Influenced by the seemingly intractable decline in energy prices, Bankruptcy Judge Christopher S. Sontchi refused to confirm a reorganization for Paragon Offshore PLC, even though the plan was accepted almost unanimously by impaired creditors.
Judge Sontchi held that the debtor failed to show “feasibility,” because he predicted that the reorganized company would either run out of cash or be unable to finance debt “when they meet their maturity wall in 2021.” He criticized the plan for siphoning “$450 million in cash out of the estate, which is at least $150 to $200 million too much.”
Still, Judge Sontchi said the company could reorganize successfully and even reinstate the debt owing to the term loan lenders, who mounted the only objection to plan confirmation.
The action by Judge Sontchi in Delaware may have avoided yet another chapter 22 filing, where a company needs bankruptcy relief a second time. Paragon currently has 40 offshore drilling rigs and entered chapter 11 in February, listing $1.43 billion in secured and $1.02 billion in unsecured debt.
The Plan
Judge Sontchi in substance rejected Paragon’s plan twice. He held a contested, five-day confirmation hearing in late June. At the conclusion, he conducted a chambers conference where he said the “court communicated its concerns regarding the achievability of the business plan.” As a consequence, the company modified the plan, which Judge Sontchi refused to confirm in his 70-page opinion on Nov. 15.
Originally, the plan called for paying down senior notes by $345 million and giving the holders 35% of the new equity and $50 million in deferred cash payments. The revolving credit was to be paid down by $165 million.
In the modified plan, senior noteholders were to receive $60 million less in cash and no deferred payments, plus 47% of the new equity and $60 million in new unsecured notes. Judge Sontchi still found the revised plan untenable, based on expert testimony and his critical analysis of the debtor’s own worst case sensitivity analysis.
Paragon was sunk by some of its own testimony at the confirmation hearings. At the original confirmation hearing, the debtor’s chief executive testified that the market was “definitely” at the bottom and “very close to turning around.” As it turned out, Paragon’s fleet utilization continued to decline into the second quarter of 2016.
Judge Sontchi cited trial testimony where the debtor admitted that it was bidding for new work at rates below the downside projections. He was also skeptical regarding assumptions about fleet utilization and daily rates, saying they were “aggressive and not achievable.”
Judge Sontchi showed more healthy skepticism when he saw “no reason to believe that Paragon is going to be able to outperform the market.” When it comes to refinancing, Judge Sontchi cited testimony that the fleet would be worth about $315 million — not enough to refinance the $1.3 billion in debt coming due in 2021.
Judge Sontchi nevertheless made a statement that is helpful for Paragon and other debtors. He said that balance sheet insolvency is not an automatic bar to confirmation. On the other hand, he said that solvency by itself does not satisfy the feasibility test.