On ACAS' Debt

The comments on the last ACAS post have gotten long enough they deserve their own separate discussion. Imperator posted that (a) mark-to-market accounting changes should improve ACAS' NAV, but (b) creditors' power to accelerate payment under unsecured lines of credit could threaten ACSA, so (c) the ACAS bonds (which he noticed increasing in value) look attractive.

First, ACAS' bonds. If there seemed a liquid market for the things, I'd have bought. I have been informed the volume is so bad that when I ask, there are no offers. I easily believe other brokers make it easier to get quotes on "junk bonds" but mine apparently does not. But I'm not exactly overwhelmed with angst over missing them. Why? The bond holders aren't the ones with the right to accelerate, and though they are unsecured creditors like the banks offering ACAS lines of credit (in default not from nonpayment but by the technical terms of the line of credit, which require ACAS to maintain a minimum tangible net worth), bond holders would not be entitled to quicker repayment than provided in the terms of the indenture, which places their due date after the date of an acceleration demand. In short, it looks like these bond holders would be paid last among the unsecured creditors.

That doesn't exactly scare me, though; after all, I more-than-doubled my own ACAS holdings with a purchase at $1.80 after appreciating the current state of ACAS' recently-renegotiated unsecured line of credit. Why is that? First, the Trump principle: when you owe $1,000 and you can't pay it back, you have a problem ... but if you owe $1,000,000,000 and you can't pay it back, your bank has a problem. With the new mark-to-market rules in particular, a bank's power to make its balance sheet look good while ACAS is making regular, timely, quarterly payments in full of the amount due that quarter is much better than if the bank announces an impossible-to-meet acceleration and has to admit in its next quarterly filing that a previously performing asset was in fact now not being paid at all. Second: ACAS' management hasn't received any guarantees or waivers, but apparently has an understanding that the best thing for it and its creditors is to pay "default-rate" interest but remain free of acceleration demands. The banks get to declare timely payment and get a higher rate from a borrower with apparently solid interest coverage, which is much perfarable to the alternative.

Supposing an acceleration demand, though ... think about it. This isn't a margin call gone bad, in which ACAS' broker liquidates its account the next day. The only people who can sell ACAS' illiquid assets (which ACAS holds, not a broker) are ACAS' people. Liquidation won't happen any faster than ACAS can cause orderly sale, unless a bankruptcy trustee attempts a fire sale, which is definitely not in the interest of creditors, who want to be paid. Remember, ACAS' debt-to-equity doesn't leave the unsecured creditors with a lot of room if sales prices don't meet valuation levels. So the people in charge of the liquidation (if any) would almost surely be ACAS personnel, by agreement of the creditors and debtor in bankruptcy.

Once you see the eventual seller is ACAS itself and not a bankruptcy trustee, one must ask why the bank would bother to drag ACAS into bankruptcy in the first place. And there's your answer: as long as ACAS continues to offer attractive interest coverage, its lender banks probably prefer receiving default interest to the prospect of having to find another solvent borrower.

Thus, I agree with ACAS' management: acceleration demand isn't on the immediate horizon. Moreover, the right to demand acceleration isn't the power to make ACAS' illiquid assets suddenly liquid, so the effect of an aceleration demand isn't likely to aid the banks much, making it relatuvely unattractive. (If ACAS' assets were liquid and easily sold for full value by a bankruptcy trustee, this might be different, but they're not.)

Thus, I don't see a special reason the ACAS bonds are a better deal than the ACAS equity, unless one needs current income. The appreciation on the bonds on maturity will be nice -- but so will the appreciation of ACAS shares as share prices approaches NAV on the normalization of the markets in the same couple-of-years time frame in which the bonds would mature.

Yes, I wanted to buy the ACAS bonds for a triple on maturity plus interim interest, but I couldn't without work -- and I have enough work already, than you. Maybe in the future when I have time to rearrange my finances, I'll work out another solution for making my trades, and use a platform that will quote me all the weird CUSIPs on which I inquire. TD Ameritrade isn't it.

I think the bonds are a good deal. I think the equity will prove better, though of course the equity will lose in the event of insolvency. In the event of the catastrophic destruction of ACAS -- which I'm betting against, based on its ability to service debt; and I continue to be attracted by the likelihood of entering very nice deals in this distressed market -- people buying bonds at these levels probably will get their money back even if the company dissolves in bankruptcy, as ACAS' debt ratio has been managed to remain low. The debt is a conservative bet, if you can get a quote -- and I'd have done it if it weren't so much work.

So Imperator is right on the bonds, but I don't think I'm necessarily agreeing with him on the ACAS bonds for the reasons he suggests it ;-) On the other hand, I disagree for the time being on acceleration as a cause for near-term panic, and suggest that it doesn't help bond-holders though, in bankruptcy they would likely get paid (though it might be worth looking at the relative priority of the banks and the bond holders; I haven't checked that out).