Hedge Funds Step into the Breach as Traditional Lenders Exit the Debtor-In-Possession Loan Market

February 12, 2009
Hedge Fund Law Report

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Debtor-in-possession (DIP) financing long has served as a lifeline for companies during a Chapter 11 restructuring process. Chapter 11 debtors use DIP loans to finance their operating expenses, including payments to bankruptcy lawyers and other advisors, and such financing generally is perceived as necessary for a debtor to restructure and avoid liquidation. However, the market for DIP loans, like other types of credit, has all but frozen of late. Notably, GE Capital, one of biggest players in the DIP lending market, with $1.75 billion of such loans made in 2007, pulled out of the business in the last quarter of 2008. But just as the supply of DIP loans has constricted, the demand for such loans has grown dramatically. GE executives reportedly predicted in September 2008 that the market for DIP loans could grow to $12 billion in 2009. As traditional lenders such as GE pull out of the business, at least temporarily, Chapter 11 debtors are looking increasingly to hedge funds to step into the lending breach and preserve the viability of the restructuring process. We explain the role hedge funds are assuming in the DIP loan market, common terms of hedge fund DIP loans, how hedge fund protect themselves when making such loans and borrower considerations.

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