Q:

I recently heard about Dex Media from the Sohn conference. It wasn’t until today that I started to look into the company and I couldn’t believe the opportunity. I see that you have covered the two companies for a while, and I was hoping you would be able to help me with a few questions. I’m sure you know a great deal more than me on the combined company.

My quick ttm Enterprise Value/EBITDA calculation was just north of 3. While this is obviously an absurdly low multiple, if it were to double to 5-6 once debt becomes manageable and the company is able to refinance the debt, the stock price may be worth 10-20x. I can see how the excessive debt and the threat of bankruptcy would make equity prices drop, but I can’t understand the current situation. I understand the company operates a declining business, but they are still producing significant FCF.

I went through past financials to determine how Dex One and SuperMedia found themselves in the current situation of excessive debt despite producing a large FCF. It looked like Dex One took an impairment of around $8 billion in 2009, and has emerged from bankruptcy in the past which helped it reduce debt obligations.

1. Is the current situation, and Chapter 11 filing simply a matter of the debt maturing all at once, and if so, why wouldn’t lenders allow them to extend the maturity before all of this?
2. Does the current predicament have more to do with poor acquisitions made by the companies in the past? In 2009 Dex One wrote down its intangible assets by approximately $8 billion.
3. I understand that you are very bullish on the combined companies, (I am as well) but if you had to give an bear case argument, what would it be?

Thank you,
Ryan

A:

• Not only can I help you, but perhaps I can help crowdsource some of the answers to your questions. Hopefully some twitter followers chime in in the comments. It’s late so I’ll be brief.

1. This is an issue of the companies not being able to get all of the creditors on board with the merger. The Chapter 11 effected a non-dilutive merger. Most Chapter 11’s represent a default, but this one merely corralled all of the creditors as there were a few holdouts on one side. The interesting part of this is that they just came out of CH. 11 a few years back so the creditors are already the equity holders, pretty much. The lenders won’t extend when the perception is garbage. Why extend debt when you can takeover the company? It’s better to own the whole thing than just part of its liabilities.
2. No. The current predicament has everything to do with the debt trading subpar as the perception by both equity and credit investors think that the future of the business is virtually non-existent. This is out of line with reality, and I am a firm believer in reality. Props to management here.
3. Print declines accelerate. Digital flops. Debt never trades to par. Chapter 11 when the debt is due. Equity gets nothing.

Basically, when equity trades at a discount to its intrinsic value, the capitalization structure of companies can remain intact. When debt trades subpar, it cannot be refinanced and this leads to compromises/defaults/nastyness… and for the most part it appears that a lot of the creditors just “want out” of this situation… and there are all sorts of reasons creditors would be forced to sell and subsequently drive the price down of a perfectly solvent business. Long story here, takes a while to get the hang of… but going forward it’s pretty darn clear… blue skies.

Hope this helps. Here are a few more well written links

• http://beta.fool.com/bradford86/2013/04/17/yes-proud-bankruptcies-exist/29843/
• http://seekingalpha.com/article/1285001-dex-media-chapter-11-brings-large-upside?source=feed
• http://beta.fool.com/bradford86/2013/05/13/if-you-like-dex-you-might-like-yellow/34162/