It’s tempting to assume that Steinhoff’s bid to distribute €900 million (R15.2 billion) to a group of its concurrent creditors and thereby avoid a crippling legal challenge from one of them is now dead in the water.
Judge Lee Bozalek’s damning ruling last Friday would appear to make it impossible for the court to provide the necessary sanction of a Section 155 process needed to give effect to the distribution, termed a Conditional Payment Undertaking (CPU) by Steinhoff.
And if the CPU is dead then it appears, from a reading of the Bozalek ruling, that the Company Voluntary Arrangement (CVA) put in place between Steinhoff and holders of around €8.8 billion (R149.2 billion) bonds in 2018, is also at risk.
Not much wriggle room
Whatever the Steinhoff board thinks about the ruling, an appeal would be problematic given the time constraints within which it is operating.
The CVA expires this coming December. That means in less than six months Steinhoff will be required to repay €8.8 billion to bondholders as well as the rolled-up interest payments of a staggering 10% per annum.
Failure to make the repayment – or reach a roll-over agreement with the bondholders – would trigger liquidation.
The thing is it’s not just the Bozalek ruling that the Steinhoff board has to navigate, there’s also the very considerable liquidation challenge brought by the founders of Tekkie Town, which is due to be heard in the next few months in Cape Town.
A less determined bunch might be inclined to throw in the towel and opt for what seems to be the inevitable liquidation of this deeply troubled international retail group; a liquidation that would kill the CVA and any prospects of its roll-over.
But the Steinhoff board is nothing if not determined, and so far – ahead of a ‘considered response’ to Bozalek – it has seemed determined to continue its ‘extend and pretend’ strategy.
The best-case version of this strategy, according to CEO of Protea Capital Management Jean Pierre Verster, would likely only see the bondholders being fully repaid several years down the line.
However, there could be some clever restructurings or asset sell-offs during that time.
Verster estimates that Steinhoff’s value – largely dependent on its Pepkor and Pepco operations – would have to appreciate by around 18% a year over the next 10 years if Steinhoff ordinary shares were to have any value after paying the crippling CVA burden.
But as Verster – who stresses that he maintains a short position in Steinhoff – points out, this is not the best-case scenario for all concerned.
It is the ‘best case’ scenario for the bondholders as well as the lawyers and executives guiding the company down this path.
One bondholder’s ‘twisted’ view
For the bondholders, 10% per annum is deeply alluring.
So alluring that the CEO of one of the world’s top hedge funds, Seth Klarman of Baupost Group, gave Steinhoff special mention in a January 2020 letter to his investors.
Klarman described Steinhoff as a “twisted apple” along with the likes of Enron and Lehman.
“The business debacles [at these companies] were reflected in market price carnage, as bonds plummeted, claims proliferated, and uncertainty dominated,” he said.
“The apples we seek out are treasured by us not for what others will think, or how popular they might become, but for the sweetness they will deliver.
“Ours are typically eating apples, the sweetness accruing to us and not to anyone else.”
Baupost is the largest of the so-called vulture funds that bought up – at a fraction of their face value – the Steinhoff bonds when they were dumped in a rush after the December 2017 reports of accounting irregularities.
The ‘sweetest apples’ scenario
In the best-case scenario those high-risk investors would not only get repaid the full face value of the bonds they purchased but an almost unbeatable 10% per annum compound interest rate between the time they signed up to the CVA and the repayment date.
Verster reckons the interest payments could add several more billion euros to the payout.
So the current bondholders, whose representatives enjoy a strong position on the Steinhoff board, have very good reason to be determined. They have much to lose.
But there are those with far less to lose …
By contrast the various parties that have launched legal challenges believe the terms of Steinhoff’s proposed CPU settlement means they have little to lose and something to gain.
So firm are they in this belief that they have come to terms with the possibility of their actions triggering liquidation.
In the wake of the Bozalek ruling it’s difficult to imagine how the bondholders’ ‘best case’ scenario has any chance of survival.
Just to briefly recap the essence of that decision – because the Steinhoff board did not comply with the Companies Act requirements, as set out in Section 45 of the act, the undertaking it provided in 2019 to pay out up to €1.58 billion of the bonds and give other benefits to the bondholders has been declared void.
Steinhoff argued that it didn’t need to comply with Section 45, which requires a solvency and liquidity test, as the guarantee was not for new financial assistance but the mere reorganisation of existing financial assistance.
Bozalek thought otherwise. He deemed the 2019 arrangement to be the provision of new financial assistance to a related entity and on that basis declared the CPU to be void.
It’s difficult if not impossible to imagine that the judge who has to rule on Steinhoff’s Section 155 application, which deals with the distribution of €900 million to three categories of creditors, would approve a proposal that rests on a void transaction.
So will Steinhoff abandon the Section 155 application and renegotiate more even-handedly with all the creditors?
Or will it try panel beat the current situation into something that might rescue the ‘best case’ scenario?
Legal experts are emphatic that the board cannot now retrospectively provide the guarantee.
“Even if the controlling shareholders, Steinhoff NV, approved such a guarantee the directors would not be able to,” one leading academic told Moneyweb.
The entire world now knows that in 2019 Steinhoff would have failed the solvency and liquidity test required by Section 45.
All of which means that if the bondholders want to protect their extremely sweet deal the Steinhoff board might have to contrive a new CPU arrangement that would address some of the grievances felt by the various categories of shareholder creditors.
This of course would mean vulture funds like Baupost having to go against their essential nature and contemplate sharing a bite of the apple.