Current Price: $6.40
Offer Price: $7.00+ (with potential increase)
Expiration date: TBD
This idea was posted on VIC when the share price was lower and uncertainty much higher. At this point the situation presents close to risk-free opportunity to benefit from the expected better offer for the minority shareholders in GTX voluntary bankruptcy case. Keep in mind that this write-up and investment idea include various legal issues and nuances – I am not a lawyer so take whatever I am saying with a grain of salt and do your own due diligence before investing.
Garrett Motion (manufacturer of turbochargers) voluntary bankruptcy is proceeding very fast and seems to be geared to enrich the controlling shareholders (58% ownership) at the expense of minority owners. Recently the offer by controlling shareholders was selected as a winning bid and includes an equity cash-out option of $6.25/share – making the downside well-protected at current share price levels. Meanwhile, the equity committee and minority shareholders are opposing the winning bid and claim that other bidders have made superior proposals (for both creditors as well as minority shareholders). On top of that, equity committee came up with its own reorganization plan, which at least on paper seems to offer more than 100% upside for minority shareholders in the long term and the latest revision includes $7.00/share cash-out option (documents have not been finalized yet).
However, for the equity committee proposal to be considered, bankruptcy court needs to terminate GTX management’s exclusivity to select the winning bid on its own (the management is obviously favoring the interests of its controlling shareholders). There are a number of arguments – outlined in the sections below – suggesting the exclusivity is very likely to be terminated. And if it does happen, shareholders can expect higher cash-out price, further bidding war, or simply a more favorable outcome from the equity committee’s plan.
Equity committee motion to modify exclusivity will be heard by the court on the 16th of February.
Bankruptcy filings docket can be found here.
GTX was spun-off from Honeywell in March’18. Together with the spin-off, it has entered into an Indemnification and Reimbursement Agreement, which bound the company to cover Honeywell’s costs of personal injury claims of the employees exposed to asbestos-containing products stemming from the Honeywell Bendix division. In Dec’19 GTX went to court arguing that the agreement was improper and seeking relief from these liabilities. The court hearing for this litigation is set for the first half of Feb’21.
In Sept’20 GTX filed for Chapter 11. The company was actually solvent and the main purpose of this bankruptcy was to eventually get rid of Honeywell’s legacy liabilities ($1.4bn at the time of the filing). Honeywell is fighting to keep these liabilities intact and has partnered with two GTX controlling shareholders (Centerbridge and Oaktree) to win GTX bankruptcy auction with a proposal that would see Honeywell’s liabilities almost fully covered.
Through bankruptcy proceedings, Garret Motion has conducted an auction for the operating business where three parties showed interest and have been increasing their offers multiple times.
- KPS (family of investment funds with $11bn AUM) – was the initial stalking horse bidder, whos offer came first when GTX filed for bankruptcy. From the filing of Chapter 11 until the end of the auction, KPS bid was officially the favored one by GTX, and eventually, on the 8th of January’20 (Friday) it was chosen as the winning bid. However, after the weekend debtors have strangely changed the winner to COH group (see section below) without any explanation. KPS final offer was a business takeover proposal with an opportunity for equity shareholders to subscribe to up to 40% of post-restructuring equity. Worth noting that KPS valued Honeywell’s liabilities at 0.
- COH – a group of two prominent PE firms (Centerbridge and Oaktree) and Honeywell (ex-parent of GTX). In total, the group controls 58% of GTX shares. Their latest offer was chosen as the winning bid in the auction and was the only bid to include a straightaway cash-out option at $6.25/share (or subscribe for up to 31% of post-restructuring equity). Under the terms of the agreement, Honeywell would receive payment for nearly all of their asbestos claims ($1.1bn) just extended several years out.
- Investors group led by Owl Creek (PE firm). Their final proposal included a debt and pref share injection while giving shareholders an opportunity to participate in up to 80% of post-restructuring equity. Honeywell’s liabilities would be largely paid back.
Right after the announcement of the winning bidder, equity committee (formed to protect the interests of the equity holders), has started an opposition campaign against COH’s offer claiming it is favoring the controlling shareholders and significantly and unnecessarily dilutes the minority investors. As reported by the committee, most minority shareholders (40%-50% of them) also objected to COH’s offer. Consequently, the committee has proposed its own standalone plan, which would have similar creditor settlement terms as the COH offer (including Honeywell), but significantly less dilutive to minority equity holders. The latest iteration of the equity committee plan also seems to come with a $7/share cash-out option.
All of the offers came in different structures and terms, however, the most important value factor for minority shareholders is the actual percentage of the equity being reinstated for pre-petition owners after the restructuring. This is illustrated in the following table (as presented by the equity committee):
Clearly, COH proposal was designed to favor controlling shareholders at the expense of the minority investors. Assuming full shareholder participation in the pref offering, equity would still get diluted significantly – current equity holders would own only 30.7% of the post-organized equity, with the rest of value transferred almost solely to the controlling shareholders through issuance of very lucrative preferred convertible shares. Meanwhile, equity committee’s standalone plan would allow significantly larger participation in the reorganization resulting in 96% of the equity being reinstated. The value difference caused by the dilution also very visible in the long term projections:
Equity committee has stated that the COH proposal “needlessly transfers $1.1bn value away from shareholders” and now has filed a motion to terminate GTX exclusivity to file a plan of reorganization.
Equity Committee’s motion
Under the bankruptcy laws, when the company files for Chapter 11, debtors (i.e. the company that filed) gets an exclusivity period of 120 days to file a plan of reorganization. Exclusivity allows the company to be in control of its own reorganization and, in this case, choose the winning bid in the auction. The reorganization plan then has to be approved by the bankruptcy court. The exclusivity period can be extended or terminated by the request of other interested parties. Its termination allows other interested parties to come up with their own reorganization plan that will be equally evaluated in court.
For the court to consider the termination request it must pass the requirement of “cause” – the interested party must demonstrate that there is sufficient ground for such a request. The are several “cause” factors that the court considers, yet not all of them are relevant for each case (page 2).
Equity committee is currently seeking to terminate debtors’ (=GTX) exclusivity and have its own standalone plan to compete with COH proposal. The whole case is presented in detail in the Equity Committee’s Motion Filing, which also provides a lot of details on the background of the sale process and is well worth reading.
The committee argues that termination would make a “good faith progress toward reorganization”, which debtors failed to achieve by completely ignoring its equity holders. It also clearly shows how one-sided COH proposal is and throws light on rather strange debtors’ behavior during the whole process, e.g. filing bankruptcy for a solvent company to nullify Honeywell’s liabilities, then choosing COH proposal (which largely keeps those liabilities intact) over KPS during the last minute. In fact, the whole background and auction sale process described in the docket would make a rather good script for Billions (TV show).
Overall, to my uneducated eye, the committee’s case seems sound and there are several reasons to believe that the court might make a favorable decision here:
- The whole case is clearly set up to argue that termination would be in good faith progress towards reorganization and be very beneficial for shareholders, while not actually harming the company or its creditors (under the standalone proposal, all creditors would receive precisely the same treatment as with COH).
- The equity committee states that it is common practice for courts to terminate the exclusivity when debtor “has inappropriately sought to favor equity or another stakeholder group; has sought to feather the nest of incumbent management; or has caused the Court to lose confidence that it could ever come up with a confirmable plan”. The case shows that the debtors have chosen COH proposal despite there being numerous other alternatives that treated creditors equally well and equity shareholders more favorably.
- The judge seems to be considerate towards the minority shareholders. He has previously delayed the auction approval and ordered for the bidding parties (only KPS and COH at the time) to continue negotiations stating that one bid is not clearly superior to another (at the time KPS offer was $2.6bn, while COH offer did not include the cash out option yet). Later on, he allowed the auction approving KPS as the stalking horse bid stating: “I’m not happy with my options […] If I let KPS walk or take a risk that they walk, there’s no baseline”. Moreover, the court indicated that they actually want to see someone to make a similar proposal to COH. One of the comments made by the court was:
It would be an interesting conundrum for Honeywell if somebody else proposed a plan that had the exact settlement terms . . . as to Honeywell but different terms as to other people as to how exactly Honeywell would explain that that was improper.
The standalone plan from the equity committee offers exactly that – same settlement for the creditors + significantly less dilution for the minority shareholders and now even the cash-out option at a higher price. Thus, it would be hard to imagine the judge turning away from the interests of the minority s and approve COH proposal.
Worth noting that even if the exclusivity termination is not granted, the current opposition of the equity committee can still be valuable when the court will evaluate COH offer:
Even if the court does not terminate exclusivity, the parties will have alerted the court as to their concerns and will have previewed issues that may arise when the debtor ultimately files a plan.
I’m not exactly sure if under these circumstances the judge could singlehandedly block COH proposal and to what further developments it could lead (if anyone has an insight on this, please share).
Debtors have, of course, objected the motion. However, I think their contra-arguments are significantly weaker than the equity committees.
Potentially further developments
With the situation that we currently have on our hands, the downside is protected at $6.25/share (COH cash out option). However, there are several potentially favorable developments that could take place in the future. The most important is whether the court will grant the termination of exclusivity. As quoted by the equity committee:
Termination of exclusivity provides an open market for competition in the form of competing plans.
This should get decided during the upcoming weeks – equity committee motion hearing set for the 16th of February.
If the exclusivity is terminated and the equity committee files its own standalone plan then we have a number of ways to win here as GTX minority shareholders:
- If the equity committee’s plan eventually wins, there will be $7.0/share cash out option and GTX could be an interesting long-term investment opportunity (if equity committee targets are to be trusted)
- It’s very likely that COH would increase its bid (quite possibly in the cash-out portion as well). The group has already raised its bid 3 times (see the timeline below), while the equity cash-out option has been added only at the last minute. COH clearly believes GTX is worth significantly more than the $6.25/share cash-out option. At current terms, COH is getting a real bargain here with all the involved parties of the group looking at multi-bagger returns. The group’s proposal includes an issue of $1.25bn of preferred shares that pay 11% annually and are convertible to common at $3.50/share. Meanwhile, GTX is expected to generate $672m adj. EBITDA in 2024. Using the same 6.54x multiple that all bidders used to evaluate their offers, this would translate into about $8/share price in 2024 with their current offer. Considering the dividends from pref. shares, etc. the returns for Centerbridge and Oaktree would be even higher. Honeywell is also highly incentivized to proceed with their bid as this is their only chance to secure a large portion of their asbestos claims, which otherwise would likely be cut significantly. At the current COH offer terms, Honeywell has secured $1.1bn in payments. So current terms are indeed favorable for the COH group and there should be enough headroom for an improved offer.
- There is also a chance that the other bidders (KPS and Owl Creek) will decide to submit improved offers. Based on my (minimal) understanding of bankruptcy laws, after the exclusivity termination, any interested party can submit their own proposal. Creditors and shareholders are considered to be interested parties. Owl Creek owns nearly 5% of GTX and according to the equity committee’s calculations (table above) their offer was quite close to the one presented by the equity committee (in terms of equity reinstatement for pre-petition shareholders). I haven’t found any information regarding KPS ownership, so its not clear if they would also be eligible to participate after the termination. The appearance/return of another bidder would further incentivize COH to increase their proposal.
If the exclusivity termination is not granted, then as stated above, there is still a possibility that the judge would consider all the issues raised by the committee and minority shareholders and decline to approve the COH offer at its current terms.
The worst-case seems to be that if COH offer goes through at current terms, the downside is protected at $6.25/share cash-out option.
Haircut to Honeywell liabilities
Just a quick note regarding the asbestos claims. The hearings regarding the validity of Honeywell liabilities are set for the first half of February. Overall, it’s quite likely that Honeywell’s claims will be cut significantly by the court.
Honeywell has been acquiring GTX shares from October to mid-December (paid up to $4.20/share). At this time, KPS proposal was considered to be the leading bid. However, under KPS offer, for equity shareholders to recover anything of Honeywell’s liabilities had to be cut by 63% and for shareholders to recover anything above $4.2/share those liabilities have to be cut by 80%-90%. These purchases seem to suggest Honeywell itself expected the court to cut these liabilities significantly (this theory fails if there was some kind of secret pre-agreement that COH offer would be announced as a winning bid eventually). KPS bid was valuing Honeywell’s liabilities at zero. Gabelli Funds also called Honeywell’s claims overstated and eventually sued the company.
The background of the situation is provided in the section below. Some additional details on the background and auction process can be found in the equity committee’s filing (docket 794).
- 20 September’20 – GTX filed for Chapter 11 and entered into a $2.1bn stalking horse purchase agreement with KPS – a combined stock and asset plan sale of the Company.
- 13th October – Centerbridge and Oaktree (two large asset managers with $25bn AUM and $140bn AUM respectively), which at the time held 48.6% of GTX, partnered with Honeywell and submitted a reorganization proposal, which oversaw reinstatement of the common equity, $1.15bn preferred stock injection in GTX (with 12% dividend rate and convertible at $3.50/share) and payment for all creditors except Honeywell. Honeywell would be left as a single impaired creditor, with its claims converted into $275m upfront cash and the rest into preferred stock with payouts scheduled over a 14 year period. Total payments for Honeywell would sum up to $1.45bn. Centerbridge and Oaktree would come out owning 60% of GTX.
- 19th October – KPS increased their bid to $2.6bn and added an option for equity investors to subscribe up to $350m of common shares.
- 23rd October – Bankruptcy court authorized GTX to proceed with an auction and sale process. Despite COH slightly upping their offer (including $84m or $1.11/share distribution), KPS was chosen as the leading bidder putting. The summary of both proposals as illustrated by COH can be found in docket 273.
- 18th November – GTX appointed an equity committee.
- 10th December – Owl Creek (private equity) submitted a competing proposal with EV at $2.7bn, which included $1.2bn of new debt financing and $735m rights offering for new preferred shares. According to the offer, equity investors would be able to participate in up to 80% of the preferred stock issuance. The plan oversaw that equity shareholders would be reinstated and own 80%-90% of the post-bankruptcy shares.
- 18th December – Auction was postponed for the 21st of December.
- 21st December – COH slightly sweetened their proposal, mainly dropping the Series A Preferred Stock rate from 12% to 11%.
- 4th January – During the second round of the auction Owl Creek increased their proposal from $2.7bn to $2.75bn and then later to $2.765bn.
- 5th January – KPS increased their bid from $2.6bn to $2.765bn and then to $2.9b + up to $250m of new money rights offering of new common stock.
- 8th of January – GTX selected KPS as the winner of the auction.
- 8th of January – GTX announced a new plan of reorganization.
- 11th January – COH improved offer was selected over KPS instead (without any explanation). A newly updated proposal included an option for common shareholders to choose whether to cash out at $6.25/share or retain their shares and subscribe for up to $200m out of $1.25bn of series A pref stock (convertible at $3.50/share). Some changes of payment for Honeywell claims were made – larger initial payment in exchange for smaller short term (in 2022) installment payments. The pref stock conversion price remained the same, however, given that COH held 58% of the equity, the offered subscription amount to minority shareholders was very small (7% of the total offering). Nonetheless, for the first time in the GTX sale process, a proposal included a clear cash-out option for equity holders.
- 13th January – equity committee heavily criticized the whole auction process and debtor’s actions stating that debtors have consistently disregarded equity shareholder’s interests and have chosen the least attractive offer (COH) for the minority shareholders. Equity committee claimed that the initial goal of the bankruptcy (to nullify Honeywell’s claims) was not reached and that by choosing COH debtors were transferring $1bn of shareholders value to COH group this way significantly diluting the minority shareholders. The committee also claimed that most of the minority shareholders were actually opposing the COH bid
Against the Equity Committee’s clear, consistent, and strenuous opposition, the Debtors nevertheless chose to pursue what the Debtors believe is the path of least resistance rather than the path to maximize shareholder value, in abdication of their fiduciary duties to the estate and shareholders. […] The committee claimed that most of the minority shareholders were actually opposing the COH bid. Following conversations with numerous shareholders that the Equity Committee estimates represent between 40% and 50% of the unaligned GMI shareholders, the Equity Committee believes that the overwhelming majority of that group opposes the COH Group Bid
- The committee has also presented their own standalone plan, which involved $800m preferred stock financing from Atlantic Park and $1.85bn senior secured financing. Prefs would be non-convertible, redeemable after 3 years, and include at the money warrants for 15% of the company’s equity. 75% of the preferred shares would be available for the shareholders (32% for the minority vs 7% with COH offer). A comparison of the bids was provided in the docket 726.
- 22nd January – GTX filed an amended reorganization plan.
- 26th January – equity committee filed a motion for debtors exclusivity termination. It was also stated that previous debtors’ concerns over standalone plan funding had been alleviated – the plan now had two major financial institutions ready to provide the funds on a “highly confident” basis.
Debtors expressed doubt whether the Equity Committee could secure equity financing and senior debt financing for the Stand-Alone Plan. Those misgivings have now been dispelled.
- 26th January – debtors objected the equity committee’s motion to terminate exclusivity.
Garrett Motion designs, manufactures and sells highly engineered turbocharger, electric-boosting, and connected vehicle technologies for original equipment manufacturers.
The company took a hit due to the COVID outbreak – Q1 revenues fell 11% YoY, adj. EBITDA -32% YoY, Q2 revenues decreased 40% YoY and adj. EBITDA was -59% YoY, Q3 revenues fell -3% YoY.
Revised business outlook (Dec’20) estimated the company to recover to pre-COVID adj. EBITDA levels in 2022-2023: