Source: Investment Dealers Digest
 
Power company Calpine's multiyear struggle to avoid restructuring finally-mercifully some would say-ended in December when it filed for Chapter 11 bankruptcy protection. Like most bankrupt companies, the first thing it did was borrow more money. The company's $2 billion debtor-in-possession (DIP) loan, which closed last week, was among the largest done in the past few years, and among the most complex. 
 
The facility was executed in three tranches: a $1 billion revolver, a $400 million first-lien term loan and a $600 million second-lien term loan. The loans were syndicated to more than 80 investors and were heavily oversubscribed, to the point that co-leads Credit Suisse and Deutsche Bank were able to shift $50 million from the second-lien tranche into the first-lien tranche and flex down pricing on the second-lien portion to 400 bps over Libor from an original spread of 450 bps over. 
 
"The flexing down is a testament to the market's appetite for this type of structure," says Sam Greene, a managing director at Miller Buckfire, which advised Calpine on the deal. 
 
Calpine's DIP financing highlights the maturation of that segment of the leveraged loan market. DIP loan investing used to be limited largely to commercial banks and commercial credit companies, and deals were typically smaller and very straightforward. 

DIP market evolving 
 
Mark Cohen, head of loan workouts at Deutsche, says that over the past five years, only a handful of DIP loans or bankruptcy exit loans have been sized at $2 billion or larger, and most of those have been single-tranche revolvers. The market began changing in the second half of last year with a series of more highly structured transactions, including the $2.25 billion Delta Airlines DIP, which was done in September, and the $3 billion bankruptcy exit loan for United Airlines. 
 
One reason is that banks and commercial lenders have been joined in the leveraged loan marketplace by a huge influx of hedge funds and distressed debt funds. "There's a tremendous amount of liquidity in the market chasing deals-the funds need to put their cash to work, so they are investing in unconventional financings like DIP and exit loans," says Mark Cohen, head of loan workouts at Deutsche. "The growing sophistication of loan investors means they are more comfortable lending in the context of a bankruptcy and more comfortable with structured credit." 
 
Unlike the banks, which in the past were pretty much obliged to extend a DIP loan when a borrower ended up filing for bankruptcy in order to protect their existing exposure, the new group of lenders venture into this area voluntarily, even eagerly, Cohen says. "You would think investors would be running away from a company filing for bankruptcy, but instead investors are looking to put money into a well-structured DIP loan," he says. "They find it a desirable asset for their portfolios." 
 
Since so many hedge and distressed funds participated in the deal, some of the investors were undoubtedly pre-bankruptcy creditors of Calpine, adds Miller's Greene. "I would assume some of the lenders were pre-existing creditors. Some of the second-lien lenders were the same types of investor who would buy the company's earlier paper," he says. "They already have some skin in the game." 
 
One interesting twist in Calpine's case is that although the DIP lenders are senior to the corporate creditors, they are junior to the secured project financing at the project subsidiaries, says Cohen. Calpine's Geysers geothermal power facility in California serves as the major component of the collateral for the loan. Some $300 million in proceeds will go to pay off a structured lease on the Geysers, while the rest is for working capital. Calpine expects to emerge from bankruptcy sometime in 2007, says Cohen, at which point the DIP loan will likely be refinanced by an exit loan. 
 
Miller's Greene says a key objective for the company during the bankruptcy period will be to reduce its overall leverage. Calpine, which owns natural gas-fired power plants as well as geothermal plants, ran into trouble last year with the extreme volatility of natural gas prices. "It's difficult to be a highly levered company in what is a very volatile industry," says Greene. "Natural gas has been up 50% and then down 50% in the past few months." 

Unusual collateral 
 
Miller Buckfire, a restructuring specialist with extensive experience in the power sector, first became involved in May 2005, well before a bankruptcy was under discussion. The firm, which was founded by a group of restructuring specialists who left Wasserstein Perella at the time of its sale to Dresdner in 2001, chiefly advises companies, although it does some work with creditor groups. Its clients include Mirant Services, an Atlanta-based utility that emerged from bankruptcy last month, along with CMS Energy and CenterPoint Energy, both of which have done some recent restructuring. 
 
Miller was first hired by the board's independent directors but later began advising the entire board-and then the company itself. Once the decision was made to file for bankruptcy, the firm had a bit more than two weeks to organize the DIP financing. It ran a bidding process among eight banks for the business, ultimately settling on Credit Suisse and Deutsche. 
 
"We contacted a narrow group of sophisticated lenders we felt would be able to move extremely quickly and underwrite that size of commitment," says Greene. "We were also looking for banks with knowledge of the assets supporting the loan." In this case, that was the Geysers geothermal facility. "This very valuable set of plants in Northern California runs off geothermal steam; it's an attractive high-margin business, and one of Calpine's few unlevered assets," he says. "But knowledge of those assets was critical to this process." 
 
In addition to Credit Suisse and Deutsche, Miller originally contacted Bear Stearns, GE and Citigroup. Subsequently, JPMorgan, Goldman Sachs, Lehman Brothers and Morgan Stanley also asked to bid, Greene says.