Argyle Conversations - Schulte Roth & Zabel

Argyle Conversationsby Argyle Executive ForumsmfeaturingKirby ChinPartnerSchulte Roth & Zabel&Lily RobertsonArgyle Executive ForumHosted By:On November 29, Kirby Chin, partnerat Schulte Roth & Zabel, talked withLily Robertson at Argyle Forum aboutlending opportunities and changesin the structure of capital investmentdeals in a distressed market.

A r g y l e Co nv e r s a t i o n sNovember 29, 2011Page 2Chin, a partner in the New York office of Schulte Roth & Zabel, focuses hisKirby Chin Kirbypractice on financing and debt transactions, and is a member of the firm’s Financeand Distressed Investment Groups. Kirby started at SRZ in 1995 and has spent hisentire career with the firm. He has substantial experience representing clients in transactions involvingprivate and public debt financings, working with special distressed asset situations, and structuring andexecuting multilayered debt tranches. Kirby’s clients include finance firms, public and private companies,and hedge and private equity funds. His representations have included debtor-in-possession and exitfinancings; workouts and restructurings; private equity portfolio financings, including acquisition and leveragedbuyout financings; traditional asset-based and working capital financings; cash flow financings; factoringand related transactions; term “B” financings; second lien and first-out/last-out financings; investment fundfinancings, including fund of funds financings; capital call and liquidity facility transactions; and subordinated andmezzanine debt offerings.Kirby has been recognized by The Legal 500, a listing of the top lawyers in the United States by practicearea. A member of the Turnaround Management Association, the American Bar Association and the NewYork City Bar Association, Kirby is often invited to speak at industry events, recently presenting on “CapitalStructure Analysis and Debt Trading” at a distressed investing seminar. Kirby earned his B.A., cum laude,from New York University in 1992 and his J.D. from New York University School of Law, where he servedon the Journal of International Law and Politics, in 1995.w w w . ar g y l e for u m . co mA r g y l e E x e c u t i v e F or u m 1 2 2 W e s t 2 6 t h S t , 2 N D F loor N e w York , N Y 1 0 0 0 1

A r g y l e Co nv e r s a t i o n sNovember 29, 2011Page 3LILY ROBERTSON: How have the types of transactions that you’ve been involved with atSchulte Roth & Zabel changed over the past few years, particularly as they relate to changesin the structure and availability of capital?KIRBY CHIN: There is no question that, over the past fewyears, there have been challenges in the distressed and “I suspect that a wave oflending markets. But with challenges come opportunities. deals is still likely to occurCertainly, deal activity has been steadier in the past year. after the expiration period ofThere seems to be a more consistent number of transactions refinancings that happenedoccurring. In particular, I have seen many transactions thatright after the liquidity crisisrequire or involve restructuring or refinancing existing facilities,particularly in the middle market. Some of these involve and should play out in thecompanies that are in bankruptcy and need exit facilities or next couple of years”some other type of restructuring. Others involve lenders thattraded into a deal at favorable prices, with those lenders now having the opportunity to restructure thefinancing facility in a way that capitalizes on their previous investment and ensures them a role in the capitalstructure of that company. I suspect that a wave of deals is still likely to occur after the expiration period ofrefinancings that happened right after the liquidity crisis and should play out in the next couple of years.Do you think this steady deal activity will continue for a few years?That is my impression. There are a lot of opportunities, but the question is whether or not the investment isa quality investment. Today, that is measured very differently than it was during frothier times just a fewyears ago. Clients are a bit more cautious, not because they do not have the capital but because theyneed to make sure a company has the correct financial metrics to support the debt or has the businessopportunity to propel cash flow to a level that can service the loans.Are people making smaller investments based on quality, rather than quantity, or are they justputting more effort into thinking investments through?I do not see the sizes of deals changing. The high-yield markets are not that forthcoming right now butthat market will inevitably re-open. The truly sizable deals have not hit the market recently, unless welook at the higher-quality credits or credits that have a strong backing by a financial sponsor. Generallyspeaking, in the middle market, the size of deals has not changed much. The components of the dealshave changed. For example, the market may see one sizable credit being split into several differentloan facilities among different lender groups, with one lender taking 60 percent of the deal and anothertaking 40 percent. My guess is that the market will see more of those deals in the future.Are people looking at alternative financing structures more actively? Have you come across anynotable innovative financing solutions in the past few years that you think will become attractivegoing forward?The market has supported more innovation in financing structures. There have always been secondw w w . ar g y l e for u m . co mA r g y l e E x e c u t i v e F or u m 1 2 2 W e s t 2 6 t h S t , 2 N D F loor N e w York , N Y 1 0 0 0 1

A r g y l e Co nv e r s a t i o n sNovember 29, 2011Page 4lien or last-out loans—some call them B loans or even unitranche loans, which is just a slight variation ona last-out loan—and I think that those will always be there. There is a lot more appetite now to partner withplayers who provide capital solutions that do not necessary rely on hard assets and working capital assets.These lenders are willing to come up with innovative solutions that capitalize on the value of a companythat may not necessarily be obvious. It appears that some more traditional lenders today are more flexiblein terms of agreeing to these particular structures and provisions. Oftentimes, prior to the crash, many of theterms related to these inter-lender or inter-creditor structures were not fully tested. Now that some of thesearrangements have gone through a down cycle, with some provisions being tested in bankruptcy courtbattles, it seems that lenders may be more willing to agree to these types of arrangements. It does not makethe structures or negotiations any easier, but it does quantify more of the risk components to the respectivelender groups. In the course of the past few years, lenders also are—and should be—more cautious aboutwhat is agreed to in terms of rights that are given up, especially in the context of bankruptcy rights.What are some of the factors lenders should be concerned about?Lending groups with inter-lender or inter-creditorarrangements need to be cautious about what theyagree to and how those agreements work. Forexample, being silent in terms of debtor-in-possessionfinancing structures or forgoing certain voting rights ina bankruptcy can make it much more difficult for alast-out lender to recover favorably. In widely syndicated deals where there was little negotiating leverageby the syndicate, this resulted in provisions that tended to be much more favorable to the first-out lenders.“Lending groups with inter-lender orinter-creditor arrangements need tobe cautious about what they agreeto and how those agreements work”On the other hand, in deals that are more closely held by several lenders, there are obviously moreopportunities to negotiate these arrangements. The past few years have made it clear that these inter-lenderand inter-creditor arrangements are important and lenders need to take a hard look at them, especiallylenders that may not have historically been lending in the last-out space.Based on your interactions with clients, what’s your feeling on where we are in the distressedcycle currently? How do you think things may play out in the next few years?I am not an economist, but if you believe some of them, the global economy is heading into anotherrecession, if it’s not already in one. On the other hand, there are others who believe the world economiesare in a recovery. Regardless of where we are in the credit cycle, there are always opportunities forlenders—whether they are branded as distressed lenders or opportunistic lenders—in either part of thecycle; companies will always need financing, whether it is rescue financing or growth financing.There seems to be a lot of capital that remains on the sidelines and many clients speak endlesslyabout the opportunities. If that is the case when it is a down cycle, one would think there will be evenmore opportunities in an upswing. If this activity is a result of an up cycle, then there could be evenmore opportunities in the very near future.w w w . ar g y l e for u m . co mA r g y l e E x e c u t i v e F or u m 1 2 2 W e s t 2 6 t h S t , 2 N D F loor N e w York , N Y 1 0 0 0 1

A r g y l e Co nv e r s a t i o n sNovember 29, 2011Page 5Are you seeing an increase in firms moving to business development companies, or to assetmanagement firms or distressed investors that are devoting a small portion of their businessto lending?Business development companies seem to be much more popular. We are seeing lenders who are willingto adopt that model and use it as an investment vehicle. That is in part an outgrowth of the liquidity crisis,which left some lenders without a permanent base of capital that is an advantage for BDCs. That is notto say that investment funds do not have the ability to deal with liquidity issues. From what I understand,investment funds have explored different methods to lock up capital on a more permanent basis.I have also been seeing more willingness by regional banks to partner with other lenders to provide middlemarket loans. It is hard to determine whether this trend is being driven by borrowers who are more willingto find liquidity at regional banks or if it is being driven by regional banks seeking more opportunities to fillin the credit space. Whatever the rationale, regional banks seem more willing to participate and even leadthe credit facilities that partner with more non-traditional lenders. Perhaps some of these banks have beena little hesitant about the nature of these structures in the past since they were not tested. However, as Inoted previously, given the outcome of some of these arrangements in bankruptcy proceedings, perhapsthere is more appetite by them to enter into these inter-lender or inter-creditor arrangements.What other trends do you expect to see over the next few years?In the area of distressed lending, there is no question that there are opportunities in the market; lenders arelooking for deals. There is hardly a day when I do not speak with my clients about a number of dealsthat are being pursued. Whether they are successful in securing the deal is a different story, but weare seeing much more activity, which is a good sign for the lending market, whether it be distressedlending markets or otherwise. Hopefully, this trend will continue and lead to an even more active market inthe next 12 to 24 months.w w w . ar g y l e for u m . co mA r g y l e E x e c u t i v e F or u m 1 2 2 W e s t 2 6 t h S t , 2 N D F loor N e w York , N Y 1 0 0 0 1

Kirby Chin Partner Schulte Roth & Zabel & Lily Robertson Argyle Executive Forum Hosted By: On November 29, Kirby Chin, partner at Schulte Roth & Zabel, talked with Lily Robertson at Argyle Forum about lending opportunities and