TEXT-S&P rates Patriot Coal's DIP facility 'BB-'

Thu Aug 16, 2012 5:01pm EDT

Aug 16 - Overview
     -- Patriot Coal Corp. has obtained $802 million of
debtor-in-possession (DIP) credit facilities consisting of $500 million of new
money facilities and a $302 million roll-up facility for outstanding
pre-bankruptcy letters of credit. 
     -- We are assigning point-in-time ratings to Patriot's $500 million "new 
money" DIP credit facilities. We are rating the $125 million DIP revolving 
credit facility 'BB-' and the $375 million DIP term loan 'B+'.
Rating Action
On Aug. 16, 2012, Standard & Poor's Ratings Services assigned its 'BB-' rating 
to St. Louis, Mo.-based Patriot Coal Corp.'s $125 million debtor-in-possession 
(DIP) revolving credit facility and its 'B+' rating to its $375 million DIP 
term loan.

The corporate credit rating on the company remains 'D'.

Rationale
Patriot Coal Corp. and certain of its U.S. subsidiaries filed a voluntary 
petition under Chapter 11 of the U.S. Bankruptcy Code on July 9, 2012. On July 
10, 2012, the U.S. bankruptcy court in the Southern District of New York 
issued an interim order that authorized the company to borrow up to $677 
million of the $802 million DIP facilities. On Aug. 2, 2012, the bankruptcy 
court issued a final order authorizing access to the full amount under the DIP 
facilities. The DIP facilities constitute super priority administrative 
expense claims.

A Standard & Poor's rating on a DIP facility reflects our view of the 
likelihood of full cash repayment through the company's reorganization and 
emergence from Chapter 11. A rating on a DIP facility also acknowledges 
potential ratings enhancement if we believe the assets securing the facility 
will likely facilitate a full recovery if liquidation becomes necessary. Our 
ratings on both the revolving credit facility and the term loan incorporate a 
'B' assessment of the likelihood of cash repayment through Patriot's 
reorganization and emergence from Chapter 11. We applied a one-notch 
enhancement to the term loan rating and a two-notch enhancement to the 
revolving credit facility based on our assessment of recovery prospects under 
a liquidation scenario.

These DIP loan ratings are point-in-time ratings. Accordingly, the ratings are 
effective only for the date of this report, and we will not review, modify, or 
provide ongoing surveillance of the ratings. These ratings are based on, among 
other things, the credit agreement dated July 9, 2012, and the interim order 
and final orders issued by the U.S. bankruptcy court dated July 10, 2012, and 
Aug. 2, 2012.

We believe Patriot's bankruptcy filing was prompted by a number of factors, 
including:
     -- Difficult industry conditions stemming from a warmer-than-normal 
winter that reduced demand for electricity, the substitution of low-cost 
natural gas for coal in electricity generation, and increasingly stringent 
safety and environmental laws. These unfavorable conditions have accelerated 
what we view as a sustained decline in the economic viability of thermal coal 
produced in the Central Appalachia (CAPP) basin;
     -- Fewer production disruptions in Australia and slowing global demand 
have caused metallurgical (met) coal prices to decline; 
     -- High ongoing costs related to certain labor agreements and legacy 
liabilities; 
     -- Sales contract deferrals and the failure of two significant customers 
to honor purchases; and
     -- The company's inability to refinance its 2013 maturities, including a 
$428 million revolving credit facility and a $125 million accounts receivable 
securitization facility, which as of March 31, 2012, had $329 million of 
letters of credit outstanding.

Still, we believe that Patriot remains a viable business, and the company's 
reorganization and emergence from bankruptcy are supported by: 
     -- Its asset base, including a large reserve base that includes a number 
of mines with attractive cost structures;
     -- Its strategy to focus mining operations on higher-margin met coal and 
its lower cost steam coal mines, which should enhance profitability over the 
long term; and
     -- The possibility that it may gain some union concessions and exit 
underwater contracts and uneconomic leases, which should result in lower costs 
and better profit and cash flow potential.

We currently believe the DIP financing provides the company with sufficient 
liquidity to effectively conduct its business throughout the bankruptcy 
process.

While we believe that reorganization is a more likely scenario for the company 
than liquidation, the ratings reflect our assessment that various factors 
could hinder the company's ability to reorganize and emerge from Chapter 11. 
Those factors include:
     -- A continued secular decline in demand for thermal coal, as well as a 
prolonged cyclical decline in met coal demand, which could continue to depress 
prices and increase Patriot's cash burn; and
     -- Difficulties in adequately restructuring legacy liabilities and labor 
agreements, which would pressure earnings and Patriot's cost-competitiveness.

In assessing the likelihood that Patriot will fully repay the DIP revolving 
credit facility and DIP term loan through its reorganization and emergence, we 
assumed that:
     -- $375 million would be outstanding under the DIP term loan, reflecting 
our assumption that none of the outstanding principal would be prepaid prior 
to emergence.
     -- No more than $65 million of DIP revolving borrowings would be 
outstanding. This reflects the maximum amount we assume would be available 
(after considering the borrowing base, reserve, and other availability 
limitations pursuant to the DIP credit agreement).
     -- All letters of credit under the $302 million DIP letter of credit 
facility would remain undrawn during the Chapter 11 proceeding, and the 
company would replace them upon emergence.

Although we think the going concern value of a reorganized Patriot will likely 
exceed the amount of DIP financing that it would have to repay in full in cash 
upon emergence, the extent of the cushion is difficult to assess. In our view, 
a fair degree of unpredictability surrounds Patriot's ultimate reorganization 
value as a result of the sector's volatility, as well as the uncertainties 
relating to Patriot's potential pension and OPEB cost savings, operating cost 
reductions, and lease and contract rejections. As we see it, the higher the 
enterprise value in the eyes of market participants (over and above the amount 
of the DIP facilities), the lower the refinancing risk that DIP lenders face. 
At this point, we assume that Patriot's emergence value will not substantially 
exceed the amount of the DIP facilities.

On the basis of the analytical considerations described above, our DIP ratings 
reflect a 'B' risk assessment of the likelihood that Patriot will repay DIP 
lenders in cash in full at the point of its reorganization and emergence from 
Chapter 11.

Valuation/collateral coverage

As part of our DIP loan rating analysis, we assessed prospects for repayment 
of principal in the event that Patriot is unable to reorganize and the 
bankruptcy proceeding is converted into a Chapter 7 asset liquidation.

In our view, coal asset valuations pose a significant challenge, especially 
given the heightened potential for extreme distress inherent in a liquidation 
scenario. While we believe that our analysis reflects a reasonable degree of 
conservatism, we emphasize that the assumptions and estimates underlying our 
liquidation valuation are subject to uncertainties, contingencies, and future 
developments that are difficult to predict. Coal markets are volatile. On the 
metallurgical side, asset values are affected by the global demand for steel. 
Thermal coal prices tend to fall during periods of declining electricity 
consumption and low natural gas prices. In addition, we expect Central 
Appalachian thermal coal valuations to remain depressed-perhaps severely 
so-given the regulatory, operating, and other challenges unique to that region.
 
Our analysis reflects the following assumptions about payment priorities based 
on the terms of the bankruptcy court orders and the credit agreement:

     -- The DIP facilities have a first priority claim on net asset 
liquidation proceeds, except for up to $7 million of claims that have a 
court-approved higher priority.
     -- The $125 million DIP revolving credit facility and the $375 million 
DIP term loan have a "first out" position, and the $302 million DIP letter of 
credit facility has a "second out" position.
     -- The DIP revolving credit facility has a first priority claim on 
accounts receivable and a second priority claim on all other assets, and the 
DIP term loan has a first priority claim on all assets other than accounts 
receivable, and a second priority claim on accounts receivable.

Our liquidation analysis also reflects the following:
     -- We understand that Patriot has approximately 1.9 billion tons of 
proven and probable coal reserves. 
     -- We assumed that the company would owe about $65 million under the DIP 
revolving credit facility, reflecting the maximum amount we assumed Patriot 
would be able to borrow or use for letters of credit in light of borrowing 
base, reserves, and availability limitations imposed by the credit agreement.
     -- We assumed that $375 million would be outstanding under the DIP term 
loan. 

Metallurgical coal assets. 
We arrived at a gross liquidation value for Patriot's metallurgical coal 
reserves and related assets of roughly $275 million. This estimate includes 
accounts receivable, inventory, and machinery and equipment that we assume 
would be allocable to Patriot's metallurgical coal business. In our view, 
Patriot's Rocklick and Wells reserves, which consist of typically higher value 
"High-Vol A" reserves are worth more than Patriot's other metallurgical coal 
reserves on a price-per-ton basis.  

Thermal coal assets. 
We arrived at a gross liquidation value for Patriot's thermal coal reserves 
and related assets of roughly $300 million. This estimate includes accounts 
receivable, inventory, and machinery and equipment that we assume would be 
allocable to Patriot's thermal coal business.  We note, however, that we 
ascribed no value to reserves that we understand are not under development or 
associated with any of Patriot's key mining complexes.

Net liquidation proceeds. 
After accounting for liquidation and wind-down costs and priority "carve-out" 
claims, we estimate that approximately $500 million of asset liquidation 
proceeds would be available for distribution to DIP lenders under our 
analysis.  

Coverage. 
Based on our analysis, we believe that the net distributable value of 
Patriot's assets would exceed the amount of the DIP revolving and term loan 
facilities in a liquidation scenario. While our analysis suggests that both 
facilities benefit from some measure of overcollateralization, we think that 
DIP revolving lenders are more favorably positioned from a recovery 
perspective. In our view, this advantage stems from the first priority claim 
that the DIP revolving credit facility has on accounts receivable, which is a 
more liquid form of collateral, together with the borrowing base and reserve 
protections contained in the credit agreement. As a result, we applied a 
two-notch enhancement (the maximum achievable under our DIP ratings framework) 
to our underlying risk assessment of 'B', which results in an overall DIP 
revolving credit facility rating of 'BB-'. For the DIP term loan, we applied a 
one-notch enhancement to our underlying risk assessment of 'B', which results 
in an overall DIP term loan facility rating of 'B+'.

Related Criteria And Research
     -- Update on Rating Methodology For Debtor-in-Possession Loans With Non 
Cash Pay Features, July 30, 2009
     -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008

Ratings List

Patriot Coal Corp.
 Corporate credit rating    D

New Rating

Patriot Coal Corp.
 Senior secured
  $125 million revolver     BB-
  $375 million term loan    B+


Complete ratings information is available to subscribers of RatingsDirect on 
the Global Credit Portal at www.globalcreditportal.com. All ratings affected 
by this rating action can be found on Standard & Poor's public Web site at 
www.standardandpoors.com. Use the Ratings search box located in the left 
column.
FILED UNDER:
Comments (0)
This discussion is now closed. We welcome comments on our articles for a limited period after their publication.