Senior notes in theory are a form of a loan to an Issuer of the notes. Upon liquidation, the holders of these notes get paid first out of secured property of the obligated party or the Issuer. Senior notes also are considered priority loans that are supposed to secured by property. In case of default, (that is they do not pay the interest to investors as promised or do not pay back principal), there is property behind the obligation that can be used to pay the obligation. Technically, until the obligation is paid in full including back payments of principal and interest, the noteholders or investors in Senior notes are secured over and above shareholders, partners, or others, and take priority over junior noteholders. Junior noteholders are those that have an interest in subordinate debt, meaning subordinate to Senior debt holders.
The recent low interest rate environment has caused many investors to seek higher yielding assets, which in turn means they are taking on more risk. Even though brokers often incorrectly portray these Senior Notes as safe investments, often times their safety is predicated on conditions not in the Issuers’ control. Market conditions and competition are two such conditions that the Issuer cannot control that can adversely affect the safety of these notes.
More than 77 North American energy companies have declared bankruptcy since 2015. The steep decline in global energy prices has led to this wave of bankruptcies. An energy company or Issuer’s ability to honor the terms of its investment contract is highly dependent on the energy prices. The Senior Notes are a “good deal” if energy prices remain elevated, but the Notes can be extremely risky if energy prices crash. This cycle is what we see repeatedly, the energy sector going up, and then dropping. The upward cycle stimulates sales in oil investments, while the downward cycle tests their metal. What we see during the downward cycle is the exposure of any weaknesses of a company’s capital structure. Even Senior notes are not secure enough to cover the losses that often occur in this part of the cycle. Many investors have found that they were manipulated into investing and find themselves at the bottom of the cycle with inadequate security even while holding Senior Notes.
Even if investors buy in at the right time of a cycle, they need to be cautioned about the inevitable downward part of the cycle. Investors must be prepared for the downward part of the cycle. Most Senior notes do not have an exit strategy and that can doom an investment. The SandRidge Energy program filed for bankruptcy protection in May 2016. They had more than $4.1 billion in debt obligations (comparable to Senior note obligations) outstanding and the noteholders may be in for a rude awakening.
If you invested in these notes, or other notes that are not performing as promised or anticipated, you have rights. Our office is investigating the losses suffered by numerous investors in all types of Energy programs, from Direct Participation Programs to Master Limited Partnerships.
As of May 31, 2016, there were 315 Exploration and Production companies and 97 Equipment and Service companies. Some examples of DPP’s are: Catalyst Energy, Noble Royalties, Ridgewood Energy Funds, Petrol Energy, Atlas, NGAS, Magnum Hunter, ICON, ATEL and hundreds of other sponsors.