Tronox: Distressed Debt Re-Visited

In January, Distressed Debt Investing did a post on the distressed debt of Tronox. For a reference, here is the trading chart of the Tronox 9.5% due 2012.

And the original underlying thesis of the post:

Investment Idea Synopsis

• Recommend purchase of 9.5% Senior Unsecured Notes (Ticker: TRX) at 75 and subscribing to rights offering at $10.40 per share a 40% discount to implied market value.
• Recommend purchase of L+700 bp (2% LIBOR Floor) DIP/Exit Facility at approximately 96(W/OID) at syndication.

As of today, the Tronox bonds are trading 77/79. On July 7th, they were trading in the upper 90s. What gives?

Like most bankruptcies, Tronox's plan of reorganization has gone through a number of revisions. Here is the press release of the most recent change:

OKLAHOMA CITY, July 8 /PRNewswire-FirstCall/ -- Tronox Incorporated (Pink Sheets: TRXAQ, TRXBQ), on behalf of itself and its affiliated debtors and debtors in possession (collectively, "Tronox") announced today that it has filed a Plan of Reorganization and the accompanying Disclosure Statement with the United States Bankruptcy Court for the Southern District of New York (the "Bankruptcy Court"), where Tronox's Chapter 11 cases are currently pending.

The Plan contains the framework of agreements Tronox is formulating with its principal creditors — the United States government, several states, its unsecured creditors' committee, various tort claimants and its equity committee — and is premised upon the transfer of Tronox's legacy environmental

and tort liability to certain trusts to be funded upon Tronox's emergence from

bankruptcy.

Under the Plan:

* Newly created government trusts responsible for environmental remediation at properties located throughout the United States will be funded with a package of consideration that includes (i) up to $145 million in cash, (ii) 88% of Tronox's interest in pending litigation against Anadarko Petroleum Corporation and Kerr-McGee Corporation (the "Anadarko Litigation"), (iii) preferred stock and warrants convertible to common equity of Reorganized Tronox, allowing the trusts to share the benefit of improvements in Tronox's enterprise value, and (iv) certain other real

property, insurance and financial assurance assets.

* Tort claims will be satisfied through separate trusts funded with 12% of the Anadarko Litigation proceeds, $7 million in cash and certain insurance assets. If tort claimants vote to reject the Plan, they will share in the general unsecured pool and Tronox will retain 12% of the Anadarko Litigation and the $7 million in cash.

* General Unsecured Claims (including claims held by the company's prepetition noteholders) are slated to receive all of the primary common equity of Reorganized Tronox. Tronox expects general unsecured creditors will recover between 80 and 100% of their claims based on plan valuation.

* Existing equity holders will recover warrants to purchase up to 5% of the common equity (subject to certain terms and conditions) if they vote to accept the Plan.

"The filing of the Plan is a key milestone for Tronox as it focuses on emerging from Chapter 11. We believe the plan contains the elements necessary to achieve a consensual settlement of our environmental and other legacy liabilities," said Tronox Chairman and Chief Executive Officer Dennis Wanlass. "Importantly, the Plan would enable Tronox to emerge from Chapter 11 as a going concern, responsibly capitalized and well positioned to ensure its long-term viability for the benefit of all stakeholders — including the environmental trusts and agencies responsible for serving the public

interest."

Wanlass stated: "We are pleased to be able to propose a fair and comprehensive package to the government while still achieving substantial recoveries for all of our other creditor groups. While there is much work ahead, the end of this complex bankruptcy is in sight and we will continue to work closely with our stakeholders in an effort to garner their support for the plan before voting

begins. We thank our customers, suppliers, business partners and employees for their ongoing commitment to the company through this process, which has helped us to build a stronger Tronox."

The hearing to consider approval of the Disclosure Statement that explains Tronox's plan is scheduled for August 5, 2010.

Copies of the Plan and Disclosure Statement can be found under the "Reorganization" section of Tronox's website at www.tronox.com . The Plan is subject to receiving the requisite votes from stakeholders, receiving approval from the Bankruptcy Court and satisfying closing conditions. The Plan is subject to change.

Let's parse this. They are creating a trust. This trust will deal with environmental and tort liability, as well as remediation. And this trust will be funded with recoveries that were intended to go to bond holders. The initial plan had these same litigation trusts funded with a $105M rights offering and $10M of cash on hand. As can be seen above, they are getting a lot more than that. Research reports indicate that the delta between the initial plan and the most recent plan was that a number of cities and states were not "in" on the first round of negotiations and thus as these guys became party to the discussion, more stakeholders wanted a larger piece of the pie.

To top all this off, the company has noted that if the Tort Claimants reject the plan, recoveries may be materially lower. Why? Ff the Class 4 tort claims reject the plan, they could be included in the general unsecured claim basket. This is bad for the bonds. Terribly bad for the bonds. Why? Current unsecured claims number about $475M. But from the various bankruptcy filings we know that the tort claims amount to over $2 billion! Of course some of these will be rejected, and worked down, but this creates even more uncertainty.

It is getting late, but tomorrow I will lay out a bearish and a bullish case for the bonds. If you can't wait that long, the still like the DIP facility, which, in our opinion is well covered in all scenarios, trades in the 101 context, boasts a decently fat coupon, and will collect exit fees ALONG with possible amendment / extension fees if this bankruptcy drags on.