As high yield spreads recently fell below the lows reached in 2007 and middle market private debt spreads fell below 475 basis points for the first time ever amidst a glut of available funds, credit investors searching for enhanced yield can look to the special situations space for compelling opportunities. Despite a low default rate environment creating less pure-play distressed opportunities in the market as a result of fiscal and monetary policy, the aftermath of the COVID-19 pandemic continues to create unique opportunities for investors focused on idiosyncratic, special situation investments. One such theme is the ability to purchase restructured loans and private equity from unnatural holders and forced sellers in companies and industries that have been (or continue to be) affected by the pandemic.
A sector hit particularly hard by the pandemic is the casual dining space. The abrupt shutdown triggered a wave of defaults and restructuring, including debt for equity transactions with traditional lending institutions and funds ill-suited to own large equity stakes in public or private companies.
Special Situations investors are potentially able to find opportunities in the sector through attractive-yielding loans and, in some cases, the restructured private equity of certain casual dining brands in the secondary market. To illustrate the opportunity, we have seen one entity in the sector with a 2nd Lien Term Loan that has a coupon of 15% and its reorganized equity at trading levels of approximately $31/share, which equated to a $250mm Enterprise Value, or approximately 5.0x the particular Company’s 2022 EBITDA1 forecast. The price of the equity can be viewed as attractive when compared to other sector participants, some of which trade at double-digit multiples. The debt and equity investments are subject to risk, including market risk and (where applicable) default risk, so current market views are always subject to change, but our investment process seeks to identify and source attractive opportunities given the prevailing market environment.
As the global economy emerges from the pandemic, investors can expect the casual dining space to benefit from pent-up consumer demand and reduced competition from restaurant closures. The consumer appears eager to spend disposable income on out-of-home experiences and recent trends suggest elevated levels of off-premise volume may continue after restrictions are lifted. Opportunities created by the dislocations, like those in the casual dining sector, are what investors focused on enhanced returns in niche opportunities can find in today’s special situations market.