The Turnaround Letter’s Mid-Year Chapter 11 Bankruptcy Review & Outlook

This article is excerpted from New Generation Research’s  The Turnaround Letter, published by George Putnam, III.

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Bankruptcy filings by publicly-traded companies so far in 2017 have declined modestly from a year ago. Through June 30, 42 companies have filed for Chapter 11 bankruptcy, with a total of $43 billion in assets, compared to 61 companies filing for bankruptcy with a total of $86 billion in assets in last year’s first half. 

Last year’s wave of energy company filings has largely played out. While still sizable, only 33% of filings and 56% of assets during the first half of 2017 were from companies in this industry group compared to 51% of filings and 81% of assets a year ago. The largest bankruptcy filing this year was from Avaya, a telecom company with nearly $7 billion in assets, which filed in January 2017. Other large industry groups represented this year include power generation, with total assets of nearly $7 billion, and retailing, totaling about $3 billion in assets.

We expect energy bankruptcies to continue to decline as the most vulnerable companies have already filed and the remaining companies have adapted to lower commodity prices.  However, we expect to see overall bankruptcy activity remain somewhat elevated and eventually increase. Rising interest rates and potentially tightening credit standards will increasingly pressure weaker businesses. In addition, much of the record amount of lower-quality debt raised during the 2009-2016 credit boom comes due over the next several years. If the economy weakens or if financial markets soften noticeably, the number of bankruptcies could surge.

Even though energy bankruptcies are on the decline, we believe there will continue to be good opportunities for distressed/turnaround investors in that sector for some time. A large number of energy companies have emerged from Chapter 11 over the last several quarters and exchanged their debt for new post-reorganization stock. This has created a supply/demand imbalance in the stocks, as former creditors are anxious to sell the new stock but potential buyers have not yet gotten up to speed on the reorganized companies. This, in turn, has pushed many of these post-reorganization energy equities down to very attractive levels. We discussed some of the post-bankruptcy stocks in the oil & gas sector in the May Turnaround Letter (which has turned out to be a little early) and in the coal sector last month. We will probably write more about the opportunities in these sectors in the coming months.

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