April 21, 2023 – The Debtors’ Official Committee of Unsecured Creditors (the “Committee”) has filed a pair of objections taking issue with numerous aspects of the Debtors’ proposed bidding procedures and debtor-in-possession ("DIP") financing [Docket Nos. 158 and 162, respectively].
In challenging the Debtors' proposed sale process, the Committee notes that: "certain important matters remain unresolved. More specifically, as currently structured, the proposed Bidding Procedures appear destined to result in the Debtors’ largest stakeholder—Oaktree Capital Management L.P. and its affiliates (collectively, ‘Oaktree’), which is a prepetition equity holder, the prepetition first-lien lender, the postpetition DIP lender, and the proposed Plan sponsor—acquiring the Debtors’ business in a transaction that is slated to provide zero value to unsecured creditors. Simply put, if Oaktree wants to use this Court to run an expedited foreclosure process, then it needs to pay for the costs of that proceeding — including providing some prospect of a real recovery to unsecured creditors. Unless and until those defects are remedied, the Court should deny approval of the Motion."
Drilling down (see also further below), the Committee wants the Court to (i) extend the sale timetable for a month, (ii) allow bids to be structured as offers for the Debtors' assets (not just equity as currently envisaged), (iii) carve conflicted Oaktree out from the the list of "Consultation Parties" and (iv) remove an existing (arguably bid-chilling) requirement that third party bids "satisfy Oaktree’s prepetition term loans including a purported make-whole claim of approximately $43.5 million (or approximately 19.4% of the principal amount) in full in cash" [at least until the committee completes its investigation into Oaktree's make whole claim].
Moving onto the proposed DIP financing (interim order issued on March 30th, see below), the Committee argues that the Oaktree supplied "DIP Facility [$60.0mn new money and $60.0mn roll-up] comes at an incredibly high cost, both in terms of pricing and process concessions that will drastically limit the ability of the Committee (and the Debtors) to acquit their fiduciary duties." The Committee argues that the required "market check" in respect of DIP financing was "woefully inadequate" with the "Debtors’ investment banker contact[ing] only eight third parties on the eve of the Petition Date before arguing that (i) the "oppressive and expensive roll-up" is unwarranted, (ii) the DIP fees are excessive (14% interest plus a 5% facility fee, and 5% exit fee), (iii) (mirroring the bidding procedures objection) the sale timetable is too short, (iv) potential causes of action should not be encumbered (here the Commitee notes that the fact that the Debtors' "vaporized" $1.0bn "in such a short period of time warrants close scrutiny and will be the focus of the Committee’s ongoing investigation") and (v) (of course) an objection to the "paltry $25k" investigation budget that "prevents the Committee from acquitting Its fiduciary duties."
A hearing to consider the Debtors' motions, and the Committee's objections, is scheduled for April 26, 2023.
On March 29, 2023, SiO2 Medical Products, Inc. and two affiliated Debtors (“SiO2” or the “Debtors”) filed for Chapter 11 protection (on a “pre-arranged” basis) noting estimated assets between $100.0mn and $500.0mn; and estimated liabilities between $500.0mn and $1.0bn. At filing, the Debtors, who “create and manufacture engineered primary packaging container components for the Pharmaceutical and Biotechnology industry, “ noted that they had ”yet to meet the anticipated commercialization timeline for its products” adding that ”after raising and investing over $800 million in facilities, equipment, and research and development over the last 10 years…[the resulting] legacy capital structure, which includes 12 debt facilities, convertible debt, and nine types of preferred stock, each with various consent and other rights, has made raising capital extremely challenging, especially in the current market environment.”
A significant portion of that financing was used “over the last few years on production of vials for the COVID-19 vaccine as part of Operation Warp Speed. The Company now has capacity to deliver on targets contemplated by earlier government grants, but those production levels are no longer needed. The Company will likely need to retool its equipment for future client demand.”
On March 29th, the Debtors filed a Plan of Reorganization and a related Disclosure Statement [Docket Nos. 18 and 19, respectively].
Also on March 29th, the Debtors, required by the terms of a Restucturing Support Agreement (the “RSA”) to continue to market their assets in the hopes of securing cash consideration in excess of the Debtors’ $349.1mn of prepetition and DIP debt, filed a motion seeking approval of (i) proposed bidding procedures order and (ii) a proposed timetable culminating in a June 5th auction. In the event that there are no qualified buyers hitting this threshold, the Debtors will stay with a “baseline Equitization Restructuring” that would see affiliates of Oaktree Capital Management, L.P. “equitize some or all of the Allowed First Lien Term Loan Claims and Allowed DIP Claims….in exchange for 100% of the equity of the reorganized Debtors.”
On March 30th, the Debtors filed a motion seeking approval of a proposed timetable which culminates in a June 15th Plan confirmation hearing.
Also on March 30, 2023, the Court hearing the SiO2 Medical Products cases issued an order authorizing the Debtors to: (i) access $12.32mn in new money, debtor-in-possession (“DIP”) financing on interim basis from Oaktree Capital Management, L.P. (collectively, “Oaktree” or the “DIP Lenders”), (ii) roll-up an equivalent amount of the Debtors’ First Lien Term Loan Facility on a dollar-for-dollar basis debt and (iii) use cash collateral [Docket No. 76].
Committee Objection to Bidding Procedures
The objection [Docket No. 158] provides, “By the Bidding Procedures Motion, the Debtors seek authority to conduct a marketing process and, potentially, auction for the Debtors’ reorganized equity. Following the Committee’s formation and engagement of advisors a week ago, the Committee’s professionals have engaged in productive discussions with the Debtors’ professionals regarding various issues related to the proposed marketing process. Those discussions have resulted in agreement on certain issues. However, certain important matters remain unresolved. More specifically, as currently structured, the proposed Bidding Procedures appear destined to result in the Debtors’ largest stakeholder—Oaktree Capital Management L.P. and its affiliates (collectively, ‘Oaktree’), which is a prepetition equity holder, the prepetition first-lien lender, the postpetition DIP lender, and the proposed Plan sponsor—acquiring the Debtors’ business in a transaction that is slated to provide zero value to unsecured creditors. Simply put, if Oaktree wants to use this Court to run an expedited foreclosure process, then it needs to pay for the costs of that proceeding — including providing some prospect of a real recovery to unsecured creditors. Unless and until those defects are remedied, the Court should deny approval of the Motion.
With that context in mind, the Court should deny the Motion for four principal reasons.
- As a general matter, proposed bidding procedures in chapter 11 cases must establish a framework for competitive bidding in order to ensure maximization of value. The procedures governing a sale process should be designed to foster the competitive process, and bankruptcy courts should ‘not allow anything to chill an active marketing and auction process.’ Here, the proposed timeline requires binding bids by May 29, 2023, which is 61 days after the Petition Date and just over one month from the date of the hearing to approve the Motion. To justify this abbreviated marketing period, the Debtors tout their ‘robust’ prepetition marketing process. The record tells a different story, which is that the Debtors began to market their assets for a de minimis period of time prepetition. More troubling, the proposed transaction contemplates the acquisition by an insider (which is always a matter that requires a more searching analysis from the Court) in a transaction that provides zero value to unsecured creditors. To level the playing field, the Court should condition approval of the Motion on a limited, one-month extension of the marketing process.
- The Bidding Procedures require bidders to invest in the reorganized equity rather than some or all of the assets. The requirement to acquire the reorganized equity rather than assets (such as the Debtors’ state of the art facility in Alabama and the Debtors’ extensive patent portfolio) could significantly limit the number of Bids and discourage potential bidders that may otherwise be interested in some of all of the Debtors assets. To ensure a value-maximizing sale process—whether a Bid takes the form of an equity or asset transaction—the Court should require the Debtors to consider Bids for reorganized equity or the Debtors’ assets.
- The proposed Bidding Procedures designate Oaktree as a Consultation Party entitled to review all Bids as well as receive other information regarding the sale process that no other potentially interested party may receive. The fact that Oaktree may receive the inside scoop on potential bids and other key developments is particularly suspect in light of the many hats that Oaktree wears in these cases, including prepetition equity holder, prepetition lender, DIP lender, and proposed plan sponsor. Courts in this jurisdiction have held that when a lender is a bidder, it can no longer be a consultation party. Oaktree and the Debtors have it backwards. Oaktree cannot make its best and final offer, in this case, its credit bid, and remain a Consultation Party.
- The Bidding Procedures provide that any potential Qualified Bid must satisfy Oaktree’s prepetition term loans including a purported make-whole claim of approximately $43.5 million (or approximately 19.4% of the principal amount) in full in cash. The Committee is actively investigating Oaktree’s make-whole, which may arguably constitute unmatured interest that other courts—including in this District—have disallowed in bankruptcy cases. Pending the Court’s determination whether Oaktree’s make-whole claim constitutes an allowed claim, the requirement to satisfy any such purported claim in full in cash will chill bidding by imposing an additional $43 million cost to a potential acquisition. To ensure that potentially interested parties are not dissuaded from bidding due to the requirement to satisfy the make-whole in full in cash, the Court should require the Debtors to consider potential Bids that do not satisfy the purported make-whole claim in full in cash. Furthermore, the Committee urges the Debtors to state in any process letters or similar communications to potentially interested parties that the Debtors will seriously consider potential Bids that do not satisfy any purported make-whole claim in full in cash.”
Committee Objection to DIP Financing
The objection [Docket No. 162] provides, “By the DIP Motion, the Debtors seek approval of a $120.0 million senior secured superpriority senior debtor-in-possession credit facility (the ‘DIP Facility’) consisting of (a) a $60.0 million new money multi-draw term loan facility (‘New Money DIP Loans’) and (b) a $60.0 million roll-up of its First Lien Term Loan Facility (‘Roll-Up Loans’) to be provided by prepetition first lien lender Oaktree Capital Management L.P. and its affiliates (collectively, ‘Oaktree’). There is no doubt that the Debtors require incremental funding for these cases, but the DIP Facility comes at an incredibly high cost, both in terms of pricing and process concessions that will drastically limit the ability of the Committee (and the Debtors) to acquit their fiduciary duties. The Court should deny the Motion for the reasons set forth in this Objection.
The proposed DIP lender wears many hats in these cases as a prepetition equity holder, prepetition lender, and proposed plan sponsor. Oaktree is also a party to the Debtors’ prepetition Restructuring Support Agreement (the ‘RSA’). Under the RSA, Oaktree is seeking to receive all of the reorganized equity in exchange for its existing $225 million loan (in addition to a make-whole premium with an asserted value of over $43 million, or approximately 20% of the principal loan amount, the validity of which is suspect under recent decisions in this District and other courts) and the New Money DIP Loans. The Oaktree proposal is subject to a market check. But that process—like the prepetition DIP marketing process, where the Debtors’ investment banker contacted only eight (8) third parties on the eve of the Petition Date—is woefully inadequate and leaves little doubt absent a course correction that Oaktree will walk away with the assets and that unsecured creditors will get wiped out.
With that record in mind, the Committee objects to the proposed DIP Facility and submits that the Court should require numerous modifications before it is approved.
- The Proposed Roll-Up Is Unwarranted. In light of the Debtors’ cursory market check, it is perhaps not surprising that the only viable proposal obtained was from Oaktree, a prepetition equity holder and insider. Oaktree insisted on an oppressive and expensive roll-up as part of the proposed financing. In light of the DIP marketing process (or rather, lack thereof) the record is at best inconclusive as to whether a roll-up is necessary. Furthermore, the Debtors herald that there is a 1:1 ratio of rolled up loans for new money of the new money. But 10% of the new money is attributable fees that are getting round tripped to Oaktree. In other words, the Debtors are rolling up $60 million of prepetition loans in exchange for only roughly $54 million in new money that will flow to the estates.
- The DIP Fees Are Excessive. The DIP Facility contemplates a 14% interest rate plus a 5% facility fee, and 5% exit fee. And while a portion of the fees are to be paid in kind, those PIK obligations will nevertheless increase Oaktree’s superpriority DIP claims against the estates and move the target that a potential third party must hit to acquire the business in a competitive sale process.
- The Milestones Are Not Realistic. The DIP Facility requires the Debtors to adhere to an unrealistic and unreasonable timeline. More specifically, the Debtors are required to market this business—which operates in the complex, heavily regulated medical supplies business—in a mere 77 days. The sale timeline is too short, particularly in light of the fact that the DIP Facility appears to provide liquidity for a lengthier process.
- The DIP Facility and Adequate Protection Package Should Not Encumber Causes of Action. There is clearly something amiss here given the fact that the Debtors raised over $1 billion in financing within a few years before the commencement of these cases, yet only had $4.1 million in cash on hand as of the Petition Date. The circumstances under which the Debtors vaporized such a significant amount of money in such a short period of time warrants close scrutiny and will be the focus of the Committee’s ongoing investigation. The Committee’s investigation is a matter for another day. At this juncture, however, there is no evidence in the record that it is necessary or appropriate for Oaktree to scoop up causes of action attributable to the Debtors’ descent into chapter 11 for itself, particularly given the fact that it was a prepetition equity holder.
- The DIP Prevents the Committee From Acquitting Its Fiduciary Duties. The Final Order provides the Committee with inadequate funding (a paltry $25,000) to conduct the expedited investigation and bring challenges, as necessary. The challenge process more broadly borders on illusory: the Committee is required to not only investigate—but also obtain standing—in 75 days. Moreover, there is no assurance that the Debtors will provide standing to the Committee to prosecute viable claims and causes of action. The Committee views this investigation as a vital part of its mandate, and Oaktree needs to shoulder its fair share of the burdens imposed by the Bankruptcy Code in order to obtain its benefits, and allow the Committee to pursue this investigation with adequate resources.
- The Estates Should Not Bear an Excessive Risk of Administrative Insolvency. Under the process agreed to by the Debtors in the RSA, Oaktree may be able to flip the contemplated plan process to an asset sale. The RSA provides that professional fees will get funded in a sale scenario. However, the RSA is a prepetition agreement that has not been assumed and the DIP Facility does not otherwise provide any assurance that the professionals—or any administrative creditors, for that matter—will receive payment in such a scenario. For example, the DIP Facility’s Carve Out is not necessarily being funded in a scenario where Oaktree flips to a sale under section 363 of the Bankruptcy Code, which will leave the estate professionals to bear the risk of administrative insolvency. The DIP Facility must be amended to make it clear that the Carve Out will be funded in a sale scenario and that all priority and administrative claims will be provided for, as well as an adequate wind-down budget reserved. Waivers of the ability to surcharge collateral under Bankruptcy Code section 506(c), the equities of the case under section 552(b), and the doctrine of marshalling may be appropriate in a non-sale case, but are not here where the cases are being run for a single creditor that can, if certain triggers occur, decide this is a true sale case. If it does, the estates should be protected from becoming administratively insolvent, and thus the waivers of surcharge, marshalling and equities of the case exception should not be granted for this DIP Facility
If these and other infirmities are remedied, the Committee believes the DIP Facility can be the foundation for a process that will allow the value of the estates to be maximized and for the Committee to do its job and identify available unencumbered value for the benefit of unsecured creditors. The Debtors and Committee advisors need time to find buyers, provide diligence, and unlock the business enterprise in which over one billion dollars was invested. In addition, the Committee needs to run a thorough investigation to understand where that value went, and plans to focus a substantial portion of its efforts in the coming days and weeks on this core part of fulfilling its fiduciary duties. This will include a review of all insider transactions and involvement in the company, key customer relationships that went awry, and the Debtors’ participation in ‘Operation Warp Speed’ with the U.S. Government. The Committee intends to move as quickly as possible, and believes based on preliminary conversations with the Debtors that there are valuable causes of action preserved and pursued so that unsecured creditors are ensured some recovery in these cases.”
Events Leading to the Chapter 11 Filing
In a declaration in support of the Chapter 11 filing (the “Steffen Declaration”), Yves Steffen, the Debtors’ chief executive officer, detailed the events leading to SiO2’s Chapter 11 filing. The Steffen Declaration provides: “SiO2 is a material life sciences company that — after raising and investing over $800 million in facilities, equipment, and research and development over the last 10 years — is at the precipice of mass-commercialization of its breakthrough materials science technology that is poised to revolutionize the pharmaceutical industry….
Despite the Company’s breakthrough advances in technology, which are likely to lead to increased patient safety, it has yet to meet the anticipated commercialization timeline for its products. While management believes that many significant players are interested in investing new capital into the Company, the Company’s legacy capital structure, which includes 12 debt facilities, convertible debt, and nine types of preferred stock, each with various consent and other rights, has made raising capital extremely challenging, especially in the current market environment. The Company’s relatively limited current revenue — approximately $50 million in 2022 — cannot support its current operational overhead and debt load, which required $13 million in interest payments over the same period. The Company has spent much of the last year trying to raise capital despite these capital structure issues, but neither third-parties nor existing equity holders — those with the most to lose under the circumstances — have come to the table with new capital.
Notably, the Company focused its efforts over the last few years on production of vials for the COVID-19 vaccine as part of Operation Warp Speed. The Company now has capacity to deliver on targets contemplated by earlier government grants, but those production levels are no longer needed. The Company will likely need to retool its equipment for future client demand. Now, with only approximately $4.1 million in cash on hand, including restricted amounts, the Company has filed these chapter 11 cases to address its capital structure and reorganize its operations, allowing a new owner to bring the products to market.
Significantly, the Debtors filed these chapter 11 cases with a clear path to emergence. The Debtors and certain affiliates and funds of Oaktree Capital Management, L.P. (the 'Initial Plan Sponsors' or 'Oaktree'), which holds all of the Company’s first lien debt, have developed a comprehensive restructuring on an accelerated timeline (the 'Restructuring') memorialized in the restructuring support agreement attached hereto as Exhibit A (the 'Restructuring Support Agreement'). The Restructuring contemplates saving the SiO2 business — including nearly 250 jobs—through these chapter 11 cases.
The Restructuring has three main components: First, Oaktree has agreed to provide a $120 million ($60 million new-money) superpriority debtor-in-possession financing facility (the 'DIP Facility,' and the claims created by the DIP Facility, the 'Allowed DIP Claims'), to fund these chapter 11 cases. Second, Oaktree committed to serve as the Initial Plan Sponsor and equitize its Allowed DIP Claims and Allowed First Lien Term Loan Claims into 100% ownership of Reorganized SiO2 through a chapter 11 plan, subject to the Company meeting certain milestones. Third, Oaktree agreed to subject its recovery under the Plan to an auction process pursuant to court-approved bidding procedures, whereby any party may submit a bid to acquire 100% of the New Common Stock of Reorganized SiO2 through the Plan.
Oaktree has agreed that it will not participate in the auction process. The floor for bids is therefore approximately $349.1 million, which is the anticipated amount of Oaktree’s Allowed DIP and First Lien Term Loan Claims. Nonetheless, Oaktree has indicated that it may consent to a recovery different than what is currently contemplated under the Plan, and the Debtors therefore encourage all interested parties to engage in the process, even if they may have a lower preliminary bid. There is no break-up fee or expense reimbursement contemplated to be paid to Oaktree in its role. The Company’s proposed investment banker in these chapter 11 cases, Lazard Frères & Co. LLC ('Lazard'), has already started a robust marketing process for the sale of the Company.”
Under the RSA and the Debtors' Pre-arranged Plan of Reorganization:
- Certain affiliates, managed funds, or accounts of Oaktree Capital Management, L.P. (such funds, the “DIP Lenders”) will commit to fund the DIP Facility in the aggregate amount of $120 million on the terms set forth in the DIP Documents. The DIP Facility provides for $60 million in new money loans and a $60 million roll-up of Prepetition Term Loans held by the DIP Lenders.
- The Plan provides for the Initial Plan Sponsors to receive 100% of the New Common Stock issued as of the Plan Effective Date through an equitization of some or all of the Allowed DIP Claims and Allowed First Lien Term Loan Claims (with any portion of the Allowed DIP Claims and Allowed First Lien Term Loan Claims not so equitized rolled into the Exit Term Loan Facility) (the “Equitization Restructuring”).
- In the event of a Toggle Trigger, the Initial Plan Sponsors may elect, in consultation with the Debtors, to implement the Restructuring Transactions through a credit bid of some or all of the Allowed DIP Claims and Allowed First Lien Term Loan Claims to purchase all, substantially all, or one or more subsets of the assets of the Debtors through a sale pursuant to section 363 of the Bankruptcy Code on terms and conditions satisfactory to the Initial Plan Sponsors (the “Credit Bid Sale Restructuring”). In the event the Initial Plan Sponsors pursue a Credit Bid Sale Restructuring, the Initial Plan Sponsors and the Debtors shall determine an amount of cash to remain in the proposed Debtors’ estates, (or for the Initial Plan Sponsors to fund to the Debtors’ estates), at or prior to closing of the Credit Bid Sale Restructuring which will include (1) all Allowed Professional Fees (as defined in the DIP Order) incurred or payable prior to the closing of the Credit Bid Sale Restructuring, (2) a wind down budget consisting of (a) estimated professional fees to be incurred after the closing of the Credit Bid Sale Restructuring and (b) other agreed reasonable and ordinary expenses necessary to effectuate a wind down, and (3) all accrued and unpaid wages (and related employee claims), taxes, and other similar agreed reasonable and ordinary course of business costs and expenses incurred by the Debtors prior to the closing of Credit Bid Sale Restructuring in the chapter 11 cases that are not otherwise assumed as part of the Credit Bid Sale Restructuring.
- The Restructuring Support Agreement and the Plan will constitute a stalking horse bid in the Equitization Restructuring and the Restructuring Support Agreement will constitute a stalking horse bid in the Credit Bid Sale Restructuring described below, in each case subject to the terms therein, for purposes of the bidding procedures (the “Bidding Procedures”) substantially in the form attached to the Restructuring Support Agreement as Exhibit F and will be subject to higher or better bids pursuant to the Bidding Procedures.
- The DIP Lenders will receive, in consideration for their DIP claims, (i) where an Initial Plan Sponsor is the Plan Sponsor, on account of Allowed DIP Loans (which will include fees and interest) New Common Stock in accordance with the Stalking Horse Bid; or (ii) where any other party is the Plan Sponsor, payment in full, in Cash, on the Effective Date or such other terms agreed by the Required DIP Lenders.
- The First Lien Term Loan Lenders will receive either: (i) where an Initial Plan Sponsor is the Plan Sponsor, their pro rata share of New Common Stock and/or their pro rata share of the Exit Term Loan Facility, or such other treatment as agreed by such holders, (ii) where any party other than the Initial Plan Sponsors is the Plan Sponsor, payment in full, in cash on the Plan Effective Date or such other treatment as agreed to by such holders.
- The Second Lien Term Loan Lenders will receive their pro rata share of Additional Value (if any).
- General unsecured claims will receive their pro rata share of Additional Value (if any) after payment of Second Lien Term Loan Claims in full.
As of the Petition Date, the Debtors have an aggregate principal amount of approximately $430 million in funded debt obligations, consisting of (a) First Lien Term loans, (b) Second Lien Term Loans, (c) certain secured financing secured by certain specified assets, (d) Promissory Notes (as defined herein), and (e) Convertible Indebtedness. 27. SiO2 is a borrower under twelve debt facilities, each as more fully described below:
About the Debtors
According to the Debtors: “SiO2 Materials Science is a company with deep roots in chemistry and engineering. The company creates and manufactures engineered primary packaging container components for the Pharmaceutical and Biotechnology industry. These containers typically take the form of syringes, vials and cartridges.
Our patented technology applies a unique glass-like barrier onto any plastic surface. Our products are engineered to combine the durability and dimensional precision of plastic with the physical and barrier properties of glass.
In the Pharma Industry, SiO2 advanced technology solves more than 30 problems which have plagued the industry for more than 100 years – including some of the most challenging related to drug stability, drug efficacy and safety."
Corporate Structure Chart
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