The threat of starkly differentiated treatment between creditors party to a cooperation agreement is becoming a reality as Medical Solutions’ proposed LME closes, prompting firms to think harder about whether coveted seats in creditor groups are worth the potential trade-offs.
For New York-based CLOs, hedge funds, and secondary buyers outside of the inner steerco circles, the alternative is to join a minority creditor group, and it’s probably being advised by Cadwalader.
Wall Street’s oldest law firm — which employs over 400 lawyers across its US, UK, and Ireland offices — has generally operated outside the wave of major US restructuring deals. But in the last two months, it’s won at least eight minority group mandates (although one cohort holding SonicWall debt recently disbanded) after boosting its creditor-side restructuring practice with the hire of Shai Schmidt in New York and Jakeob Brown in London.
Along with Schmidt’s hire from Glenn Agre, the firm brought over three creditor representations and gained a handful more, including minority lender groups holding Mercer International and Oldcastle BuildingEnvelope’s term loans. It’s also working with a crossholder minority group to Xerox as creditors discuss a potential discounted debt exchange to push out maturities.
Most recently, Cadwalader was hired by a handful of HoldCo lenders to Brightline, Wes Edens’ Florida rail operator which is likely headed toward an in-court restructuring of its municipal and corporate debt.
One member of the Brightline minority group told 9fin the majority group closed itself off to new members after securing a controlling position in the capital structure, allowing it to negotiate an LME that would benefit lenders within the group.
“If you have 95% of the group and you’re only screwing over 5% of the group, then you’re really not gaining much in terms of economics,” they said. “You want the minority group as big as possible so you can screw over as many people as possible, and get as much value for yourself as possible.”
Cadwalader has also formed groups with creditors who sat out — or were shut out of — three of the most aggressive cooperation agreements 9fin has tracked. The pacts amongst creditors to CDK Global and Foundever allow for unlimited carve-out premiums for steering committees, while Medical Solutions creditor agreements allows for specific tiers of economic treatment for various tranches of co-op participants.
The new terms have made some firms wary that they may get boxed into a structure where the steerco could negotiate a non-pro rata deal, prompting some to break away and join another group.
While some sources say the increased flexibility is just precautionary — in place to preserve optionality and ensure a workable transaction can be structured — Medical Solutions’ proposed LME shows why certain lenders might be considering splintering off.
The Gibson Dunn-drafted co-op allowed for, but didn’t require, up to four tiers of economic treatment — a shift away from traditional pacts that compensate participants on a pro rata basis.
While the deal has not yet closed, proposed terms involve a more than 20 point gap between steerco and non-steerco co-op participants, according to sources, showing that the threat of differentiated treatment is no longer theoretical.
The deal involves $125m of new money backstopped by the steerco, and parties are still negotiating, according to sources. No terms have been announced yet.
Co-op evolution
The increasingly restrictive nature of today’s co-ops marks a sharp contrast with the creditor fights Schmidt handled in the past, where he represented minority groups in restructurings including Saks Global, Physician Partners (formerly Better Health), Oregon Tool, and Quest Software.
“The need for excluded lender representation has continued to grow recently given the evolution of cooperation agreements and the enhanced flexibility secured by certain steering committees,” Schmidt said. “Whether or not to join such a co-op can be a difficult decision for a lender, and we regularly advise our clients on this issue.”
A source speaking to 9fin said complex capital structures are more likely to give rise to split lender groups, particularly where debt is spread across bonds, loans and multiple layers of the capital structure.
For example, a group made up solely of first-lien lenders may have little incentive to include creditors that hold second-lien positions and are more likely to push for value to be distributed across the stack.
“When lenders face a non-pro rata deal, it’s critical that they fully understand their rights under the credit agreement,” Schmidt said. “We have helped secure many good outcomes for our clients by analyzing the relevant contractual protections in each situation and leveraging them as we engage with the company.”
Cadwalader announced a proposed merger with Hogan Lovells in December, a tie-up that would create the world’s fifth-largest law firm by revenue and expand its ranks to roughly 3,100 lawyers.
Hogan Lovells has cited Cadwalader’s financial restructuring practice as one of the firm’s nationally recognized strengths, with a creditor-side focus that is well suited to banks, private credit funds, multi-strategy investors and CLOs — CLOs being the core client base Schmidt advises both in and out-of-court.
For him, part of the pull to join the firm was the potential to grow his practice past excluded lender group engagements.
“When you combine my deep relationships in the CLO world with my current and future partners’ stellar reputation and connectivity in the financial arena, I expect that our practice will continue to grow and expand far beyond where it is now.”
