This is quick write up, due to the timely development. I recommend long DEX One 14% bonds expiring at 01/29/2017. The bond has a Pay In Kind clause, which allows the company to pay 50% of the interested in bonds. It has been trading in the mid 20s before the merger between Dex One and SuperMedia was announced. The bond is trading as distressed level, because DEX One was will not be able to refinance it bank loans and had to go into restructure as early as 2014. The price jumped to 40 cents after the initial announcement of the merger in August (details below). It traded back down to low 30s because the company could not reach agreement with the bank loan holders. On Dec.6th, the companies announced that they have reached agreement with lender steering committee. The price of the bonds has not changed since the recent announcement.  I believe due to the merger and new credit agreement the probability weighted PV of the bonds has significantly changed. Due the the following reason. The odds of the combined company surviving and paying back the principals in full has increased. The underlying asset supporting the bonds has improved, as the cash flow profile has improved in each of four silos after the merger (also the number of silos supporting the bonds increases from 3 to 4.). The expected number of coupon to be collected increased due to the maturity extension of the bank loans (from 2014 to the end of 2016.). 34 cents represents an attractive risk/reward profile.

DEX ONE Corp. (DEXO) and SuperMedia are advertising and marketing agencies that provide a range of advertising solutions to small and medium sized businesses through various channels for its customers to advertise in "yellow pages" and online portals. Their primarily customers are small and medium businesses. For more background, please check out the write by banjo1055 on DEXO’s equity. Obviously the industry is facing both cyclical headwinds and secular decline. Revenue has been declining in the mid teen. Both companies are trying to move into Digital distribution to offset the dying printing business. DEX One has been more successful in diversifying their business. Their digital revenue will grow in excess of 30% this year and accounts for about 20% of the total revenue. The declining of the business has been de-accelerating and the company has been able to cut expense to keep EBITA margin at low 40%s. The management is projecting revenue to be stabilized around 2016.

In August, DEXO and SuperMedia announced merger agreement. Dex Media, Inc. wiill become publicly-traded successor to Dex One. The ownership of new company will be 40% SuperMedia / 60% Dex One. The goal is to achieve National scale, share technology platform and achieve expense synergies.

• $150–175MM of annual run-rate expense synergies

You can find the breakdown of cost savings on the recently filed 8k.

• $200–275 MM of cash flow due to preservation of Dex One tax attributes and potential creation of additional tax deductions as a result of the transaction

The SuperMedia silo will have the ability to utilize savings resulting from Dex One’s tax attributes, ~$1.8 billion at 2012 year-end. It will provide additional $200-275 million of cash flow over the forecast period

The combined company is expected to generate 2657M revenue and 1094M EBITA this year. The management guided the revenue to be stabilized at 2B and EBITA around 719M, assuming 175M cost synergy is achieved.

The new agreement with lender extended the banks loans at each silo to the end of 2016. In exchange for the maturity extension, interest rate and Increased mandatory amortization at all Dex One credit silos are increased. Separated excess cash flow after mandatory amortization into three buckets, resulting in over 80% of the quarterly free cash flow after amortization being used to retire debt at every silo including
• Par sweep: Sweeps at par
• Discounted Prepayment Portion of ECF: Company has 180 days after the end of each quarter to use this portion to tender for bank debt; otherwise cash must be used as a par reduction of the outstanding loan balance
• Borrower’s Discretionary Portion of ECF: Can be used for discounted tenders of the bank debt at Company’s discretion




This is the baseline estimates at each silo levels

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My baseline assumption assumes the combined company can achieve cost synergy at the middle of the guidance, revenue decline gradually slows and EBITA margin decline to mid 20s. This margin assumption is conservative, because the high margin digital revenue will like to offset the margin pressure from de-scaling.






My bear case assumes revenue slows to single digit decline and the company only redeems the half of the loan at discount.

Even in the bear case, I believe the company should be able to service all the debt until the end of 2016. There are two scenarios. 1, at the end of 2016 the company is not able to roll its debt and enter into restructure. or 2, bank loans are rolled and the bonds are paid in full.

In the first senario, the question is the terminal value of the company at the end of 2016. In my baseline scenario, Even the company pays half of the interest in kind and does not buy back any bonds. The total outstanding bonds at the end of 2016 is ~288M. If the company is able to stabilize the revenue and generate 745M EBITA,  bond holders are pretty safe even with a 3.5 multiple. In my bear case and assuming there NO terminal value left for the bondholders, the NPV with 5% discount rate is 30.3 cents, roughly 10% lower than the current price. At 10% discount rate, the NPV is 29.5 cents. If the bondholders are paid in full, the expected NPV event with 10% discount rate is 124.5, that is 266% higher than the the current price.

 

RISK:

Although the company has reached agreement with the steering committee it still need additional support from other lenders as well as the shareholders.  I do not expect equity holders to vote down this deal. The company still need (a) holding more than 2/3 of the outstanding loans under each Credit Facility and (b) representing more than50% of Dex One’s lenders under each Credit Facility.
According to the recent 8k, I believe the deal go through is relatively high.

"As of the effective date of the Support Agreement, the lenders party thereto held approximately 41% of the outstanding aggregated principal amount under the Dex Media East, Inc. credit facility, 63% of the outstanding aggregated principal amount under the Dex Media West, Inc. credit facility, and 35% of the outstanding aggregated principal amount under the R.H. Donnelley Inc. credit facility."

Finalized the merger and achieve cost synergy as expected.