Further Perils of Chasing Yield

On Monday, the white-shoe Wall Street law firm Dewey & LeBoeuf filed for Chapter 11 bankruptcy, having “veered toward collapse over the last six months amid revelations of fat salary guarantees, risky loans and a culture of secrecy.” According to Reuters, “creditors and former partners are bracing themselves for a nasty court battle that could drag on for years.”

All well and good, you say, as packs of lawyers devour their own kind.  But why should anyone else really care? 

Because of those “risky loans.”

Reuters summarized Dewey’s finances as follows:  on the asset side, $13 million in cash, “artwork of unknown value,” $11 million invested in an insurance consortium, and $255 million in accounts receivable.

On the liability side, a group of lenders led by JP Morgan Chase is owed $76.5 million under a secured credit agreement.

Next in line are the creditors who are the focus of this missive – a group of investors who bought $150 million worth of privately placed bond notes that Dewey issued two years ago. 

What are these likely to be worth today? 

Not much. 

Assuming that the $11 million insurance investment is really worth that amount, and that the art is worth $10 million (a guess), this still  leaves JPM – who unsurprisingly finds itself at the front of the line – with a shortage of $42 million after it seizes the physical collateral.  JPM, like the bond note investors, will have to recover what it can from Dewey’s $255 million in accounts receivable.

On the surface, this would not appear to pose a problem, but in the real world, clients “find reasons not to pay” once a firm has collapsed. 

Dewey’s ARs are not worth zero, but neither are they worth $255 million, which means that the investors who bought privately placed bond notes are likely to lose a significant chunk of their money.

Once again, investors chasing yield in today’s ZIRP environment were lured into a squirrely deal they most likely did not understand.

Caveat emptor.

Oh, by the way, Dewey’s collapse exposed an $80 million shortfall in the firm’s pension plan.  The Pension Benefit Guaranty Corporation has sued the bankruptcy estate, but as the PBGC is a nonpriority unsecured creditor, it is likely to recover nothing.

So guess who will pick up the tab for Dewey’s pensions? 

Hint:  if you’re one of the 50% of Americans who actually pay taxes, look in the mirror.

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