Global M&A Network named Gibbons the winner of its prestigious Turnaround Atlas Award, Special Situation M&A Deal ($25 to $50 million) category, at the organization’s 10th annual gala. The firm was recognized for its representation of Chieftain Sand and Proppant, LLC in connection with its chapter 11 proceeding and the sale of the company to Mammoth Energy Services, Inc.
The engagement was led by Howard A. Cohen, with assistance from FRCR Department attorneys Karen A. Giannelli, Natasha Songonuga, and Brett S. Theisen. On the corporate and finance side, Lawrence A. Goldman and Robert L. Johnson, Directors in the firm’s Corporate Department, advised Chieftain, with assistance from Richard S. Zackin, a Director in the Employment & Labor Law Department, on employee benefits matters. Finally, Christopher Viceconte, a Director in the Commercial & Criminal Litigation Department, took the lead with respect to litigation disputes. This article highlights some of the strategies that were employed and lessons learned in connection with the successful sale process.
Chieftain was a privately owned, Wisconsin based producer of hydraulic fracturing sand, a monocrystalline sand used as a proppant (a solid material, typically sand, designed to keep an induced hydraulic fracture open) to enhance oil and gas product recovery in petroleum-rich unconventional shale deposits. Like other companies in the oil and gas industry, Chieftain suffered greatly during the recent petroleum recession. At the time Gibbons was engaged by Chieftain Sand, the petroleum recession had caused approximately 105 North American oil and gas producer bankruptcies, and the company was in serious financial trouble. Notwithstanding the fact that Chieftain had very capable leadership, with no demand for frac sand, Chieftain could no longer afford to operate. Chieftain’s owner/lender was unwilling to contribute more capital or lend to the company and was looking for a swift exit.
Although everyone knew that very tough decisions had to be made in a short amount of time, one of the first steps that Gibbons had to undertake was to ensure that appropriate corporate governance procedures were followed such that no stakeholder or court would ever question that Chieftain carried out its eventual sale process free of conflicts and in a manner that would maximize value. At the time of the engagement, Chieftain’s private equity owner was the majority shareholder and lender to the company and controlled the board of directors. Although Chieftain had retained an investment banker to market the company outside of bankruptcy, it was evident that a sale would not occur in a timeframe that would preserve going concern value for the company. With liquidity needs becoming critical, and no prospective bidder willing to provide bankruptcy financing subordinate to the first lien position of the private equity owner/lender, it became clear that the owner would need to provide some limited bankruptcy financing, since the company did not have the funds to finance a chapter 11 case. Further, Gibbons knew that in order to attract other outside bidders, Gibbons knew that Chieftain would need the private equity owner to serve as a “stalking horse” purchaser since the market was depressed and it was important to show prospective bidders that Chieftain’s current owner had faith in the company long term. In order to avoid any issues concerning potential conflicts of interest, the Chieftain board of directors reached agreement with its majority owner that a special restructuring committee of the board would need to be formed. The special committee would be authorized to make all decisions with respect to a proposed restructuring without further board approval. Absent this arrangement with respect to restructuring decisions, Chieftain’s bankruptcy would likely have been sidetracked with allegations of improper conflicts of interest at a time when the company could least afford to address such matters. With the special committee being comprised of the Chief Executive Officer of the company, who was independent from the private equity owner/lender, as well as an independent outside director, Chieftain was able to avoid a potentially crippling fight over corporate governance issues.
Lesson Learned: Address corporate governance matters up front in the engagement. Where necessary, consider the use of a special committee and appointment of independent directors. Although the discussions were difficult due to the position that the private equity owner occupied in the capital structure, the outcome was positive since all parties acted in a manner necessary to preserve value.
One of the next important decisions that had to be made concerned how to bring in true outside purchasers and have a competitive sale process. Due to the fact that the owner/lender was acting as the stalking horse purchaser and could credit bid close to $65 million (the full amount of its debt), a right given to all secured lenders, we knew that convincing outside purchasers to bid was going to be difficult. At the time, we were at the height of the petroleum recession and the company could not even attract a low ball offer outside of bankruptcy. Further complicating matters, Gibbons was made aware, pre-bankruptcy, that outside bidders were not convinced the current owner would be willing to step away from its investment. Gibbons decided that the best way to address this problem was to discuss with the owner/lender contractually capping the amount it would be entitled to credit bid at auction. Based on those discussions, a cap on the credit bid of $7 million was set, and an initial bid of $5 million would be submitted for the assets of the company. With the contractual credit bid cap in place, Gibbons was able to attract additional bidders to the process, which resulted in a very vibrant auction and a final sale price of over $35 million.
Lesson Learned: Restructuring professionals need to be creative in their efforts to maximize value. By contractually capping the credit bid, Gibbons encouraged a very competitive bidding environment that resulted in a material increase in the purchase price.
After the sale of the company, it was very important for Gibbons to ensure that there was an appropriate conclusion to the chapter 11 case. It is not uncommon for companies to sell their assets in chapter 11 and be left with no cash to fund an exit from bankruptcy. The end result is the conversion of the chapter 11 case to a chapter 7 liquidation, which results in the appointment of a trustee who has no familiarity with the business and who can take years to close down the bankruptcy case. Recognizing this undesirable potential outcome, Gibbons was very clear with the owner/lender at the outset of the engagement that, should there be a successful sale process resulting in a sale to an outside purchaser, that the owner/lender would leave behind enough cash to fund a chapter 11 plan process, in order to provide the company with a very clean exit from chapter 11. Gibbons was very proactive in working with Chieftain’s financial advisor and in house Chief Financial Officer to come up with an appropriate wind down budget that would ultimately be presented to the owner/lender. Although there was some pushback (which is always the case), after some back and forth, the parties were able to come to agreement on the funding levels for the wind down budget, which resulted in a very speedy conclusion to the chapter 11 case.
Lesson Learned: A successful chapter 11 requires accurate budgeting by case professionals. Not only do professionals need to budget for the front end of the case, they should give the same careful thought early on as to what an appropriate wind down budget should entail. Exiting chapter 11 in a smooth manner is just as important as is a clean entry into bankruptcy.
We would be remiss to say that everything went according to plan during the chapter 11 process. Through the time of the sale, there was only one formal objection filed on the docket, which is virtually unheard of in any bankruptcy case. If things seemed too good to be true, we were about to find out that one of Chieftain’s railcar lessors was going to assert a multimillion-dollar claim that would have ensured the immediate conversion of the case to chapter 7 and the end to the plan process, a result everyone was looking to avoid. Even though Chieftain had filed a motion to reject most of its contracts and leases effective as of the date of the bankruptcy filing, this particular railcar lease was not included in the motion since the company believed this lease had terminated before the bankruptcy filing. Ultimately, the railcar lessor disagreed with this characterization and insisted that millions were owed during the chapter 11 even though the railcars had not been used during the case. Through a creative settlement structure, we were able to resolve the claim on the eve of trial and preserve enough cash to finalize the chapter 11 plan process. Going forward, out of an abundance of caution, it is best to be overinclusive with respect to leases and contracts as part of an early rejection motion, even when such leases or contracts might have terminated pre-bankruptcy. This is especially true in cases where the lessor might not have acknowledged return of all of its equipment prior to bankruptcy.
Lesson Learned: Try to gain an early understanding of what potential pitfalls might lay ahead in the restructuring process. With contracts and leases, spend the appropriate amount of time working with the company to understand all of its contracts and leases, including those that may arguably be terminated as of the filing date. In sale cases where the company is very low on cash and operating on a tight budget, it is probably best to err on the side of rejection especially with respect to contracts and leases where the purchaser can easily secure a replacement. Spending time to work through the contracts and leases with both the company and prospective stalking horse purchaser is critical to a successful outcome.
Chieftain was a successful case because all of the professionals and stakeholders worked cooperatively to maximize value. It also helped that Chieftain had a very talented management team that worked proactively to avoid disputes throughout the bankruptcy proceeding. Today, many of Chieftain’s former employees have their jobs back with the new company. The case of Chieftain Sand demonstrates that, through creative lawyering, value can be maximized for all constituents when chapter 11 is properly utilized.