Fri 09/08/2023 18:04 PM
Share this article:
Meredith Dixon
Credit Research

Alisha Turak, JD
Americas Covenants

Relevant Document:

This morning Trinseo released an 8-K providing details of its new financing that creates double-dip claims for the new lender group, which includes Oaktree, Angelo Gordon and Apollo. As disclosed in today’s filings, Trinseo secured $1.045 billion in net cash proceeds from a $1.077 billion new term loan facility. These proceeds will be used to refinance its term loans due 2024 in full and to fund the partial redemption of roughly three-quarters of its senior notes due 2025.
(Click HERE to enlarge.)

By successful addressing all of its 2024 maturities and the majority of the 2025 notes issuance, the company appears to have afforded itself significant runway to accomplish its operational turnaround.

Reorg previously speculated that a refinancing transaction would need to use “aggressive tactics” such as dropping assets into an unrestricted subsidiary, funding double-dip intercompany loans and having considerable make wholes and PIK interest components. As discussed in this article, Trinseo has used all of these techniques in its new financing.

Reorg illustrates the transactions disclosed today by Trinseo in the chart below:
(Click HERE to enlarge.)

Components of the transaction are discussed below.

Transferring Assets to Unrestricted Subsidiary

Trinseo LLC, a guarantor under the existing credit agreement, transferred the Americas Styrenics LLC business (discussed in more depth below) out of the existing credit group to Trinseo NA Finance SPV LLC, or the UnSub Borrower, an unrestricted subsidiary that is also a co-borrower of the new money loan.

Moving this valuable asset, which is part of an ongoing sale process, to UnSub Borrower provides substantial value to the new lender group. Upon the sale of the styrenics joint venture, the company must use 100% of the net proceeds to pay down the new-money term loan and must also pay a premium consisting of a make whole amount in the first year, stepping down to a 3% prepayment premium in the second year, a 2% premium during the third year, and then par after 36 months.

The prepayment and premium terms also apply to the receipt of cash dividends from Americas Styrenics, other than “Excess Cash Distributions” as defined in the nonpublic JV agreement, in excess of $5 million in any fiscal year. Without the JV agreement, Reorg can only speculate as to what extent any of the average annual cash dividends of approximately $85 million would be included in this provision, although the 8-K does state that this provision excludes “ordinary course quarterly dividends based on the net profits of AmSty.”

Double-Dip Structure

In addition to a first lien on the valuable styrenics business, the new lenders also benefit from a double-dip structure. The new loan is borrowed by entities that are not restricted by the existing credit agreement (one by not being a subsidiary of Trinseo Holdings and one by being designated as unrestricted), and the proceeds are then lent to the existing credit agreement borrowers pursuant to an intercompany loan.

In this instance, the intercompany loan has been structured as an incremental and refinancing loan under the existing credit agreement, making it pari to the existing credit agreement in every way. The new lenders have a lien on the intercompany receivable.

The second dip comes from various guarantees. The new loan is guaranteed by the parent entity of each new borrower and also benefits from a “limited guarantee” by “certain Affiliates” of the new-money borrowers. Trinseo has not provided any additional information as to the nature of the limited guarantee or who the limited guarantors are. To the extent they are restricted nonguarantor subsidiaries of the existing credit agreement, Reorg estimates that they can guarantee $352 million of the debt on a secured basis.

Terms of the New-Money Loan

As Reorg expected, in addition to securing additional collateral and guarantees through the structure, the new lenders also included provisions intended to capture additional value through elevated interest rates and stipulations requiring sizable make wholes.

These financing terms will be onerous for Trinseo, particularly given the low coupon debt being refinanced. In addition to upfront fees presumed to be almost 3%, the annual cash interest on the new facility is SOFR+8.5% compared with a weighted average rate on the existing debt of about 6.5%. Although there is an option to elect partial PIK interest for up to 24 months at a cash interest rate of SOFR+4.25% and a PIK interest rate of 5.25%, even under the PIK scenario the cash interest burden is expected to rise by over $30 million annually.

Incurring an additional $30 million of cash interest will erode all of the positive cash flow Trinseo expects to generate in 2024, according to its cleansing forecast released on Aug. 16. The company’s guidance was for $28 million to $42 million of free cash flow, and thus underperformance against this expectation could force the company to tap its liquidity, which ended June at $506 million. A significant cushion still exists against the $100 million liquidity covenant included in the new credit agreement, particularly since the company expects to generate $100 million of free cash flow in the back half of this year, primarily due to a $210 million working capital release.

The inclusion of make whole provisions also reserves value for the new lenders. The $948 million 2023 intercompany term loan bears a higher SOFR+9.66% interest rate, with the cash flows under this loan used to make the SOFR+8.5% or SOFR+4.25% cash interest payments if Trinseo elects to PIK a fraction of interest payments. It also obliges payment of a “yield protection fee” in the event of all voluntary prepayments or mandatory prepayments with the proceeds of nonpermitted indebtedness.

This amount begins at a full make whole for the first 18 months, followed by 17.01% from months 18 to 30, 15.88% from months 30 to 42, 13.6% from months 42 to 62 and 0% thereafter. Prepayments pursuant to this provision would transfer significant cash balances out of the restricted group to Trinseo Luxco Finance SPV Sarl, or the Lux Borrower, to serve as collateral for the new lenders.

The new term loan facility also demands payment of a make whole in the first 12 months in connection with a sale of or extraordinary cash dividend from its joint venture interest in Americas Styrenics as well as a make whole in the first 18 months for all voluntary prepayments or mandatory prepayments in connection with (i) proceeds of nonpermitted indebtedness and (ii) proceeds from 2023 term loan facility prepayments.

Americas Styrenics Business

As previously analyzed by Reorg, the Americas Styrenics business has been a steady contributor to Trinseo’s earnings and cash, contributing adjusted EBITDA on average of approximately $100 million per year with annual cash dividends paid to Trinseo averaging $85 million. Over the last 12 months, the business contributed EBITDA of only $71.3 million, primarily due to the weak global styrene margins in the second quarter. The larger-than-typical $32.5 million dividend received in the fourth quarter of 2022 kept LTM cash dividends to Trinseo at $87.5 million.

Despite some of the global challenges facing the styrenics market, this joint venture appears to be strategically well positioned in a more insulated North American market. Trinseo touts the “world-class economics for energy and raw materials,” noting that in the second quarter when styrene markets were depressed, “a lot of the North American styrene units were running at low levels of utilization” with some “even shut for economic reasons” - this was not the case for Trinseo’s joint venture given its advantaged cost position. While the Americas Styrenics business was negatively affected in the second quarter by the challenging market, conditions have improved and management shared that it expected the higher global spot price to be a “tailwind” in the third quarter.

Trinseo has been vocal about its desire to monetize its styrenics business, which include not only Americas Styrenics but also the polystyrene segment and the feedstock assets the company is in the process of shuttering. After kicking off formal discussions in early 2022, the sales process was halted last summer due to market volatility and uncertainty.

Management announced on the first-quarter earnings call that it had relaunched the sales process. On the second-quarter earnings call, however, CEO Frank Bozich tempered expectations for a near-term sale, sharing that the company has “some specific interest in some of [its] specific styrenics assets from some strategic buyers within the region and it’s ongoing,” but because the buyers are strategic in nature, it is “highly unlikely that anything happens very soon because there[] [are] regulatory approvals that would be required to complete a transaction.”

Given the consistency of Americas Styrenics’ earnings, Reorg previously speculated that the business could attract sale multiples of 6.5x or higher. This would imply a valuation in excess of the $377 million in estimated available capacity to drop assets into an unrestricted subsidiary.

Trinseo appears to have given itself the additional capacity by structuring $125 million of the new money as a capital contribution to the borrowers, which provides the company with a corresponding amount of additional restricted payments capacity. With just over $500 million of investment capacity, the transfer can likely be effectuated as $500 million is, in Reorg’s opinion, likely a reasonable valuation for the Americas Styrenics business.

Existing Debt Documents

Americas Covenants by Reorg has previously analyzed the possibility of a double-dip transaction at Trinseo. We briefly analyze the newly announced refinancing under the existing debt documents below. Note that although the credit agreement was amended to include the new intercompany loan, the covenants remain unchanged.

Incurring the New Debt

As mentioned above, neither of the new-money borrowers is restricted by the existing credit agreement and its debt and lien covenants.

Lux Borrower, the main borrower, is a wholly owned subsidiary of Trinseo Luxco Sarl, the same entity that owns Trinseo Holdings, the parent guarantor of the existing facility. This means that the Lux Borrower is not a subsidiary of Trinseo Holdings and is therefore not a “subsidiary” for purposes of the existing agreement.

Trinseo designated the other borrower, UnSub Borrower, and its parent as unrestricted subsidiaries. As previously discussed, under the credit agreement, Trinseo can designate unrestricted subsidiaries as long as doing so does not make its fixed charge coverage ratio worse and complies with the investment covenant. Given that these entities were likely shell companies at the time of designation, these conditions are met.

The senior notes contain the requirement that the unrestricted subsidiary does not own any capital stock or debt of, or hold any lien on any property of, any restricted subsidiary. We said that because the restriction applies only as of the time of designation (and not on an ongoing basis after designation), this would not be an issue. The actual structure avoids this issue entirely by having solely the Lux Borrower make the intercompany loan such that the UnSub Borrower owns no debt of any restricted subsidiary.

Guaranteeing the New Debt

The two parent guarantors of the new-money loan are, like the borrowers, not subject to the existing credit agreement’s negative covenants. The “Limited Guarantors,” the identities of which are unknown, may be restricted subsidiaries under the existing agreement, which would explain why the guarantee needs to be limited in amount.

There are two debt baskets available for the Limited Guarantors to use, assuming that they are nonguarantor restricted subsidiaries under the existing credit agreement. The first is the general debt basket, which provides $176 million of capacity given June 30 financials; the second is the nonguarantor debt basket, which also provides $176 million of capacity. All $352 million of this debt can be secured by a liens basket permitting nonguarantor debt to be secured by nonguarantor assets.

Intercompany Loan

As disclosed by Trinseo, the new borrowers lent $125 million of the new money to Trinseo Luxco Sarl so that it could be passed on to the existing borrowers in the form of an equity contribution. The new borrowers lent the remaining $948 million to the existing credit group in the form of loans under the existing credit agreement, with $268 million as incremental term loans and $680 million as refinancing term loans (the remaining $4 million is presumably fees).

The refinancing loans are permitted as refinancing loans by the credit agreement and senior notes, and the company has $385 million of incremental debt capacity under its credit agreement and even more secured debt capacity under its senior notes.
Share this article:
This article is an example of the content you may receive if you subscribe to a product of Reorg Research, Inc. or one of its affiliates (collectively, “Reorg”). The information contained herein should not be construed as legal, investment, accounting or other professional services advice on any subject. Reorg, its affiliates, officers, directors, partners and employees expressly disclaim all liability in respect to actions taken or not taken based on any or all the contents of this publication. Copyright © 2024 Reorg Research, Inc. All rights reserved.
Thank you for signing up
for Weekly Insights!