Cayman Islands: Offshore Restructuring Outlook

Last Updated: 5 March 2018
Article by David R. Bulley

 The first quarter of 2018 has seen the Dow and NASDAQ pushing through record highs, increasing consumer confidence in the U.S. and Europe (excluding the UK) and the January ADP jobs report, the latest at the time of writing, showed private payrolls increasing by 49,000 (26.5%) more than expected. Further, cheap credit, not only from traditional bank sources but from the private equity and hedge funds that have used their dry powder to pile into the corporate lending space, has continued, with the Alternative Credit Council and the Alternative Investment Management Association expecting private credit funds to manage in excess of $1 trillion by 2020 (up from $600 billion at the end of 2016 on the basis of Preqin data).

However, notwithstanding the above positive data, there are segments in the market that are expected to need continued restructuring work, both onshore and offshore through 2018, particularly: offshore oil and gas drillers; European and U.S. retail; and the highly leveraged Chinese real estate sector.

Energy Restructuring

Two key issues exist for the offshore oil and gas drillers: 1) the price of oil; and 2) the continuing oversupply of rigs in the market. Both will feed into the number of new drilling contracts being awarded, as well as the day-rates achievable for such contracts.

As shown in the graph above, the price of oil increased at the start of 2018 and, in January 2018, crossed $70 a barrel for the first time since Dec. 2, 2014. This has been driven primarily by OPEC/Non-OPEC compliance with agreed production cuts and the collapse in Venezuelan output, which drove OPEC compliance to 129% in December 2017. With the OPEC/Non-OPEC deal currently in place until the end of 2018 and problems in Venezuela expected to continue, there are prima facie reasons to expect a supply-side driven rebalancing in the market, as shown in the IEA's Demand/Supply diagram below.

However, notwithstanding these supply-side factors, while there are some commentators who expect a breakout in the oil price in 2018, I expect oil to generally remain range-bound between $60 and $70, with occasional upside swings due to short-term supply issues, as was seen in late 2017 with the crack in the Forties Pipeline and the explosion at a Libyan pipeline, which cut 70,000 – 100,000 bpd from Libyan production. The main reasons for this are the increasing short-cycle production in the U.S., where U.S. rigs are able to react quickly to increasing oil prices and come back online, as shown by Baker Hughes' +235 U.S. rig count change from Jan. 27, 2017 to Jan. 19, 2018, and the oil price hedging, which onshore producers have entered into during the recent oil price rally that will allow them to pump oil profitably throughout the lifetime of the hedge.

Given this oil price expectation, there is unlikely to be significant growth in the number of drilling contracts being awarded, notwithstanding that there have been signs of the start of a recovery in the harsh environment sector (particularly the semi-sub harsh environment sector, as shown by the recent acquisition of the Stena MidMAX for a reported $500 million). Further, where new contracts are awarded, the day-rates achievable will be minimal due to the competition for contracts as companies look to put their warm and cold-stacked rigs to work and the contracts may be long-dated as oil producers try and lock in low day-rates for 2019 and beyond.

On this basis, I expect to see a bifurcation in the market between: 1) companies whose fleet consists of primarily later generation drilling rigs, which will be favored by oil producers who may be able to contract such rigs at low day-rates; and 2) companies with older generation warm and cold-stacked rigs as such older rigs will struggle to compete for contracts with the newer generation rigs and may end up never returning to the market. Those companies who fall within the later will be prime restructuring candidates.

A further interesting dynamic that will start to play-out in 2018 is the impact of previously restructured companies. In 2017, Ocean Rig successfully restructured its debt by way of multiple Cayman schemes of arrangement. Pacific Drilling and SeaDrill are currently undertaking restructurings by way of Chapter 11 — with right-sized balance sheets and no/limited debt service costs, these companies should be able to undercut their competitors for new contracts, potentially forcing financially stronger companies to restructure their own debt simply so that they can compete for work (as was previously seen in the U.S. aviation industry).

Therefore, the ability of offshore drillers to avoid restructuring will primarily depend on their existing backlog and debt maturity profiles rather than cash flow from new contracts this year. On the basis of this analysis, there are three or four offshore drillers who are currently obvious restructuring candidates, including one company that currently has all of its rigs, warm or cold, stacked, and a maturity schedule that includes large repayments due in 2019.

Further candidates are likely to be added to this list throughout 2018 as rigs roll off existing contracts and, as expected, extension options fail to be exercised. As such, there is an expectation that we will see continued restructuring work from the offshore drilling sector in the next 12 months, although it will remain to be seen whether this will be through an offshore driven Ocean Rig style restructuring or through the use of Chapter 11.

In addition, or potentially as an alternative, there will be a continuation of M&A in the offshore drilling sector. 2017 saw a number of strategic acquisitions being implemented, including Ensco's acquisition of Atwood, the acquisition of Songa by Transocean, and the acquisition by Borr Drilling of Transocean's jack-up fleet. It can be expected that further M&A will occur throughout 2018, with a number of offshore drillers expected to be interested in strategic distressed acquisitions in order to acquire increased backlog and assets at a distressed price.

Retail

The first quarter of 2018 has been another difficult one for retail, following 2017 which saw almost 7,000 store closure announcements in the United States, according to a tracker from FGRT. This trend of closures is expected to continue throughout 2018 as companies readjust their brick and mortar operations in light of the continued increase in online shopping, although this may be curtailed in the U.S. to some extent by the recent Teavana ruling in which Simon Property Group managed to prevent Starbucks from closing 77 of its Teavana stores.

However, the financial distress in U.S. retail has not fed through into an increase in offshore restructuring work, as restructurings in this sector are undertaken onshore. This is true even for those companies with an offshore holding structure, as can be seen in the Chapter 11 restructuring of Gymboree, which had its ultimate holding company in Cayman. As such, the continued distress in U.S. retail is unlikely to contribute to the offshore restructuring workload.

The restructuring of UK retail on the other hand provides an opportunity for offshore restructuring lawyers to provide assistance in three key scenarios: 1) the group includes an offshore holding company; 2) the group includes an offshore financing company; or 3) the restructuring will consist of the creation of a new offshore, predominantly Jersey, holding structure and the transfer of assets into the new structure.

In fact, 2018 has already seen significant credits in the market that involve such scenarios including Carillion (although not retail, this is a good example of where offshore finance company issues can arise), whose structure included a number of Jersey and Isle of Man entities, including a Jersey issuer of convertible notes and the fashion chain New Look, which has a Jersey holding structure.

Looking at the reasons for distress in this sector, a number of significant challenges have affected UK retail in the past 12 months, including an increase in the statutory minimum wage, increasing business rates and the continued impact of the 2016 Brexit vote, which reduced consumer confidence and devalued GBP, increasing input costs for many UK businesses.

Further headwinds include: declining consumer confidence/consumer spending as high inflation and wage stagnation squeeze real disposable income; increased input costs as the pound remains devalued against the USD and currencies pegged to the USD potentially devalue further as Brexit negotiations continue; and continued movement from in-store to online sales, hitting those retailers with a large brick and mortar presence expected to continue through the remainder of 2018, driving the need for further restructuring.

In addition, the General Data Protection Regulation (GDPR) will come into effect in May 2018, which will impose additional data protection rules and increase potential fines for non-compliance from their current levels to up to €20M or 4% of turnover. In July 2017, research from Compuware showed that 77% of retailers did not have a GPDR strategy in place, and less than 50% were well-briefed on the potential impact of GPDR. As such, there may be a substantial impact in the coming months as retailers spend significant amounts preparing for these changes in data protection laws or risk fines and reputational risk for breaching the new laws.

Given these issues and the continued Brexit uncertainty, 2018 is expected to be a very challenging year for UK retailers and significant UK retail restructuring can be expected. While the majority of these restructurings may not involve an offshore element, a number can be expected to include (or at least consider) the transfer of assets/the business into a new offshore holding structure or dealing with debt at an offshore finance company and will therefore drive work for offshore firms, particularly in Jersey.

Hong Kong and China

At this time, restructuring professionals are still not seeing the flow of work that has been predicted for a number of years based on Chinese NPL and "Special Mention" loan statistics, with such loans totaling around RMB ¥4 trillion (or U.S. $628 billion) based on 2016 data. This is in part due to the continuation of cheap credit as well as the work by President Xi Jinping's administration to use the mixed ownership reform program to deal with some of the most indebted SOEs.

One notable case that deserves mention is the restructuring plan of Dongbei Special Steel Group Co. Ltd., which was approved by the Dalian Intermediate People's Court and consisted of the first debt for equity swap in relation to publicly issued bonds that were in default. While not an offshore matter, interest will be taken in whether this structure is used more frequently going forward.

While some commentators are now predicting late 2018 as the time when more restructuring work flows from China and Hong Kong, there is limited data to support this. There will certainly be some additional pressure points on companies with USD denominated debt as interest rates rise, primarily driven by the expected movement in the USD/Yuan peg as capital flows back to the U.S., but the Fed's proposed path of interest rate rises, as shown by its December 2017 dot plot (the latest available at the time of writing), shown below, is unlikely to be sufficient to force a significant increase in restructuring work. This is true notwithstanding the slightly more hawkish Powell replacing Yellen as chairman of the Fed and the January 2018 FOMC statement, which referenced increasing inflation in the U.S.

Further, while China's GDP growth rate has slowed to 6.7% (or lower if you look at other indicators such as rail traffic, electricity consumption and coal consumption), the economy is unlikely to slow to such an extent that widespread debt restructuring would be required.

Notwithstanding the above, there are sectors that are more prone to restructuring need. One of these is the highly leveraged real estate sector, where firms have approximately $63 billion of USD denominated debt but have FX assets cover of less than 25%. When you add to this the traditional reluctance of Chinese firms to hedge against currency risks, due to the expectation that the cost of hedging would be more costly than the protection provided in light of the USD peg, this is certainly one sector which could be hard hit by FX movements as U.S. interest rates rise.

In addition, it will be necessary to continue to follow U.S./China relations, particularly in light of the continued threat of further tariffs being imposed by the U.S. on Chinese imports, and the expansion of those already in place (such as the imposition of heavy taxes on steel imports from Vietnam as the U.S. believes China is using Vietnam to avoid penalties).

Finally, restructuring work can be expected on an ad hoc basis as accounting issues come to light, primarily in PRC companies where there has traditionally been less stringent regulation, as seen in the ongoing Huishan Dairy matter.

Overall, offshore restructuring lawyers will continue to monitor the financial situation in Hong Kong and China very closely in Q2 – Q4 of 2018. With over 40% of Hong Kong listed companies being incorporated in Cayman, and a large number in BVI and Bermuda, there will certainly be a need for offshore restructuring advice, particularly in certain over-levered sectors as interest rates rise. However, the traditional issues of implementation and enforcement in PRC may limit the scope for offshore restructuring solutions to be used. Further, the new threat to the use of traditional offshore solutions from Singapore's new insolvency legislation, which includes, among other things, rescue (DIP) financing and aims to turn Singapore into a restructuring hub as well as an arbitration hub, may further limit the role of the traditional offshore jurisdictions.

Conclusion

At the time of writing, there are strong indications that offshore restructuring teams will continue to be busy throughout 2018, both on offshore driven restructurings and providing assistance to onshore counsel for Chapter 11 and UK scheme/administration processes.

Previously published in the Bankruptcy Strategist

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
 
Some comments from our readers…
“The articles are extremely timely and highly applicable”
“I often find critical information not available elsewhere”
“As in-house counsel, Mondaq’s service is of great value”

Related Topics
 
Related Articles
 
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions