Horizon Lines’ empty bankruptcy threat brings US DoJ to its knees; victorious hedge funds rejoice

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The US Department of Justice’s (DoJ) reduction of Horizon Lines’ price fixing fine last month dealt a winning hand to the cargo shipper’s unsecured hedge fund creditors, Debtwire reports.

North Carolina-based Horizon and its bondholders wielded the idle threat of bankruptcy to pressure the DoJ to reduce a USD 45m fine to USD 15m, said two bondholders, a hedge fund analyst, a sellside analyst and a trader. The government’s concession was ironic; since its price fixing claims would have been prioritized over the bondholders’ in a restructuring.

“The DoJ blinked,” said the hedge fund analyst. “They didn’t need to, but that’s what happened. The bondholders didn’t really want a filing because their recovery could have been 30 to 40 cents, but the company used the slight chance of bankruptcy as leverage.”

The DoJ’s stand down in Horizon mirrors similar soft touch approaches seen in recent corporate restructurings -- junior bondholders in last year’s Tronox and Asarco’s 2009 bankruptcy cases, for example, benefited from the government’s apparent willingness to take a discount.

Fears that Horizon was on the brink of bankruptcy had been looming since December when it lost its take-or-pay contract with a Danish shipping group Maersk Line, which accounted for roughly 12% of its annual EBITDA. The timing of the contract loss was inopportune since the company’s USD 330m 4.25% convertible notes must be refinanced before their maturity in August, 2012.

A host of legal woes, including a class action litigation brought by customers in Puerto Rico, compounded Horizon’s predicament. Separately, bond holders had the right to declare a default since the DoJ’s original USD 45m fine assigned in March exceeded the USD 15m amount permitted under the convertible note bond indenture.

Horizon leveraged on the possibility of a bond default by informing the DoJ that bondholders could declare a breach of the bond indenture and accelerate repayment of their notes, forcing it into bankruptcy. However, an ad-hoc group of bondholders led by financial advisor Houlihan Lokey had been working behind scenes with the company to avoid a bankruptcy filing by executing an exchange into new notes, according to all the sources .

Thank You, Uncle Sam

Although Horizon’s path to financial stability still rides on stormy waters -- the company reported negative USD 7.4m of EBITDA for the first quarter -- the government’s appeasement has injected new value into the company’s debt. The company’s 4.25% convertible bonds traded at 87.25 the first week of May, up from 77 on 12 April.

“For junior creditors, a USD 30m fine reduction translates to incremental value,” a third bondholder said. “But at the same time, now that the fine has been reduced, it just emboldens the class action litigants in Puerto Rico to ask for USD 30m more in settlement negotiations.” Plaintiffs in that case included major customers such as Coca-Cola, Frito-Lay, Sears, K-Mart and Purina.

The DoJ’s value give-up in Horizon mirrors the compromise the Environmental Protection Agency (EPA), a secured creditor, cut with unsecured hedge fund creditors in chemical company Tronox last year.

Rather than battle bondholders for more cash, the EPA agreed to take massive losses on its structurally senior claims. The Oklahoma-based company’s unsecured bondholders walked away with equity worth more than double the face value of their bond claims, while the EPA was left with a 30% recovery.

Similarly, the EPA opted to take a USD 1.7bn repayment on its USD 6.5bn environmental remediation claim in Asarco’s bankruptcy case. The Arizona, US-based copper miner’s bondholders received 100% recovery on their claims, as well as accrued interest, when the company emerged from Chapter 11 in December 2009, while the sponsor, Grupo Mexico, continued to own its assets.

“But comparing the EPA to the DoJ is not a clear apples-to-apples critique,” one bankruptcy lawyer said. “The EPA will often times just inflate the estimate of its claim to maximize value, so the number they walk away with usually isn’t that far off what they need. The DoJ on the other hand, all I can say is maybe they were pressured to save jobs that could be lost if Horizon goes bankrupt.”

Calls to Horizon and Houlihan Lokey were not returned. A spokesperson from the DoJ declined to comment.

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