with TBS, infra, were handled most efficiently and are striking examples of how Chapter 11 can accomplish a negotiated end game, to restructure a company’s indebtedness, enhance its viability and lead to a confirmed Chapter 11 Plan.
The secured lenders with first preferred ship mortgages (Lenders), GenMar, along with Oaktree Capital (including affiliates, Oaktree) (a secured creditor with a third lien on the debtors’ vessels) and a significant shareholder, worked collaboratively as storm clouds threatened GenMar’s solvency. These parties negotiated and crafted a pre-negotiated plan of reorganization (Plan) which included a disclosure statement, lockup arrangements with the existing Lenders, and a debtor-in-possession financing from Oaktree (Plan Documents).
Most importantly, and as part of the Plan, GenMar obtained a significant post-bankruptcy financing commitment from Oaktree. GenMar’s Plan provided for $175 million in new money from Oaktree and the proceeds of a $61.25 million rights offering. Along with the significant pay down of pre-petition secured claims, the Plan provided for the conversion of certain unsecured claims into equity. General unsecured claims were paid through a pro rata share of newly issued warrants or, in certain instances, were eligible to qualified participants in a rights offering.
The Plan Documents wisely provided for ordinary course foreign trade vendors to be paid, with bankruptcy court approval. This was a strategic decision: rather than being viewed as siphoning cash from the debtors, this approach was meant to prevent vendors, with liens under maritime law, from exercising their remedies, arresting the related vessels and hence endangering the opportunity for an effective reorganization.
Unsecured bondholders (Bondholders) and other unsecured creditors were not treated as advantageously as those with potential maritime liens. Proponents of the Plan were not able to reach agreement with the Bondholders by the time that the Chapter 11 petitions were filed. However, the Plan provided a 120-day window for Bondholders to reach agreement. Failing agreement within that time frame, the automatic stay would be lifted, absent consent for a continuation by the Lenders, and the Lenders would be permitted to repossess their respective vessels. This timetable gave not only a reasonable time to achieve assent from creditors not already “on board” with the Plan, but also a limited time period during which the Lenders could feel comfortable that their vessels would not suffer a significant drop in fair market value. It was an effective “hammer” in eventually securing the support of the Bondholders. GenMar exited Chapter 11 on May 7, 2012, just short of six months after filing its Chapter 11 petitions.
Marco Polo Seatrade
In contrast to GenMar and its “soft landing” into Chapter 11, the Marco Polo Seatrade (MPS) reorganization filings were precipitated after the seizure of an MPS vessel by Credit Agricole (CA) in late July 2011. CA, along with another secured lender, Royal Bank of Scotland (RBS and collectively the MPS Lenders) each moved to dismiss the cases six weeks later on grounds of lack of jurisdiction. After a four-day trial, pretrial motion practice and discovery disputes, the bankruptcy court denied the relief, citing Bankruptcy Code §109 (11 U.S.C. §109), (“only a person that resides or has a domicile, a place of business, or property in the United States … may be a debtor under” the Bankruptcy Code) as the basis for its jurisdiction. The court found that MPS had property (funds) in a pooled account in New York City. The court also refused to lift the automatic stay which precluded the MPS Lenders from foreclosing and repossessing their respective vessels, reasoning that permitting such seizure would fatally preclude the opportunity to pursue a reorganization.
Marco Polo’s financial situation was dire. It had little or no equity in its vessels and its principal declined to invest further amounts. Approximately nine-plus months after filing the petitions and after MPS failed to attract a third party funder, the MPS debtors, the Lenders and the creditors committee negotiated a consensual plan of liquidation (Consensual Plan) under which the vessels were conveyed in short order to the respective MPS Lenders. The turnover to the MPS Lenders occurred eleven-plus after the July 2011 bankruptcy filings and only after they had expended approximately $15 million between cash collateral usage (including professional fees of the debtors and the creditors’ committees) and their own professionals’ fees in the fruitless pursuit of alternative remedies.
One little-known feature of the Consensual Plan was that it was negotiated to obtain assent of the unsecured creditors. There was little, if any, value in the vessels pledged to the MPS Lenders above the amount of the indebtedness. Consequently, and as a centerpiece of the Consensual Plan, unsecured creditors insisted upon receiving sufficient cash to fund a liquidating trust in order to pay a modest distribution to unsecured creditors. The funds came from MPS’s free cash and a portion of the MPS Lenders’ cash collateral.
TBS International Limited (TBS)
Founded some 20 years ago, TBS provides ocean transportation services offering worldwide shipping solutions to a diverse client base of industrial shippers. Prior to bankruptcy, TBS operated liners, parcel and bulk transportation and time charter services, supported by a fleet of 41 multipurpose tweendeckers, handy size and handy max bulk carriers.
TBS’s business, not unlike many shippers and charterers, was adversely affected by the overall slowdown of the global economy, the attendant downward pressures upon freight rates, increased fuel costs and industry overcapacity coupled with a lack of liquidity in the credit market. Further, and again not unlike other shippers, the debtors’ existing capital structure required TBS to make interest and amortization payments in amounts and time frames that simply could not be supported by plunging freight rates during the worldwide cascade of commodity prices.
With much work beforehand, on February 6, 2012, TBS filed a prepackaged Plan of Reorganization (Plan), Disclosure Statement and appropriate settlement and restructuring agreements with four separate lending groups. TBS also filed as part of its first day pleadings a motion to approve DIP financing along with an agreed to motion to use cash collateral.
The TBS cases were on an extremely accelerated track. This kind of “rocket docket” can only occur when the significant parties in interest are all on board. The Plan provided that all general unsecured claims, including trade creditors, would be paid in full, and thus unimpaired. As such, this decision eliminated the risk of an objection from unsecured creditors; being unimpaired, unsecured creditors were deemed to have accepted the Plan. (See Bankruptcy Code §1126(f).) If the unsecured debt is minimal, this is a tactic worth considering by a debtor and its secured lenders. Also, such treatment obviates the requirement by the U.S. Trustee for the appointment of an unsecured creditors committee whose expenses would be paid by the debtor’s estate. It is an analysis worth making.
Pursuant to the Plan proposed by TBS, the several secured lending groups were consolidated into a single group that would effectively be the primary lenders to the Reorganized TBS. The Plan provided that the DIP facility, $41.3 million, would be paid on the effective date or refinanced pursuant to the exit financing from the single lending group. As a result of the financial restructuring contemplated by the Plan, Reorganized TBS would be able to take advantage of market opportunities to sell vessels, along with retaining the ability to replenish the fleet.
The TBS Plan was approved on March 29, 2012, a mere seven weeks after the petition date. TBS, much like GenMar, was another instance where the principal parties — the debtor and secured creditors — effectively and efficiently used the tools found in Chapter 11 to restructure and appropriately recapitalize the Reorganized TBS.
Overseas Shipping Group
OSG filed for Chapter 11 reorganization on November 14, 2012, shortly after its 8-K filing a month before announced a restatement of financial condition. The 8-K made it inevitable that OSG would file; the only question was when. OSG’s schedules reflect stated assets of $4.1 billion and liabilities of $2.7 billion. Only two lending facilities are designated as secured, totaling less than $580 million. The remaining debt is all classified as unsecured, including the maxed out $1.5 billion revolver, two bond series totaling $452 million and $66 million in debentures.
The substantive first day pleadings addressed stabilizing OSG’s operations, such as use of cash collateral, permission to pay foreign pre-petition vendors that could assert maritime liens (similar to GenMar, TBS and Marco Polo), and continuation of ordinary and customary business practices. Unlike GenMar or MPS, OSG’s footprint in the vessel arena is also as a charterer of vessels. OSG, as a bareboat charterer, under long term contracts, is obligated to pay charter hire to each shipowner on a net, “hell or high water” basis. Its profit would derive from higher rents (Charter Hire) charged to users of the vessels under short term time charters. Under Bankruptcy Code §365 (11 U.S.C. §365), OSG, as a debtor, has the legal right to reject any burdensome bareboat charters (BBC). The standard applied by a bankruptcy court is the debtor’s business judgment, a standard easily satisfied.
In mid-February, the Internal Revenue Service (IRS) filed a proof of claim (POC) in the amount of $463 million for the accounting years 2004-2005 and 2009-2011. This amount is far beyond OSG’s public statement in its recent 8K that its potential tax liability spanned only the three year period 2009-2011. IRS’ claim is asserted as “priority,” meaning that it would need to be paid before holders of general unsecured claims under a prospective Plan. The IRS POC for the five subject years is qualified by the words “Pending Determination.” Although the IRS POC was hardly unexpected, the amount was certainly an eye opener. Chapter 11s routinely face speculation about “known unknowns.” When the liability is quantified, especially in amount and for a time frame so far beyond what was expected, it is hardly a welcome development. Ironically, the IRS POC was filed the very same day that it was revealed that Morten Arntzen departed OSG as CEO.
In early 2013, OSG filed a motion to streamline the procedures for rejection of burdensome or unprofitable BBCs. In late January, Bankruptcy Judge Peter Walsh issued an order that established the legal framework by which OSG can begin rejecting BBCs and other similar kinds of uneconomic contracts. It is more than abundantly clear that OSG is seeking to rid itself of uneconomic BBCs.
It is far too early to speculate what a prospective OSG Chapter 11 plan of reorganization would look like — whether OSG will sell portions of its operations, the Jones Act business, or some other portion — or whether it will seek to reorganize as a newly formed standalone entity.
Investors can derive several bankruptcy management measures from the experience with the above bankruptcies:
- Work with the debtor company and other major creditors before any bankruptcy filing. This ought to be feasible, given the number of vessel financing programs which are “club deals.” Coordination among the senior secured creditors, and with the shipowner or charterer, can lead to a pre-negotiated reorganization plan rather than infighting within the creditor groups.
- Use cost-benefit analysis to decide whether to skirmish over tangential issues. Some counsel, especially litigators, prefer to challenge the jurisdiction of the bankruptcy court, or even of United States courts generally. They reason is that lack of jurisdiction can be raised as a “knockout punch” by any party to the proceedings, or even the court on its own motion, and that establishing lack of jurisdiction at the outset avoids unnecessary costs and delay. But given that U.S. bankruptcy courts generally are willing to entertain jurisdiction, in light of the low threshold mentioned earlier under §109 if any perceived nexus is available, challenging jurisdiction usually is a fruitless, time-consuming, and costly tactic. Rather, providing the debtor with a short “runway,” as was done in GenMar, can be far more cost efficient and lead to a more prompt and less costly resolution.
- “Clean” financial statements can pave the way for a speedy, consensual reorganization. Sadly, examples abound of lenders which have discovered shipowner accounting irregularities that have compromised the parties’ ability to deal constructively and in good faith with each other. Verifying that the borrower’s records are in order can be a key first step in a productive reorganization.
- Do not analogize a first preferred ship mortgage with a first lien on real estate. The analogy is inviting, but fundamentally flawed. Vessels are more akin to a hotel. Vessels transport products or goods from point to point, a service. A hotel provides a room to a person, also a service during a short or intermediate time frame. Like hotel occupancy fees, UCC §9-102(G)(2)(vi) declares that charter hire of a vessel constitutes an “account.”
If you are a current investor in shipping assets or holder of a first preferred ship mortgage, bankruptcy does not necessarily mean catastrophe. To the contrary, the last few years have furnished some important guidelines for conducting a successful reorganization and restructuring.
Stephen T. Whelan (Financial Services) and Marc E. Richards (Bankruptcy) are partners in the New York office of the law firm Blank Rome LLP. The firm represented the official unsecured creditors’ committee in the Marco Polo cases and numerous creditors and parties in interest in the GenMar and OSG cases.