Buy Transocean’s Global Marine $300MM Notes at 90% (8.7% YTM). "Multiple DIP" bonds
Transocean is a large capitalization with $4BN equity and $9.5BN gross debt. This $9.5BN of gross debt is separated into $2.9BN secured Debt and $6.5BN of unsecured debt. Nearly all of the unsecured debt is issued by Transocean Inc. ("RIG"), however, there is a small $300MM issuance by Global Marine Inc. ("GLBL"). These are the 7% notes due 2028 and the bonds in focus. The opportunity exists to buy GLBL bonds at the same dollar price/yield as the RIG bonds, e.g., 90% dollar price / 8.7% yield, despite the GLBL bonds having a dramatically better collateral package that suggests they should trade at par or above par.
History of GLBL
The GLBL bonds were issued in 1999 when GLBL was an independent company. Since 1999 GLBL underwent a series of mergers where it ultimately became a subsidiary of RIG in 2007, without any benefiting from a parent guarantee of the GLBL bonds from RIG. During this period of time from 1999-2019, there were multiple asset sales, transfers and scrappage going on. The bonds were issued as investment grade bonds with limited covenants. Importantly and relevantly, the bond covenants did have a limitation on asset sales.
However, we had no investment disclosure on the assets in the GLBL box and how the transactions from 1999-2019 were effectuated given the limitation on asset sale covenant. For example, it is possible GLBL triggered covenants that would have required a make whole of its notes. Alternatively, it may be the case that the GLBL box has significant assets that replaced the prior assets which were sold/transferred/scrapped (e.g., cash or intercompany claims that arose from asset transfers).
A large distressed debt fund sued RIG in 2017 for breach of the indenture -- presumably to secure a make whole or settlement of the litigation.
July 2019 Settlement
The litigation was settled a few months ago. Instead of cash consideration to GLBL bondholders, RIG agreed to provide new disclosure of the assets in the GLBL box, today and annually going forward. Accordingly, RIG provided a snapshot of GLBL’s financials ending 2018.
Predictably, the financial disclosure demonstrated nearly zero revenue (consistent with the idea that the assets were sold/transferred/scrapped).
Importantly, the disclosure disclosed an abridged balance sheet disclosing:
Current Assets 58 Receivables from Affiliates 2,128 Property and equipment 116 Other assets 98
Current Liabilities 47 Payables to Affiliates 217 GLBL Notes 306 Other LT Liabilities 2
This disclosure is a bit opaque, as we don’t know who the $2BN claim is against (what legal entity) and what constitutes these specific assets and liabilities. However, we can make some conservative assumptions on what an asset waterfall may look like:
Treat all other liabilities as senior to the GLBL note (very unlikely)
Treat all other liabilities as 100% cash liabilities (somewhat unlikely)
Value the current assets, property and other assets at 50% on the dollar. This is conservative as the current assets are likely cash (100%), the PP&E could have been impaired/revalued given the various transactions, and we value “other assets” at 50% despite our taking other liabilities at 100%.
This leaves an open question of what to value the elephant in the room, the $2.1BN "Receivables from Affiliates". The most conservative valuation would be to assume the claims are against RIG and are thus pari-passu with existing RIG bonds (thus ignoring the chance that the claims are against an intermediate operating subsidiary that could result in structurally senior claims against RIG). The lowest market price for a RIG bond today, i.e. a proxy for unsecured RIG risk, are the 6.8% due 2038 which trade at 66% (versus say using a bond maturing sooner to match the 2028 maturity of the GLBL notes, and these bonds trade 80-90).
Haircutting the assets in this manner (valuing the A/R at 66% and rest of assets at 50%, and netting all other liabilities against this amount), the RIG box thus has $1.1BN of distributable value to cover the $300MM GLBL note. Said another way, using the lowest market value of a RIG bond results in nearly 4x coverage for the GLBL note.
Despite this superior relative coverage, the GLBL notes are quoted at 90% (8.7% YTM) versus the 2026 RIG notes at 91% (9.4% YTM). This misprices the superior coverage of GLBL notes versus RIG notes (4x!).
Indeed, for the GLBL notes to be impaired on this basis, the Receivables from Affiliates needs to be worth 20%, well below current trading for RIG bonds.
You get a bonus too (!). I have yet to mention the settlement also gives the GLBL bonds a guarantee from RIG. This means the GLBL bonds rank equally as RIG bonds, ignoring all the assets they also have claim to in the GLBL box. Said another way, GLBL bonds are more than “double dip” bonds… they are “multiple dip” bonds (you decide the multiple.. I calculate 5x but you can calculate higher)… you have your $300MM RIG guarantee + $2.1BN receivable from RIG (although it could be at a better box than RIG).
Thus, the actual impairment level is a bit lower than the 20% cents I quoted earlier.
GLBL notes are worth par if
You value RIG unsecured risk at 20% (versus lowest market price of 66%)
You assume your $2.1BN receivable is not structurally senior to RIG bonds
You treat all GLBL unsecured risk as senior to GLBL bonds
You ignore the additional straight RIG guarantee that came as part of the settlement
Ways to Play:
Outright long: I think the GLBL notes should be trading between RIG secured notes (5.8%) and RIG unsecured front end (6.5%). For simplicity sake assume~6%, which would imply a 107% dollar price (total return = 17pts upside + 7pts coupon = 24 points on 90 = 27%).
Long/Short: Buy GLBL notes and short RIG bonds 1:1. This eliminates the need to take a view on RIG unsecured risk, and you isolate the value at hand (the excess collateral at GLBL), e.g. the potential 17pts of upside, in a risk neutral manner.
It is not unreasonable for RIG to tender for GLBL bonds at par. This is a small $300MM bond and RIG has significant cash on hand. RIG has historically been focused on taking out their higher coupon notes (e.g., 8.375s or 9s), but the GLBLs are close enough in coupon, have a lot of excess collateral, and also have this new annual reporting requirement they may wish to eliminate.
I do not hold a position with the issuer such as employment, directorship, or consultancy. I and/or others I advise hold a material investment in the issuer's securities.
1. VIC write up 2. Current holders who played the litigation rotate out bonds into real money hands who own RIG unsecured risk