Roll up, roll up, who wants to lend £3bn to Thames Water, a company already drowning in debt? It turns out a lot of people do. Two rival groups of existing creditors – one representing the A class of bondholders, the other the junior Bs – have tabled proposals to provide the company with a “liquidity runway”, meaning emergency cash to get it through the next year or so.
At some point in that period, it is hoped, Thames would set about the more fundamental task of imposing losses on those same debtholders to clear the decks for new shareholders to inject capital. None of this is straightforward and some of today’s bondholders will probably also be tomorrow’s shareholders, assuming a debt-for-equity swap is possible. And “runway” is probably the wrong metaphor. We’re really talking about a sticking plaster before the main surgery on the balance sheet can begin.
But the price and design of that sticking plaster matters. It is why the board of Thames would be unwise to wed itself too tightly to the proposal it announced 10 days ago. That was from the As, who are clearly in the lead at this point and on Monday tried to rally other creditors around their plan.
First, they got in first. Second, the size of the class A debt, with a face value of £12bn, is much larger than the B borrowings; that is relevant because approval of 75% of both classes of creditors is required. Third, the As are being more transparent about who they are – the lineup of names included not just the US hedge funds Elliott and Silver Point, the controversial headliners that were already known, but also mainstream UK names such as abrdn and M&G.
But there is a very obvious problem with the A proposal: it looks hellishly expensive, even for a deeply distressed borrower such as Thames. The new money would come at an annual interest of 9.75%. That is aggressive when the new debt would have “super senior” status – in other words, rank above the A bonds in the hierarchy of claims.
The proposal also carries all manner of fees and charges that would lift the effective rate of interest even higher. And the money would come in two tranches – an initial £1.5bn to last until October 2025, and then a second £1.5bn if Thames skips off to the Competition and Markets Authority to dispute Ofwat’s final view on future bills that will arrive in December.
The Bs, by contrast, would lend at the lower rate of 8% (again in “super senior” form) and provide the full £3bn upfront. And, they say, the assortment of fees would be substantially lower, albeit the degree is disputed. The drawback is that the proposal is not yet fully nailed down in the sense of boasting a legally binding commitment from lenders to advance the sum. But that could come within days.
If it does, the stance of the board of Thames will be crucial. The safety-first option would be to stick with As because they’re more muscular and their current debt is trading at 70p in the pound rather than 15p-ish for the Bs. But that would surely be indefensible if better terms – possibly up to £500m once everything is added up – are potentially available.
The sensible approach for Thames’s board would be to generate as much competitive tension as possible. A state of war between rival groups of bondholders is not unexpected since both sides are jostling for position in the eventual debt-for-equity restructuring. At this stage, though, the job of the chair of Thames, Sir Adrian Montague, should be to try to play the two camps off against each other.
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The bottom line is that 9.75%, plus hefty fees, cannot be deemed pretty. Thames’s plight is desperate but we’re talking about “super senior” debt that will be repaid in most plausible scenarios.
Yes, the whole mess could still end up with the state via special administration, AKA temporary nationalisation, but therein lies another reason to fight for the least worse terms. If the Bs’ proposal can pass the credibility test, give it some public encouragement. Do not get ripped off.