Capital Finance Case Study: Bankruptcy

Bankruptcy is a time of turmoil and uncertainty in any company, in addition to employees leaving and a loss of confidence from vendors and customers, management is restricted in their ability to make decisions and navigate the company. Because of the heightened uncertainty, many investors abandon the company, greatly reducing the value of the company, making the process even more difficult. However, savvy investors can generate large returns by entering the company at the right time as it begins to rebuild, so long as they can determine which companies will fail, and which will recover. H Partners is currently engaged in this process with Six Flags, having already gathered substantial returns on Six Flags’ senior debt, H Partners is determining

For the purposes of this consideration an enterprise value of $2 billion will be used to correct for a possible overestimation of Six Flags enterprise value. When a company is going to losing value, as Six Flags is, investors will want to hold the safest securities they can to avoid all their value being eroded. In this case, neither common nor preferred stocks are going to receive any recovery. This is intuitive as creditors will not approve a reorganization that gives money to equity holders, as they want that cash to recover more of their losses. Ideally, H Partners would hold the most senior, unsecured debt that is available, in this case SFO bonds. The only security that would be safer is secured debt, however, this debt is not going to be purchasable as the issuing party can recuperate all their capital through the underlying assets. While it is not guaranteed that the senior debt will be completely safe, it is the most likely to survive and recover more than the other

To determine the enterprise value, the equity is added to the debt and the cash equivalents are deducted from the total. Minority shares and preferred equity are usually added when calculating enterprise value, however, Six Flags does not have these positions in the newly proposed structure so they do not need to be included. The proposal features $450 million for 69.8% of the new equity, valuing the total equity at $644.7 million, Including both the revolver and the term loan Six Flags will raise $830 million in debt. Finally, the cash that Six Flags will hold needs to be determined, taking an average of cash and equivalents since 2003 yields a mean average of $163.7 million which needs to be deducted. Understanding Six Flags’ enterprise value of $1.311 billion (Exhibit 2), H Partners is able to make a more informed decision as to the overall health of the company. It is also important to note that the enterprise value is influenced by the amount of cash that Six Flags will hold after the reorganization. The enterprise value can be inflated by lowering the amount of cash that Six Flags is going to hold, however, the less cash they have available to them, the higher the chance of falling back into liquidity problems, therefore, we feel that taking an average is a reasonable way to determine the amount of