On January 15, 2015, Caesars Entertainment Operating Company (“CEOC”), a subsidiary of Caesars Entertainment, together with certain of its subsidiaries, filed voluntary petitions for reorganization under Chapter 11. Caesars (formerly Harrahs) was a large pre crisis TPG and Apollo LBO. According to the 1/15/2015 Memorandum in Support of Chapter 11 Petitions Filed by David R Seligman on behalf of Caesars Entertainment Operating Company the debtor had the following outstanding:

As of the date hereof (the “Petition Date”), the Debtors have outstanding funded debt obligations of approximately $18.4 billion, comprising:

• four tranches of first lien bank debt totaling approximately $5.35 billion;

• three series of outstanding first lien notes totaling approximately $6.35 billion;

• three series of outstanding second lien notes totaling approximately $5.24 billion;

• one series of subsidiary-guaranteed unsecured debt of approximately $479 million; and

• two series of senior unsecured notes totaling approximately $530 million. [1]

Additionally, the org chart included in the filing is shown below:

czr-org

In larger, complex cases there are many creditor classes (in this case there are classes “A” to “V”), each with different notional, guarantees, entities, potential claims, holders, and recovery assumptions. As shown above, one of the smaller classes was the $479 million subsidiary-guaranteed notes.

The subsidiary guaranteed notes (through Wilmington Trust, N.A., as successor indenture trustee for the 10.75% senior unsecured notes), ended up challenging the 1st lien unsecured deficiency claim again each subsidiary guarantor. They argued that when credit agreements were amended in 2009, Section 7.18 made the debts of the first lien creditors non-recourse (only secured by specific collateral):

Wilmington objected to the First Lien Creditors’ claims to the extent they asserted unsecured deficiency claims. (Bankr. Dkt. Nos. 2030, 2031). Wilmington contends that section 7.18 of the Collateral Agreement made the debts to the First Lien Creditors non-recourse, limiting any recovery to the collateral. Although section 1111(b)(1)(A) of the Code alters that result in bankruptcy, Wilmington contends that in section 7.18 the First Lien Creditors waived their rights under section 1111(b)(1)(A) to assert unsecured deficiency claims.[2]

However, Judge Goldgar overruled the Wilmington objection on May 18th, 2016:

Wilmington’s objections will be overruled. The language in section 7.18 on which Wilmington relies is broad and if read in isolation might be found a waiver of rights under section 1111(b)(1)(A). But section 7.18 cannot be read in isolation. Under New York law (which the parties agree applies here (see Bankr. Dkt. Nos. 3138 at 12, 3139 at 2, 3142 at 7 n.12)), the Collateral Agreement must be read together with the other contract documents executed as part of the parties’ 2009 transaction. When the documents are read together, the most reasonable interpretation is that the First Lien Creditors did not intend to waive their section 1111(b) rights.

The subsidiary guaranteed notes could have continued to challenge the 1st lien claims, however it was in the interest of the debtor (in this case the sponsor, Apollo), to show to judge that progress was being made towards a plan and ultimate exit from bankruptcy and an easy way to do that would be to work with a small creditor class, in this case the subsidiary guaranteed notes. On June 7th, 2016 a restructuring support agreement was signed by the debtors and the subsidiary-guaranteed notes in which the subsidiary-guaranteed notes received new converts and 4.122% of the new CEC common equity:

On June 7, 2016, Caesars Entertainment Corporation (“ CEC ”), Caesars Entertainment Operating Company, Inc., a majority owned subsidiary of CEC (“ CEOC ” and, with its debtor subsidiaries, the “ Debtors ” and, together with CEC, the “ Caesars Parties ”), and certain holders (the “ Consenting SGN Creditors ”) of claims in respect of CEOC’s 10.75% senior unsecured notes due 2016 and 10.75% / 11.5% senior toggle notes due 2018 (collectively, the “ Subsidiary Guaranteed Notes ” and, the claims with respect thereto, the “ SGN Claims ”) entered into a Restructuring Support and Forbearance Agreement, dated as of June 6, 2016 (the “ SGN RSA ”), with respect to restructuring CEOC’s indebtedness (the “ Restructuring ”) in accordance with the terms of the term sheet attached as Exhibit A and incorporated into the SGN RSA (the “ SGN Term Sheet ”). The SGN RSA will become effective upon the signing of the SGN RSA by creditors holding at least 66.7% of the SGN Claims on or before June 30, 2016, which condition may be extended or waived in accordance with the SGN RSA (the “ Agreement Effective Date ”). All capitalized terms not defined in this description of the SGN RSA have the meanings ascribed to such terms in the SGN RSA.

Pursuant to the SGN Term Sheet, regardless of whether holders of SGN Claims vote to accept or reject the CEOC Plan, on the Effective Date, each holder of an SGN Claim will receive its pro rata share of (i) $116,810,000 in New CEC Convertible Notes and (ii) 4.122% of New CEC Common Equity on a fully-diluted basis (giving effect to the issuance of the New CEC Convertibles Notes but not taking into account any dilution from any New CEC Capital Raise). In addition, to the extent CEOC is successful in its objections relating to claims for unmatured interest asserted by the indenture trustees for holders of claims in respect of CEOC’s second lien notes [Docket No. 3915], and certain classes of creditors receive an increased recovery as a result under the CEOC Plan, the recovery for holders of SGN Claims will increase by the same percentage and the “Reduced Claim Adjustment” under the CEOC Plan for holders of Second Lien Note Claims will be further adjusted accordingly. Further, in the CEOC Plan, holders of First Lien Notes Claims and Prepetition Credit Agreement Claims, and their respective trustees and/or agents, will waive their rights to turnover under the Subsidiary Guaranteed Notes Intercreditor Agreement.[3]

This was a huge win for the subsidiary-guaranteed notes, as the tranche size was relatively small (they traded up 25 points in this news). It also encouraged other creditor groups to work with the debtor on future agreements, otherwise additional value would potentially be given to other creditor classes. The bankruptcy process is not as clear cut as most outside investors imagine, there is real negotiation between different creditor classes and the debtor that can drastically change the potential recoveries of each group. Oftentimes, an investor can find real value in smaller creditor classes with odd liens or guarantees which can make it easier to fight for value in a long bankruptcy process (it is easier for the debtor to give these classes incremental value than to have them be a nuisance and delay the process). As shown below, the 10.75 subsidiary-guaranteed notes rallied significantly after the RSA and now are even much higher (~110) as the CEC equity is worth more. Buying the subsidiary-guaranteed notes in early 2016 was one of the best distressed trades of the year (even including some unsecured energy bonds)!

czr-chart

[1] https://cases.primeclerk.com/ceoc/Home-DownloadPDF?id1=NjY0Njc=&id2=0

[2] https://cases.primeclerk.com/ceoc/Home-DownloadPDF?id1=MzQwMTQ2&id2=0

[3] http://investor.caesars.com/secfiling.cfm?filingid=1193125-16-615928&cik=858339