Thread
An Educational Thread About Corporate Insolvency, and How it Applies to NFTs
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In the high yield and leverage finance markets, many businesses operate with excessive leverage (6x +).
However, most of these companies can continue to operate for years or even decades without going insolvent.
However, most of these companies can continue to operate for years or even decades without going insolvent.
Insolvency occurs when the company can no longer service its debt (i.e. interest + principal) and lenders are not willing to amend terms.
To keep things simple, let’s focus on their ability to pay principal in this thread.
To keep things simple, let’s focus on their ability to pay principal in this thread.
Companies’ ability to pay principal is predicated on credit market conditions.
Suppose a company has $500mm bonds outstanding, and $100mm cash on balance sheet.
If credit markets are fine, they can issue $500mm of new bonds to refinance the old bonds at maturity.
No problem.
Suppose a company has $500mm bonds outstanding, and $100mm cash on balance sheet.
If credit markets are fine, they can issue $500mm of new bonds to refinance the old bonds at maturity.
No problem.
Now suppose credit markets tightened. The market is only willing to buy $400mm of new bonds from the company.
The company will need to draw from alternative sources (cash, equity, secured loans, asset sales, etc.) to cover the $100mm shortfall.
The company will need to draw from alternative sources (cash, equity, secured loans, asset sales, etc.) to cover the $100mm shortfall.
Insolvency would occur when the company has exhausted all its cash on hand, and alternative sources of financing.
If lenders don’t amend terms, we would begin a restructuring process that could include a wind down of assets or the sale of the company (at discounted levels).
If lenders don’t amend terms, we would begin a restructuring process that could include a wind down of assets or the sale of the company (at discounted levels).
In NFTs, we’re beginning seeing early signs of credit market tightness on BendDao.
BAYC borrowing size this morning ranged from 40-42E, versus 44-46E a few days ago.
At the mid point, this suggests that a straight refi would need 4E of incremental capital.
BAYC borrowing size this morning ranged from 40-42E, versus 44-46E a few days ago.
At the mid point, this suggests that a straight refi would need 4E of incremental capital.
Example:
Consider someone with three BAYC loans outstanding at 46E each (138E debt).
There are 70E bids on the collection.
They have 50E liquid.
If BendDAO loans are now at 41E, upon refinancing the borrower will have the same three apes, but only 35E liquid left.
Consider someone with three BAYC loans outstanding at 46E each (138E debt).
There are 70E bids on the collection.
They have 50E liquid.
If BendDAO loans are now at 41E, upon refinancing the borrower will have the same three apes, but only 35E liquid left.
Now suppose that person had FOUR BAYC (all floors) and 50E liquid.
35E liquid isn’t enough to repay the 4th loan. So they would rather do a wind-down process to maximize their capital recovery.
35E liquid isn’t enough to repay the 4th loan. So they would rather do a wind-down process to maximize their capital recovery.
Example wind down:
Start with 50E liquid.
Minus: 46E to pay down loan.
Plus: 70E to sell the ape (74E Liquid)
Minus: 46E
Plus: 70E (98E Liquid)
Minus: 92E to pay down 2 loans.
Plus: 140E (146E liquid)
Net recovery of 96E on those four apes, or 1.37 in ape-equivalent value.
Start with 50E liquid.
Minus: 46E to pay down loan.
Plus: 70E to sell the ape (74E Liquid)
Minus: 46E
Plus: 70E (98E Liquid)
Minus: 92E to pay down 2 loans.
Plus: 140E (146E liquid)
Net recovery of 96E on those four apes, or 1.37 in ape-equivalent value.
With so much data on chain, it’s easy to see how much liquidity a wallet has (ETH, WETH, ETH in blur pool, $ape, stables, $blur, etc.) and recognize whether they are overlevered.
Assessing their liquidity outside the wallet is more of an art, but educated guesses can be made.
Assessing their liquidity outside the wallet is more of an art, but educated guesses can be made.
For overlevered investors with insufficient liquidity to repay their debts, it’s absolutely critical for NFT credit markets to improve to avoid a wind down.
I.e. if BendDao loans go up to 45E again, they can refi the 41E loan for 45E and net +4 liquid to keep the show going
I.e. if BendDao loans go up to 45E again, they can refi the 41E loan for 45E and net +4 liquid to keep the show going
This might be achievable by raising the price of BAYC (possibly even with the use of additional leverage) to encourage others to inject ETH into the BendDao pool.
If credit conditions don’t improve (or even worsen), there will be issues.
If credit conditions don’t improve (or even worsen), there will be issues.
Raising the price is also advantageous to the borrower in a wind down scenario, where they can recover more of their capital from each ape sale, net of the repaid loan.
If NFT credit market conditions don’t improve, we might begin to see issues for wallets that are deeply overlevered.
But I have no visibility on timing. It all depends on BendDAO liquidity.
I recommend everyone monitor BAYC credit conditions on BendDAO to see how it plays out.
But I have no visibility on timing. It all depends on BendDAO liquidity.
I recommend everyone monitor BAYC credit conditions on BendDAO to see how it plays out.
Malicious actors could even take out unnecessary BAYC loans on BendDAO to drain the pool, thereby forcing a credit crunch on overlevered BAYC owners and intentionally restricting their ability to refinance at reasonable terms.
It’s also worth noting the credit available from NFTfi for BAYC: 
