Hedging Their Debts
Hedge funds find there's money to be made in lending to distressed firms and start-ups
Despite such issues, nobody is betting hedge funds will move out of the debt market anytime soon. Their interests and those of the companies they fund are too closely aligned. Debt watchers say the real fireworks will erupt in a year or two as more companies that took such loans file for bankruptcy and hedge funds wrestle with other creditors for control of the highly leveraged assets. Of particular interest is how second-lien loans will be treated, bankruptcy lawyers say, noting that the covenants in these loans have been virtually untested in bankruptcy cases. "People will have to be more nimble going forward," says Steven Gross, chair of the Bankruptcy and Restructuring Practice Group at Debevoise & Plimpton.
Just how rough could it get? Take a look at the case of FiberMark, a Vermont-based specialty paper manufacturer. Last August, an independent, court-appointed examiner chastised three prominent firms that trade in distressed debt, including Silver Point Financial, for turning FiberMark's "simple, uncomplicated reorganization case" into a full-scale intercreditor war. Even the scheduling of meetings was fraught with "tension and recriminations," and good-faith efforts "broke down because of rigidity and intense self-interest fueled by individual rancor and distrust," the examiner found. Silver Point, which held most of the second-lien debt, won the war. But the protracted fight cost FiberMark about $60 million over the course of seven months.
FiberMark's management apparently didn't hold a grudge. Despite offers from others, the company snatched an additional $155 million in exit financing from Silver Point to ease its transition from bankruptcy back onto the market.
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