H Partners and Six Flags Case
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In order to determine the enterprise value and recovery rates for each class of creditors implied by the April 2009 attempted exchange offer, we first had to determine the priority levels of the capital structure. We used Exhibit 7 in the Case documents to determine the priority levels of each class. The top priority class included the SFTP Revolver and Term Loan; the second priority class included the SFO Notes; and the third priority class included the SFI 2010, 2013, 2014, and converible notes; The lowest priority was the PIERS preffered equity followed by common equity. We then took the implied enterprise value of the exchange offer of $1.7 billion and started distributing the value between the debt holders, starting at the most senior tranche of the capital structure. With the most senior class having a total claim of $1.1 Bn (less than the EV of $1.7 Bn), their respective recovery rate was 100%.
Similarly, the second class’s claim of $420 Mn (with a cumulative claim including first and second classes of $1.53 Bn), had a recovery rate of 100%. We worked down the classes until we reached the breakpoint between SFO Notes and the SFI Notes. Everything above this breakpoint would have a 100% recovery, and then per the details of the exchange offer, we split the equity remaining among the SFI Notes, PIERS and the Common Stock (85%, 10%, and 5% respectively). This resulted in a recovery rate of 16.6% for the SFI Notes, and 5.5% for the PIERS. The Enterprise Value for the SFI Notes is $144.5 million, for the PIERS class $17.0 Mn and the common equity is $8.5 Mn. See Exhibit 1 in the Appendix for additional details.
Adding the value of the Six Flag’s Short Term and Long Term debt to its market cap, and then deducting the cash at hand, we are able to observe an Enterprise Value of $2.7 Bn in 2006 and $2.4 Bn in 2007. This is higher than the 2009 implied value of $1.7 Bn. Similarly, the market cap of Six flags is much higher in 2006 and 2007 than 2009. Part of the reason that the value of Six Flags decreased from 2006 and 2007 to that of 2009 was due to the global financial crisis, which resulted in a decline in customer visits and spend. In addition to this, the swine flu virus outbreak compounded with difficulties in accessing global capital markets, made it very difficult for Six Flags to make payments for its $2.7 Bn of debt. With this is mind, the market anticipated that bankruptcy might be imminent and therefore Six Flag’s stock price declined significantly. Moreover, with capital markets in distress, the company suffered from debt overhang as equityholders probably were not willing to inject more equity into the company.
In order to determine the enterprise value and recovery rates for each class of creditors implied by management plan and the SFO plan, we first had to determine the priority levels of the capital structure. We used Exhibit 7 and 10 in the Case documents to determine the priority levels of each class. We used the information provided in Exhibit 10 in the Case documents to determine the appropriate claim values for each class of capital. Management plan – For the SFTP value, we calculated the claim value as the Enterprise Value minus the $600 Mn term loan, multiplied by 92%, and then added the $600 Mn value, reaching a total value of $1,198 Mn. For SFO’s claim value, we deducted $600 Mn from the EV and multiplied that by 7%, reaching a value of $45.5 Mn. Similarly for the SFI notes, we multiplied by 1% and reached a value of $6.5 Mn. Based on these values, we derived the recovery rates for each class. The breakpoint was between the SFTP class and SFO class, where the recovery rate for SFO was only 10.8%.
Per the case the SFI class received 1% of the equity resulting in a recovery rate of 0.7%. The preferred and common shareholders received nothing under this plan. Additional details can be found in Exhibit 2 in the Appendix. SFO recovery plan –The implied enterprise value under this plan was $1.47 Bn. For the SFTP value, the case stated that they were repaid in full, so their recovery rate is 100% and the enterprise value for that class was $1,147 Bn (Consisting of $680 Mn term loan, $450 Mn rights offering, and $17Mn drawdown on revolver). Given that the $450 Mn rights offering constituted 69.8% of implied equity value, we obtained an equity value of $644.7 for the company. The SFO notes would receive 22.9% of that which is equivalent to $147.6 Mn enterprise value and a 35.2% recovery rate, while the SFI notes would receive 7.3% of that which is equivalent to $47.1 Mn enterprise value and a 5.4% recovery rate. See the Appendix for details on the SFO recovery plan assumptions and results.
To develop a valuation of the company, we did two approaches: DCF and Multiples. The first was a DCF analysis with a WACC discount rate of 11.06%, with an estimated Enterprise Value (including NOL’s) of approximately US $2.8 Bn. We calculated WACC by using an Asset Beta of 1.06 (source: Yahoo! Finance for Entertainment Industry) and deriving the Levered Beta using a debt level of $830 Mn and equity value of $644 Mn. Based on this, we calculated Re, Rd (derived from interest expense/level of debt), and WACC. Then, we assumed a 3% growth rate to get a Terminal Value of $3,010. To calculate FCF, we deducted CapEx and Cash Taxes from EBITDA (also assumed that working capital changes either equal to 0 or reflected in cash operating expenses). Finally we added the $1.3 Bn of NOLs multiplied by marginal tax rate of 35% to the enterprise value to obtain $2.8 Bn For multiples calculation, we calculated the 2009 EV/Revenue multiple of Cedar Fair, which was 2.45x and multiplied it by the 2009 projected revenues of Six Flags and added the NOLs value.
Given all the four possible options for H Partners (as outlined at the end of the case), we would recommend to participate in the SFO rights offering. Such offering provides the most upside to H Partners, given that they would own an additional 70% of the company; they would buy these rights with an implied enterprise and equity value of the company of $1.4 Bn and $0.64 Bn respectively, only to watch them appreciate significantly to their intrisinc value that we calculated of $2.8 Bn and $2.04. Thus their equity investment would almost triple in value. Option 3, moving down the ladder towards a more junior category, would put H Partners in a much greater risk because currently according to the plan they would get the least pro forma equity and even further they can get diluted by a management incentive plan. Moreover, Option 4 to participate after Bankruptcy would probably just offer H Partners much less potential given that major risks have been mitigated and Six Flags has gone through the reorganization process and managed to emerge from Chapter 11. We recommend H Partners to participate in the SFO offering.