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US Leveraged Loan, High Yield Bond Issuance – Oct. 7, 2016

US leveraged finance issuance

It was status quo issuance-wise in the U.S. leveraged finance market.

There was a relatively healthy $12.6 billion of leveraged loans issued last week, as borrowers continue to take advantage of an accommodating lending market. Year to date, U.S. loan issuance now totals $366 billion, up slightly from the pace set last year, amid a surging September 2016 market.

U.S. high yield bond issuance was relatively quiet for a second straight week, with $2.9 billion of offerings priced. Year to date, U.S. high yield volume totals $184 billion, down nearly 20% from this point in 2015. – Staff reports

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Exco Resources Taps Loan to Fund Distressed Exchange; Warns of Covenant Breach

Exco Resources today launched a cash tender offer to repurchase its unsecured debt at a significant discount to par, which will primarily be funded with borrowings under its revolving credit facility.

exco resourcesIn a form 8-K filed with the SEC, the U.S.-based oil-and-gas exploration and production company also warned that the prolonged depressed oil and natural gas price environment and its level of indebtedness may lead it to bust its financial covenants within the next year. Its current required ratio of at least 1.0 to 1.0 will be negatively impacted by further reductions to the company’s borrowing base, the company said, citing the next redetermination that is scheduled to occur on or around Sept.1.

With respect to the debt exchange, Exco is offering to repurchase the 7.5% senior notes due 2018, of which there is $131.6 million outstanding, and the $171.4 million 8.5% senior notes due 2022, with a maximum cap of $40 million on the price paid for the combined series of notes.

Exco’s credit agreement only permits repurchases of the notes to the extent Exco maintains a minimum liquidity of at least $150 million. The maximum tender cap is based on an amount calculated by Exco to comply with such limitations, filings show.

At the first priority level, holders of the 8.5% notes due 2022 are offered $400 per $1,000 tendered at the early tender deadline. The total consideration includes an early tender payment of $45. Holders who tender their 2022 notes are also deemed to consent to the company’s proposed amendment to the 2022 notes indenture permitting additional secured indebtedness.

At the second priority level, holders of 2018 notes are offered $500 per $1,000 tendered.

The tender offer will expire at 11:59 p.m. EDT on Aug. 23. The early tender and consent solicitation deadline expires Aug. 9.

The distressed exchange comes in the wake of Exco’s disclosure in May that it had hired advisors to assist in evaluating restructuring alternatives, and follows a series of distressed exchange transactions undertaken late last year.

Exco Resources, Inc. is an oil and natural gas exploration, exploitation, acquisition, development, and production company headquartered in Dallas, Texas, with principal operations in Texas, North Louisiana, and the Appalachia region. — Rachelle Kakouris

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This story first appeared on www.lcdcomps.com, an offering of S&P Global Market Intelligence. LCD’s subscription site offers complete news, analysis and data covering the global leveraged loan and high yield bond markets. You can learn more about LCD here.

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US Leveraged Loan, High Yield Bond Issuance Eases as Markets Eye Brexit, Fed

Leveraged finance issuance cooled considerably last week ahead of the Brexit vote in the U.K. and a Fed announcement in the U.S., and on the heels of a surge of activity in both the high yield bond and leveraged loan markets the previous week.

US leveraged loan high yield bond issuance

Issuance in the two segments totaled $15.1 billion last week, $9.9 billion in loans and $5.2 billion in bonds. That’s down significantly from the $30 billion the previous week ($17.9 billion/$12 billion), according to LCD, an offering of S&P Global Market Intelligence.

Year to date, U.S. leveraged loan issuance totals $203 billion, down from $218 billion at this point in 2015. There has been $117 billion in high yield issuance, down 34% from the $179 billion at this point last year.

Of note in the leveraged loan market, power concern Dynegy brought to market a $2 billion credit to refinance debt backing an ENGIE M&A deal, while business payment processing co. Wex approached the market for a $1.21 billion institutional loan backing the acquisition of Electronic Funds Source (there was a sizable revolving credit, too).

The highest-profile deal in the bond market last week: a $2.9 billion offering from Reynolds Group. That debt helps fund a cash tender offer. – Tim Cross

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How did ACAS become a takeover target? Answer’s in the portfolio mix

How did American Capital become a takeover target? The answer lies in the lender’s equity-heavy, low-yielding investment portfolio mix.

Ares Capital, which trades on the Nasdaq under the ticker ARCC, announced on May 23 it would buy American Capital in a $3.4 billion deal, excluding the company’s mortgage management businesses. American Capital trades on the Nasdaq as ACAS.

One of American Capital’s strategies was its trademarked One Stop Buyout, where it could invest in debt ranging from senior to junior, as well as preferred and common stock, acquiring control of an operating company through a transaction.

However, the accumulation of equity did not allow the company to maintain the steady dividend growth that investors had grown to rely on.

In November 2008, the company stopped paying dividends and began evaluating them quarterly to better manage volatile markets. At the same time, American Capital announced an expansion into European middle market investing through the acquisition of European Capital. Also that year, American Capital opened an office in Hong Kong, its first office in Asia.

The news of the dividend policy change triggered a plunge in American Capital shares. Shares have persistently traded below book value since.

At its peak, the One Stop Buyout strategy accounted for 65% of American Capital’s portfolio. It has since slashed this to under 20% of the portfolio, of which less than half of that amount is equity. It continues to sell off assets.

In a reflection of the change in investment mix, S&P Global Ratings placed Ares Capital BBB issuer, senior unsecured, and senior secured credit ratings on CreditWatch negative, as a result of the cash and stock acquisition plan.

“The CreditWatch placement reflects our expectation that the acquisition may weaken the combined company’s pro forma risk profile, with a higher level of equity and structured finance investments,” said S&P Global analyst Trevor Martin in a May 23 research note.

At the same time, S&P Global Ratings placed the BB rating on American Capital on CreditWatch positive after the news.

“The CreditWatch reflects our expectation that ACAS will be merged into higher-rated ARCC upon the completion of the transaction, which we expect to close in the second half of 2016. Also, we expect ACAS’ outstanding debt to be repaid in conjunction with the transaction,” S&P Global analyst Matthew Carroll said in a research note.

Not the first time
But Ares Capital says it has a plan. In 2010, Ares acquired Allied Capital, a BDC which pre-dated the financial crisis. On a conference call at the time of the deal announcement, management said it plans a similar strategy for integrating American Capital, of repositioning lower yielding and non-yielding investments into higher-yielding, directly sourced assets.

Ares Capital managed to increase the weighted average yield of the Allied investment portfolio by over 130 bps in the 18 months after the purchase, and reduce non-accrual investments from over 9% to 2.3% by the end of 2012, Michael Arougheti said in the May 23 investor call. Arougheti is co-chairman of Ares Capital and co-founder of Ares.

“The Allied book was a little bit more challenged, or a lot more challenged, than the ACAS portfolio is today,” Arougheti said. Ares Capital’s non-accrual investments totaled 1.3% on a cost basis, or 0.6% at fair value, as of March 31.

“Remember, that acquisition was made against a much different market backdrop. And so, while the roadmap is going to be very similar… this can be a lot less complicated that that transaction was for us.”

The failings of American Capital’s strategy reached fever pitch last November, when the lender capitulated to pressure from activist investor Elliott Management just a week after it raised an issue with the spin-off plan.

American Capital’s management had proposed in late 2014 spinning off two new BDCs to shareholders, and said it would focus on the business of asset management. However, in May last year, management revised the plan, saying it would spin off just one BDC.

But Elliott Management stepped in, announcing in November that it acquired an 8.4% stake. It later increased its stake further, becoming the largest shareholder of American Capital. The company argued that even the new plan would only serve to entrench poorly performing management, and called for management to withdraw the spin-off proposal.

American Capital listened. Within days, American Capital unveiled a strategic review, including a sale of part or all of the company.

One reason for the about-face was likely its incorporation status in Delaware, which made the board vulnerable to annual election. Incorporation in Maryland, utilized by other BDCs, is considered more favorable to management, in part because the election of boards is often staggered.

Although American Capital had shrunk its investment portfolio in recent quarters, it had participated in the market until recently.

Among recent deals, American Capital helped arrange in November a $170 million loan backing an acquisition of Kele, Inc. by Snow Phipps Group. Antares Capital was agent. In June 2015, American Capital was sole lender and second-lien agent on a $51 million second-lien loan backing an acquisition of Compusearch Software Systems by ABRY Partners. — Abby Latour

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Qlik Technologies record $1B loan signals direct lending growing up

With today’s record $1 billion loan to fund an acquisition of Qlik Technologies, BDCs are giving notice that direct lending is moving far beyond its middle market roots to challenge traditionally distributed debt financing.

Ares Capital Corp. is leading the $1.075 financing, announced today, which is the largest-ever unitranche credit facility by a BDC. Unitranche combines different tiers of debt, which normally would have different interest rates, into a single loan.

Private equity firm Thoma Bravo is buying Qlik, based in Radnor, Pa., but founded in Sweden, which provides data visualization and analytics software. Shares trade on Nasdaq under the ticker QLIK.

Golub Capital, TPG’s dedicated credit and special situations platform, or TSSP, and Varagon Capital Partners are also joint lead arrangers.

It remains to be seen if this is the advent of a new lending landscape in which unitranche deals of $1 billion or more are commonplace. The acquisition financing for Qlik Technologies stemmed from a period in the loan market when primary issuance was stalled due to financial market volatility that disrupted usual syndication channels.

Leveraged finance market conditions have since improved. Admittedly, the deal’s structure would be a tougher decision by Thoma Bravo in current conditions than those of two months ago, when risk-averse investors shunned complex-story credits or pushed for economic and structural concessions to levels that made buyouts unattractive.

What’s more, this transaction isn’t expected to close until the third quarter, when financial market conditions could be far different than those offered in what is, for now, a buoyant environment for credit. Minimizing risk due to the syndication process is far more attractive to a buyer in most cases.

The transaction is subject to shareholder and regulatory approvals.

A merger deal announced last week stoked expectations that larger loan deals may be ahead from BDCs. Ares Capital, which trades on Nasdaq under the ticker ARCC, announced on May 23 it would buy rival lender American Capital, which trades on Nasdaq as ACAS, for $3.4 billion.

Ares management made no secret of the fact that the company’s purchase of American Capital would allow Ares to originate larger loans, thus generating more underwriting and distribution fees.

In an investor presentation about the purchase of American Capital, Ares pointed out how volatile market conditions had led to enhanced pricing and terms, and increased regulatory burden for banks was opening opportunities for them.

Market volatility—as well as increased regulatory scrutiny of commercial banks that emerged more than two years ago—had already opened the door to club-like transactions by BDCs, which will likely hold the majority of the debt for the Qlik deal.

BDCs are able, and willing, to accept higher leverage levels than banks. In the case of Qlik Technologies, the transaction is expected to result in leverage of more than 6x, sources said.

What’s more, the company generates most revenue outside the U.S., and EBITDA is highly adjusted, creating a structurally complex deal, sources said. Significant cost savings are expected through the buyout.

Such adjustments can present hurdles for banks looking to gain internal approvals to underwrite debt deals, and the prospect of a new alternative financing channel could spur renewed interest in buyout business.

Notably, the $1.075 billion unitranche loan for Qlik Technologies accounts for around one-third of the roughly $3 billion purchase price. Under terms of the acquisition, Qlik shareholders will receive $30.50 in cash per share.

Ares Capital says it is committed to holding a large portion of the financing. At the same time, Ares Capital said it would lead a syndication process to attract more lenders to the credit facility, but only a small part is expected to be syndicated.

“We believe this transaction is representative of the growing acceptance of direct lending as a mature asset class, and we believe our market leading position puts us in the forefront of this paradigm shift,” said Kipp deVeer, Ares Capital CEO, in a statement today.

Ares Capital is no stranger to larger-sized deals.

Last year, Ares Capital closed an $800 million loan for American Seafoods Group, another example of a non-regulated arranger capturing lending business that usually would have gone to a large bank. American Seafoods used proceeds to refinance debt and fund a bond exchange.

The amount of Ares Capital’s exposure to this investment has since shrunk.

As of March 31, the fair value of the American Seafood investment in Ares Capital’s investment portfolio totaled $81.7 million, including first-lien debt, second-lien debt, equity, and warrants. The largest of these was a $55 million, L+900 second-lien loan due 2022, with a fair value of $53 million.

The per-share purchase price for Qlik represents a 40% premium over $21.83, which was the average share price in the 10 days prior to March 3.

On March 3, activist shareholder Elliott Management unveiled an investment in Qlik Technologies, a move that prompted the company to put itself up for sale. Later that month, Qlik hired Morgan Stanley to explore a possible sale of the company, Reuters reported. — Abby Latour

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Senate hearing opens discussion on BDC regulation changes

A hearing by the Senate banking committee showed bi-partisan agreement for BDCs as a driver of growth for smaller U.S. companies, but exposed some rifts over whether financial companies should benefit from easier regulation.

BDCs are seeking to reform laws, including allowing more leverage of a 2:1 debt-to-equity ratio, up from the current 1:1 limit. They say the increase would be modest compared to existing levels for other lenders, which can reach 15:1 for banks, and the low-20x ratio for hedge funds.

A handful of BDCs are seeking to raise investment limits in financial companies. They argue that the current regulatory framework, dating from the 1980s when Congress created BDCs, fails to reflect the transformation of the U.S. economy, away from manufacturing.

BDCs stress that they are not seeking any government or taxpayer support.

They are also seeking to ease SEC filing requirements, a change that would streamline offering and registration rules, but not diminish investor protections.

Ares Management President Michael Arougheti told the committee members in a hearing on May 19 that although BDCs vary by scope, they largely agree that regulation is outdated and holding back the industry from more lending from a sector of the U.S. economy responsible for much job creation.

“While the BDC industry has been thriving, we are not capitalized well enough to meet the needs of middle market borrowers that we serve. We could grow more to meet these needs,” Arougheti said.

In response to criticism about expansion of investment to financial services companies, the issue of the 30% limit requires further discussion, Arougheti said.

The legislation under discussion is the result of lengthy bi-partisan collaboration and reflects concern about increased financial services investments, resulting in a prohibition on certain investments, including private equity funds, hedge funds and CLOs, Arougheti added.

“There are many financial services companies that have mandates that are consistent with the policy mandates of a BDC,” Arougheti added.

Senator Elizabeth Warren (D-MA) raised the issue of high management fees of BDCs even in the face of poor shareholder returns. Several BDCs have indeed moved to cut fees in order to better align interests of shareholders and BDC management companies.

She said that Ares’ management and incentive fees have soared, at over 35% annually over the past decade, outpacing shareholder returns of 5%, driving institutional investors away from the sector, and leaving behind vulnerable mom-and-pop retail investors. Arougheti countered by saying reinvestment of dividends needed to be taken into account when calculating returns, and said institutional investors account for 50–60% of shareholders.

Warren said raising the limit of financial services investment to 50%, from 30%, diverts money away from small businesses that need it, while BDCs still reap the tax break used to incentivize small business investment.

“A lot of BDCs focus on small business investments and fill a hole in the market. A lot of companies in Massachusetts and across the country get investment money from BDCs,” said Warren.

“If you really want to have more money to invest, why don’t you lower your high fees and offer better returns to your investors? Then you get more money, and you can go invest it in small businesses,” Warren said.

Brett Palmer, President of the Small Business Investor Alliance (SBIA), said the May 19 hearing, the first major legislative action on BDCs in the Senate, was a step toward a bill that could lead to a new law.

“There is broad agreement that BDCs are filling a critical gap in helping middle market and lower middle market companies grow. There is a road map for getting a BDC bill across the finish line, if not this year, then next,” Palmer said, stressing the goal was this year.

Technically, the hearing record is still open. The Senate banking subcommittee for securities and investment could return with further questions to any of the witnesses. Then, senators can decide what the next stop will be, ranging from no action to introduction of a bill.

Pat Toomey (R-PA) brought up the example of Pittsburgh Glass Works, a company that has benefited from a BDC against a backdrop that has seen banks pulling back from lending to smaller companies following the financial crisis, resulting in a declining number of small businesses from 2009 to 2014.

The windshield manufacturer, a portfolio company of Kohlberg & Co., received $410 million in financing, of which $181 million came from Franklin Square BDCs.

“Business development companies have stepped in to fill that void,” Toomey told the committee hearing. “For Pittsburgh Glass, it was the best financing option available to them.”

FS Investment Corp.’s investment portfolio showed a $68 million L+912 (1% floor) first-lien loan due 2021 as of March 31, an SEC filing showed.

Arougheti cited the example of OTG Management, a borrower of Ares Capital. OTG Management won a contract to build out and operate food and beverage concessions at JetBlue’s terminal at New York airport JFK, but was unable to borrow from traditional senior debt lenders or private equity firms due to its limited operating history.

Ares Capital’s investment in OTG Management included a $24.7 million L+725 first-lien loan due 2017 as of March 31, an SEC filing showed. — Abby Latour

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Swift Energy emerges from Chapter 11

Swift Energy today emerged from Chapter 11, the company announced this morning, adding that it closed on a new $320 million senior secured credit facility in connection with the emergence.

As reported, proceeds of the exit facility were used to repay holders of the company’s prepetition $330 million RBL. The company did not provide further details of the exit facility.

As also reported, the Wilmington, Del., bankruptcy court overseeing the company’s Chapter 11 confirmed the company’s reorganization plan on March 30.

Under the plan, senior notes will be exchanged for about 96% of the reorganized company’s equity, subject to dilution on account of the equitization of the company’s $75 million DIP facility via a rights offering.

According to court documents, the DIP equitization will dilute the distribution to senior noteholders by 75%. Consequently, after giving effect to the rights offering backstop fee of 7.5% of the equity, the final equity distribution to noteholders on account of their claims will be 22.1%, resulting in a recovery rate of 4.6–12.8%, depending upon plan equity value.

At a midpoint value of $680 million, court documents show, the senior notes recovery rate stands at 8.7%.

Existing equityholders retained 4% of the reorganized company’s equity, subject only to a proposed new management-incentive program. In addition, existing equityholders are also to receive warrants for up to 30% of the post-petition equity exercisable upon the company reaching certain benchmarks. — Alan Zimmerman

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S&P cuts Hercules Offshore to CCC– on forbearance agreement

Standard & Poor’s has lowered its corporate credit rating on Hercules Offshore to CCC–, from CCC+, after the Houston-based offshore-drilling contractor announced that it entered into a forbearance agreement and first amendment to its credit agreement with the agent and certain lenders.

The rating outlook is negative, reflecting S&P’s belief that that there is a high likelihood of default or restructuring over the next six months, according to the report. Recall, Hercules emerged from Chapter 11 less than six month ago following a Chapter 11 reorganization that converted approximately $1.2 billion of unsecured debt to equity and provided for a new $450 million first-lien term loan to fund the remaining construction cost of the Hercules Highlander.

During the forbearance period, the company will be unable to access the $200 million portion of the term loan proceeds placed in escrow, which could potentially delay delivery of the new build and impact the company’s contract for the Hercules Highlander rig. Also, the cash flows of Hercules Offshore are highly dependent upon the delivery of the Highlander rig, to wit the company expects the rig to go into operation during the third quarter 2016, according to S&P.

As part of the amendment, lenders have agreed to forbear from exercising their rights stemming from the alleged a failure by Hercules Offshore to comply with certain specified affirmative covenants under the credit agreement, including failure of Hercules Offshore Nigeria Ltd. to deliver a certificate of registration on the vessel mortgage, and the failure of Hercules Offshore to use its best efforts to cause the Gibraltar Guarantor to dissolve, merge or consolidate with or into another loan party within the required time period.

During the forbearance period, which expires April 28, the company has agreed with lenders to negotiate in good faith an agreement with respect to a potential recapitalization, business combination or other alternative strategic transaction, including a potential restructuring of the loans. — Rachelle Kakouris

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Leveraged Finance Fights Melanoma benefit planned for May 24

The fifth annual Leveraged Finance Fights Melanoma benefit and cocktail party is planned for May 24 at the Summer Garden and Sea Grill at Rockefeller Center. Funds raised at the event will support the Melanoma Research Alliance (MRA), the world’s largest private funder of melanoma research, which was founded in 2007 by Debra and Leon Black under the auspices of the Milken Institute.

Since this event was launched in 2012, the leveraged finance community has come together and generously supported over $5 million of cutting-edge cancer research. These funded studies have accelerated advances in immunotherapy treatments that have led to breakthroughs like anti-PD-1 agents which are being used to treat melanoma, were recently approved to treat lung cancer, and are now being tested in other tumors including bladder, blood, and kidney cancers.

The event co-hosts are Brendan Dillon from UBS; Lee Grinberg from Elliott Management; George Mueller from KKR; Jeff Rowbottom from PSP Investments; Cade Thompson from KKR; and Trevor Watt from Hellman & Friedman. Attendees include the biggest names in leveraged finance, from all of the top banks, many investment houses, several law firms, select issuers, and some private equity sponsors. As with the prior events, LCD is a proud sponsor.

Due to ongoing operational support from its founders, 100% of donations to MRA go directly to support research programs working toward a cure for melanoma, the deadliest type of skin cancer. Since MRA began its work, 11 new treatments have been approved by the FDA.

Funds raised from prior year events have supported six MRA research awards at institutions spanning the U.S. These projects focus on targeted and immunotherapy treatments, which boost the immune system to fight off cancer more effectively. The studies address critical research questions to advance the development of new therapies for melanoma patients and inform progress against cancer as a whole.

“We’re making tremendous breakthroughs in understanding and treating melanoma, including several new therapies that could be game-changers for the entire field of oncology,” said Jeff Rowbottom, LFFM co-host and MRA board member. “The Leveraged Finance Fights Melanoma events have supported important research that is enabling innovations in the way we treat cancer.”

The objectives for the 2016 LFFM event are to increase awareness, to raise funds to further advance research, and to save lives. Melanoma awareness and early detection are vital when it comes to combating the disease; if melanoma is detected early—before it has spread beyond the skin—it is almost always treatable. Past events have led to many members of the leveraged finance community seeing dermatologists for skin checks and even to the discovery and treatment of several early stage melanomas.

Tickets are $300. For further information about the event and to purchase tickets, please visitcuremelanoma.thankyou4caring.org/lffm2016. Those seeking information about the event and sponsorship opportunities can contact Rachel Gazzerro of MRA at (202) 336-8947 or [email protected]. — Staff reports

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JC Penney Debt Gains, Default Protection Cost Plunges After Strong Year-End Report

J.C. Penney bonds and loans were higher this morning after the company released better-than-expected quarterly results and improved guidance for the year ahead. Credit protection costs were essentially halved, and shares gained, with JCP trading up roughly 14% on the NYSE, at $9.50 per share.

The 5.65% notes due 2020 surged six points, to 91/92, according to sources, while the 8.125% notes due 2019 added roughly four points, with trades reported at 101 and 101.5. Long-tenor 6.375% bonds due 2036, meanwhile, jumped 10 points, to 73/74, the sources added.

Over in the loan market, J.C. Penney covenant-lite term debt due 2018 (L+500, 1% floor) is also firmer following the results, rising about a point to bracket 99, according to sources.

In the CDS marketplace, five-year protection costs were chopped down approximately 47%, to 4.8/6.6 points upfront, according to Markit. That’s essentially $500,000 cheaper, at $570,000 for an upfront payment, in addition to the $500,000 annual payment, to protect $10 million of the issuer’s bonds.

Comparable store sales grew 4.1% for the fourth quarter and 4.5% for the full year, according to the company statement. Full-year adjusted EBITDA surged $435 million year over year, to $715 million, besting both the company guidance for $645 million and the S&P Global Market Intelligence consensus mean estimate for $648 million.

Management cited a renewed focus on private brands and omnichannel sales, as well as effective inventory management. Looking ahead, the company put forth guidance for 2016 EBITDA to be $1 billion, the filing showed.

The Plano, Texas–based company is rated CCC+/Caa2. S&P today placed the ratings on CreditWatch with positive implications due to the improved fourth-quarter results and 2016 guidance, which includes a same-store sales increase of 3–4% with further margin improvements. — Matt Fuller/Kerry Kantin

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This story first appeared on www.lcdcomps.com, LCD’s subscription site offering complete news, analysis and data covering the global leveraged loan and high yield bond markets. You can learn more about LCD here.