Chrysler Bankruptcy Analysis - Part III: Will The "Absolute Priority Rule" Kill The Sale?

[Part I: Assessing the Financial Carnage; Part II - Testing the Limits of Section 363 Sales]

[6/09/09 UpdateSee also my analysis of the Chrysler Sale Opinion (Part I) and (Part II).]

Well, the initial pleadings have been filed, and Chrysler's argument is essentially that it's a "dead man walking."  In it's opening memorandum of law in support of its motion to approve the sale, Chrysler argues that if the "sale" doesn't close on the accelerated timetable proposed, it will wither on the vine, resulting in "a rapid and severe loss of value."  (Mem. at 10).  Surprisingly, though, Chrysler's opening memorandum doesn't squarely address the issue laid bare in my previous post and in the preliminary objection of the dissident lenders; that is, why isn't the proposed transaction a sub rosa plan of the kind prohibited under the law of the Second Circuit?

In dancing around this question, Chrysler's lawyers submit a two-pronged response, arguing that the transaction should be approved because, first, Old Chrysler is receiving "fair consideration" in the transaction and, second, Chrysler's going concern value will be preserved, jobs will be retained, and an extensive network of independent dealers and suppliers will live to see another day.  Chrysler's opening memorandum of law, however, does not address the important question of why, absent the consent of the dissident lenders, 65% of the equity in New Chrysler should go to junior creditors in satisfaction of their respective claims against Old Chrysler while the claims of senior dissenting lenders go unpaid?

One thing's for sure, Chrysler's (and soon GM's) court battles will afford us a rare opportunity to witness one of bankruptcy law's most fundamental questions being litigated in the highest stakes battles of all time, that being:

When does the "absolute priority rule" (compare FRB-Cleveland's strict construction of the rule back in 1996 here with the Administration's position today), which establishes a hierarchy of recovery rights among creditor classes, take a back seat to the "fresh start," rehabilitative policy of chapter 11? 

Chrysler's opening memorandum touched upon this question by focusing on the US Supreme Court's classic pronouncement in NLRB v. Bildisco & Bildisco, 465 U.S. 513, 528 (1984), where the Court stated that the "fundamental purpose of reorganization is to prevent the debtor from going into liquidation, with an attendant loss of jobs and possible misuse of economic resources."  This principle, Chrysler argues, is paramount and (quoting NY's judicial patriarch, Bankruptcy Judge Lifland, in the old Eastern Airlines case) "all other bankruptcy policies are subordinated" to it.  (Mem. at 4).

Many, however, will surely disagree with Judge Lifland's statement from 20 years ago that all bankruptcy policies should be subordinated to the reorganization objectives of the Bankruptcy Code.  Indeed, even on a very practical level, as the authors of this 1997 article entitled "Chapter 11's Failure in the Case of Eastern Airlines" note, such a policy is a failure:

Eastern Airlines' bankruptcy illustrates the devastating effect of court-sponsored asset stripping-using creditors' collateral to invest in negative net present value "lottery ticket" investments-on firm value.  During bankruptcy, Eastern's value dropped over 50%. We show that a substantial portion of this value decline occurred because an over-protective court insulated Eastern from market forces and allowed value-destroying operations to continue long after it was clear Eastern should be shut down. 

Relying on Bildisco to establish an unwavering rule of law is also risky because Supreme Court jurisprudence on bankruptcy matters is anything but a seamless web.  Indeed, Ken Klee points out in his remarkable new book, Bankruptcy and the Supreme Court, Justice Rehnquist once wrote to Justice Stevens:  "I do not feel that I am qualified to make any sort of exegesis on the meaning of the Bankruptcy Code."  (Klee, p. 48).

For those looking for some alternative Supreme Court pronouncements favoring the dissenting lenders, consider Raleigh v. Ill. Dep't of Rev., 530 U.S. 15, 24-25 (2000) (argued in victory by now Chicago Bankruptcy Judge Ben Goldgar), where the Court stated:

Bankruptcy courts are not authorized in the name of equity to make wholesale substitution of underlying law controlling the validity of creditors' entitlements, but are limited to what the Bankruptcy Code itself provides. 

Consider also these two important pronouncements in Howard Delivery Serv., Inc. v. Zurich American Ins. Co., 547 U.S. 651 (2006) (pdf) (discussed at length in this previous blog post), where Justice Ginsburg, writing for a 6-3 majority, stated:

In holding that claims for workers' compensation insurance premiums do not qualify for § 507(a)(5) priority, we are mindful that the Bankruptcy Code aims, in the main, to secure equal distribution among creditors. We take into account, as well, the complementary principle that preferential treatment of a class of creditors is in order only when clearly authorized by Congress.... (Id. at 655-56)

[W]e are guided in reaching our decision by the equal distribution objective underlying the Bankruptcy Code, and the corollary principle that provisions allowing preferences must be tightly construed....  Any doubt concerning the appropriate characterization [of a bankruptcy statutory provision] is best resolved in accord with the Bankruptcy Code's equal distribution aim.  We therefore reject the expanded [i.e., "plain meaning"] interpretation Zurich invites.  (Id. at 667) (citations omitted).

Let's also not forget an absolute favorite of Chicago's Chief Bankruptcy Judge Carol A. Doyle, Northern Pacific Railway Co. v. Boyd, 228 U.S. 482 (1913).  There, following the Panic of 1893, shareholders and bondholders combined in a proposed reorganization plan to transfer the debtor's assets to a new company that they would own, while freezing out the railroad's general unsecured creditors, whose priority fell between the bondholder and shareholder classes (proving, yet again, that the more things change, the more they really just stay the same).  The unsecured creditors argued (much like Chrysler's dissident lenders today) that the foreclosure sale contemplated by the plan "was the result of a conspiracy between the bondholders and shareholders to exclude general creditors" from the new company.  The trial court overruled the unsecured creditors' objection, holding that (as argued by Chrysler and the Administration today) because the debtor was insolvent and there was no value for unsecured creditors (or in this case, the dissident lenders), the unsecured are entitled to nothing.  The Supreme Court, however, reversed in a 5-4 opinion written by Justice Joseph Lamar (see 4/29/1913 NY Times article), in which he stated:

If the value of the road justified the issuance of stock in exchange for old shares, the creditors were entitled to the benefit of that value, whether it was present or prospective, for dividends or only for purposes of control.  In either event it was a right of property out of which the creditors were entitled to be paid before the stockholders could retain it for any purpose whatever. 

This conclusion does not, as claimed, require the impossible, and make it necessary to pay an unsecured creditor in cash as a condition of stockholders retaining an interest in the reorganized company.   His interest can be preserved by the issuance, on equitable terms, of income bonds or preferred stock.  If he declines a fair offer, he is left to protect himself as any other creditor of a judgment debtor; and, having refused to come into a just reorganization, could not thereafter be heard in a court of equity to attack it. 

Nowadays, collusive efforts to squeeze out the dissenting middle are often called "reverse cramdowns."  As noted in this previous blog post, the Third Circuit held that plans proposing such "reverse cramdowns" may violate the so-called "absolute priority rule."  More significantly, however, the Second Circuit in Motorola, Inc. v. Official Comm. of Unsecured Creditors (In re Iridium Operating, LLC), 478 F.3d 452 (2007), recently addressed attempts to squeeze out the middle in the context of a settlement that the debtor sought to have approved under Bankruptcy Rule 9019.  While the Court in that case approved the settlement, it provided critical guidance in gauging the authority of Judge Gonzalez to approve the proposed "sale" transaction in contravention of the requirements of the absolute priority rule.  The court stated:

Motorola claims that a settlement can never be fair and equitable if junior creditors' claims are satisfied before those of more senior creditors. The phrase "fair and equitable" derives from Section 1129(b)(2)(B)(ii) of the Bankruptcy Code, which describes the conditions under which a plan of reorganization may be approved notwithstanding the objections of an impaired class of creditors, a situation known as a "cramdown."

Although the statute by its terms applies only to plans of reorganization, the Supreme Court has held that a settlement presented for approval as part of a plan of reorganization, because it constitutes part of the plan, may only be approved if it, too, is "fair and equitable" in the sense of conforming to the absolute priority rule.  See TMT Trailer Ferry, 390 U.S. at 424 ("The requirements . . . that plans of reorganization be both 'fair and equitable,' apply to compromises just as to other aspects of reorganizations.").  When a settlement is presented for court approval apart from a reorganization plan, however, the priority rule of 11 U.S.C. § 1129 is not necessarily implicated.  Without the requirement that pre-plan settlements conform to the absolute priority rule, only the bankruptcy court's invocation of Rule 9019 factors would protect the interests of any nonsignatory intermediate or impaired creditors.

In response to this concern, the Fifth Circuit held that the absolute priority rule should also apply to pre-plan settlements, concluding that "a bankruptcy court abuses its discretion in approving a [pre-plan] settlement with a junior creditor unless the court concludes that priority of payment will be respected as to objecting senior creditors."  United States v. AWECO, Inc. (In re AWECO, Inc.), 725 F.2d 293, 298 (5th Cir.1984).

The Fifth Circuit accurately captures the potential problem a pre-plan settlement can present for the rule of priority, but, in our view, employs too rigid a test....  Rejection of a per se rule has an unfortunate side effect, however: a heightened risk that the parties to a settlement may engage in improper collusion.  Thus, whether a particular settlement's distribution scheme complies with the Code's priority scheme must be the most important factor for the bankruptcy court to consider when determining whether a settlement is "fair and equitable" under Rule 9019.  The court must be certain that parties to a settlement have not employed a settlement as a means to avoid the priority strictures of the Bankruptcy Code.

In the Chapter 11 context, whether a settlement's distribution plan complies with the Bankruptcy Code's priority scheme will often be the dispositive factor.  However, where the remaining factors weigh heavily in favor of approving a settlement, the bankruptcy court, in its discretion, could endorse a settlement that does not comply in some minor respects with the priority rule if the parties to the settlement justify, and the reviewing court clearly articulates the reasons for approving, a settlement that deviates from the priority rule.  (Emphasis added).

Glaringly absent in Chrysler's motion in support of the sale is reference to Bankruptcy Rule 9019 as a basis for the relief requested.  This could be fatal, since while Section 363(f) permits sales free and clear of liens (but see Judge Markell's bombshell ruling in PW, LLC), nothing in Section 363 contemplates the kind of restructuring of rights called for by the proposed transaction.  Rather, such relief seems better framed as a request for approval of a compromise and settlement under Rule 9019.  But, given the seemingly narrow instances in which the Second Circult would authorize a compromise that violates the absolute priority rule, perhaps the omission is intentional.  It's surprising that the dissident lenders didn't raise this point in their preliminary objection to the sale, but I suspect it won't be long before they do.

Thanks for reading.  Here are links to Part I and Part II of this series. 

Special thanks to the following sites, some new, some favorites, who linked to previous posts.  Thanks for your kind words and links, I already have more page views in the first four days of May than I did in all of April:

Calculated Risk, Volokh Conspiracy, The Wall Street JournalThe WSJ Deal Journal, Truth About Cars, Baseline Scenario, Daily Bankruptcy News (the best daily collection of links to bankruptcy-related stories around), ABI Blog Exchange, Keith Hennessey.com, Credit Slips, Bankruptcy Prof Blog, Infectious Greed, Robert Salomon's Blog, Seeking Alpha, The Epicurean Dealmaker, Houston's Clear Thinker, Simoleon Sense, i-Stock Analyst, Fear and Greed, A Clean Slate, Ohio Practical Business Law, Red Lion Reports, Underbelly, Capital Gains and Games, Futronomics, Decline and Fall of Western Civilization, Business Week Business Exchange, But Then What, Reddit Economics, Three Legged Stool, The Smart Globalist, and Red State.

Note:  The inset graphic is a marketing poster used to promote "War of Wealth," a play by Charles Turner Dazey that opened on Broadway February 10, 1895 and is favorably reviewed in this February 25, 1895 New York Times artiicle.

© Steve Jakubowski 2009

Written By:Jim McCafferty On May 5, 2009 8:51 AM

Excellent analysis of Obama's problem in favoring the UAW in these important cases.

JMcC, Hot SPrings, AR (retired bankuptcy lawyer, SD Calif.)

Written By:Margot C. On May 5, 2009 10:59 AM

Dear Mr. Jakubowski,

Just a quick note to thank you for your informative posts on Chrysler's bankruptcy. I've been looking for a week on 'good" information to explain the rights of the secured creditors and from my basic understanding of bankruptcy law I just could not understand how Obama could force this through. Your blog provides the best information out there!

On that note: I sincerely hope you will try to contact some of the news outlets to educate them on the issues so they can 'educate" the rest of us!

A couple of questions I'd love to see you address in future blog posts!

1) If the sale is "sub rosa" (seems pretty clear) could the sale still be approved because without approval Chrysler will go under?

[Ed. Note: On this issue, you have to focus on the Second Circuit's Motorola case. Sub rosa and absolute priority issues are flip sides of the same coin. But in the end, I don't think it's a case of Chrysler going under, but a question of how much the other parties will have to give up to make the deal go through.]


2) Will the secured creditors retain any rights in the security interests after the sale? I always thought bankruptcy could discharge "debts" but not "security interests"!

[Ed. Note: Sales can be approved "free and clear" in bankruptcy, that's why companies file and use the 363 sale process. (But see Judge Markell's decision in PW, LLC, because he disagrees)]


3) What, if any, chances are there of an interlocutory appeal?

[Ed. Note: It's not interlocutory. Once the sale is approved, it's final, so an appeal can be taken as a matter of course thereafter.]


4) What could be "undone" on appeal, i.e., like the reversal in Kmart?

[Ed. Note: Good question, although as an earlier post of mine on the K-Mart case demonstrated, Judge Sonderby ultimately affirmed everything done originally. Here, however, because there's no real buyer, just a readjustment of equities, it's possible that unlike the typical 363 sale that is typically mooted out at closing, this transaction would not be insulated from reversal on appeal on equitable (or statutory) mootness grounds. In addition, the collusive aspects of the transaction (i.e., the backroom deals cut whacking up the equity in New Chrysler) heightens the risk of reversal of an order approving the transaction based on a lack of "good faith," and such a finding would negate all possibility of the transaction being insulated from attack on mootness grounds.]


5) Is there an argument that the TARP secured creditors are not acting in "good faith" and thus their vote doesn't count? And if so, where does this argument fit and any precedent on it?

[Ed. Note: Not a voting issue here in the 363 context, but good faith is a definite issue. As noted above, the collusive aspects of the deals reached to cram a settlement down the dissident lenders are also a potential problem.]


6) Any thoughts on whether shareholders of secured creditors who sign off on the sale could be sued for breach of fiduciary duties??

[Ed Note: No, they owe no duty here.]

Thanks for doing what no one else seems to have done--provided an accurate and thoughtful analysis of the legal issues at play.

With gratitude,

Margot

Written By:Aargh On May 5, 2009 1:36 PM

"compare FRB-Cleveland's strict construction of the rule back in 1996 here"

I think you fail to understand Longhofer and Carlstrom's position. They are saying that, prior to their writing of this paper, economic theory could only explain the role of Absolute Priority, whereas in the real world, absolute priority most definitely does not hold in bankruptcy court.

The authors' conclude: "This paper has demonstrated how the efficiency of APR violations depends on the nature of the
contracting problem present. When the firm's future profit will be higher if it is controlled by the entrepreneur, it makes sense for him to retain the firm's capital assets 'if not its past profits' after bankruptcy."

That is, the authors conclude that when the problem is correctly framed in economic theory, there are circumstances in which reorganization makes more economic sense than absolute priority. In short, you have totally misrepresented the implications of this paper.

Furthermore, the views of research economists at the Fed should NEVER be confused with the views of the Fed itself.

Written By:dWj On May 5, 2009 4:32 PM

I'd like to see more about the voting aspect. Assuming this doesn't go through as a 363, if they tried to present this as a reorganization plan, what would happen? Does "good faith" come into play there? How does law currently draw the lines between different "classes" of creditors? (In particular, could the dissidents argue that TARP status or something similar makes the other creditors a different class of creditors?)

Written By:Lawrence D. Loeb On May 5, 2009 5:01 PM

Steve:

I just posted my thoughts, on my blog (http://blog.lawrencedloeb.com/2009/05/chrysler-cant-even-get-bankruptcy-right.html), on how the priority issue could have been avoided (briefly, if they had kept the union compensation out of the bankruptcy sale while publicly stating their intent to contract with the UAW on the terms agreed in a possible out-of-court restructuring).

They still have the sub rosa issue. I believe that the DIP lender creating the business reason for an expedited sale, particularly when the lender is also funding the purchase, is highly questionable. The alternative argument is that an expedited sale is required because nobody will buy from a bankrupt car manufacturer. I don't find that particularly compelling, but it could fly.

What do you think?

As for "AARGH's" post, the conclusion of the paper is that APR violations increase interest rates, but that there are situations where keeping an entrepreneur in control are desirable, despite absolute priority, and that it would be ideal if the law provided an option for that contingency.

In any event, the payment of over $10 billion in value to unsecureds while paying only $2.0 to $2.25 billion to first lien secured holders who own debt with a face value of $6.9 billion is extreme, if not completely unprecedented.

Written By:argh On May 5, 2009 8:03 PM

Lawrence Loeb: "the conclusion of the paper is that APR violations increase interest rates, but that there are situations where keeping an entrepreneur in control are desirable, despite absolute priority, and that it would be ideal if the law provided an option for that contingency."

This statement is unfortunately wrong. The authors state that Chapter 11 is the option that the law already provides to meet the needs of the aforementioned entrepreneur. The authors are arguing that it would be ideal if the law provided an option for other entrepreneurs to attempt to lower their interest rates by opting out of Chapter 11.

A simple Coasian argument would indicate that resulting interest rate benefits are insufficient to cover the costs of amending the bankruptcy code to create a new situation where one could contract to create "absolute priority" under the law.

That said, as I am not in a position to evaluate Chrysler's liquidation value, I have no idea whether or not $2.25 billion is a fair offer. If it can be demonstrated that $2.25 billion exceeds the liquidation value of the company and the secured creditors are unwilling to put up the DIP funding themselves, then the government's desire to transfer money to other stakeholders strikes me as irrelevant to the question at hand.

Written By:Aargh On May 5, 2009 8:11 PM

Lawrence Loeb: "the conclusion of the paper is that APR violations increase interest rates, but that there are situations where keeping an entrepreneur in control are desirable, despite absolute priority, and that it would be ideal if the law provided an option for that contingency."

This statement is unfortunately wrong. The authors state that Chapter 11 is the option that the law already provides to meet the needs of the aforementioned entrepreneur. The authors are arguing that it would be ideal if the law provided an option for other entrepreneurs to attempt to lower their interest rates by opting out of Chapter 11.

A simple Coasian argument would indicate that resulting interest rate benefits are insufficient to cover the costs of amending the bankruptcy code to create a new situation where one could contract to create "absolute priority" under the law.

That said, as I am not in a position to evaluate Chrysler's liquidation value, I have no idea whether or not $2.25 billion is a fair offer. If it can be demonstrated that $2.25 billion exceeds the liquidation value of the company and the secured creditors are unwilling to put up the DIP funding themselves, then the government's desire to transfer money to other stakeholders strikes me as irrelevant to the question at hand.

Written By:Lawrence D. Loeb On May 6, 2009 1:46 AM

AARGH:

Actually, the paper contemplates a world other than the one we live in, where an entrepreneur's deciding to opt out of Chapter 11 would signal to a lender that he/she isn't going to enter into risky projects. The writer is discussing the option value of equity (in a leveraged firm, the equity is a call option on the assets with a strike value equal to the cost of the debt outstanding - since increasing volatility increases the value of a call, the owner is incentivized to take on risky projects - thus increasing volatility and the price of the option).

Frankly, while the paper does state that there are costs to violating absolute priority (see the quote from the paper's conclusion below), the writers seem to be focused primarily on small companies where the owner of the equity is also the one making management decisions (thus the continued reference to "entrepreneur"). I don't really think this paper is pertinent to Chrysler since the writers are focused on small companies and primarily focused on their theories of how business decisions are made - which have little to do with reality.

I'm not sure what you mean about interest rates and changing the law, but barring a desire to formalize violations of APR, I don't believe that any changes to Title 11 will involve priority.

From my perspective, the issues in Chrysler are:

1. Is an accelerated sale of substantially all the useful assets of Chrysler warranted to justify skipping the protections (both to the debtor and the creditor) of Chapter 11? If so, the case law supports allowing it, even if some might consider the plan to be sub rosa.

2. Is it appropriate for the DIP financing to be used as a means to create a justification for an expedited sale? Many DIPs have strong covenants, some even requiring a sale, but I am not aware of a situation where the DIP covenants require the sale to close within such a short period of time.

3. Even if a DIP loan's covenants are determined to be appropriate for accelerating a sale, is it appropriate for the DIP lender to also be a participant in the stalking horse bid (particularly given that the short time span limits potential competition in the auction)?

4. Is the value of Chrysler's assets, with a book value of $39.3 billion, worth between $2.0 and 2.25 billion? If they are worth more, is it appropriate to subordinate the first lien secured creditors to provide $10.3 billion of value to an unsecured creditor (even if it is the union)?

5. Is the transaction being conducted in "good faith" as required by 363(m)? It would seem that a significant number of the senior lenders have taken TARP funds and, therefore, have at least the appearance of acting for the benefit of the Government, and not for their other stakeholders (thus violating their duty as fiduciaries).

6. Is the transaction, as proposed, fair to the creditors? They have a fairness opinion and significant support from the senior lenders, but the situation has the appearance of being rigged.

7. What is the value of Chrysler's business enterprise? Can it be a viable company? What level of profitability can they generate and will they be able to pay the new obligations? Will another bankruptcy be ahead because this one was done too quickly to make all the necessary changes?

I have my opinions on some of these questions, but it only matters how Judge Gonzalez rules (and how any appeals to the District, Appellate, and Supreme Court are decided).

Here is the quote from the conclusion of the Fed paper that I mentioned:

"IV. Conclusion

This paper has demonstrated how the efficiency of APR violations depends on the nature of the contracting problem present. When the firm's future profit will be higher if it is controlled by the entrepreneur, it makes sense for him to retain the firm's capital assets - if not its past profits - after bankruptcy. On the other hand, APR violations of any sort have the detrimental effect of raising interest rates, thereby increasing expected bankruptcy costs and worsening credit-rationing problems. Furthermore, APR violations can reduce the entrepreneur's incentive to work hard in order to ensure his firm's profitability.

The diversity of these implications suggests that an optimal bankruptcy law would allow firms and their creditors to decide ex ante whether (and what type of) APR violations will occur in the event of financial distress. While such decisions could reasonably be left to private contracts, a formal bankruptcy law may be desirable for other reasons. If this law de facto encourages APR violations, it is clear that it should also include an 'opt-out' provision that allows private agents to determine whether its structure will be beneficial to them. This is not allowed under current U.S. bankruptcy law.

In such a world, we might expect owner-operators of small firms to include APR violations in their contracts, since these firms are the most likely to lose value from transferring their capital assets. In contrast, the value of large, publicly traded companies is less likely to be affected by their ownership, and we would therefore expect such companies to avoid APR violations of any type, as would firms of any size whose profit streams are easily affected by managerial effort."

Written By:Anonymous On May 6, 2009 10:01 AM

Dear Mr. Jakubowski:

Kudos for an informative dissection of the bankruptcy issues.

CNN reports a U.S. government official statement that a provision of bankruptcy lets Chrysler NOT repay the bailout money from the Feds.

The URL of the CNN story is: http://money.cnn.com/2009/05/05/news/companies/chrysler_loans/?postversion=2009050517

What is your perspective on this?

Thanks in advance.

[Ed Note: No surprises here. Treasury always came behind the senior secured lenders, even on the monies advanced postpetition.

Written By:Aargh On May 6, 2009 11:46 AM

Lawrence Loeb: I agree that the paper is a theoretic piece that isn't really trying very hard to come to terms with the real world. It happens that one of my pet peeves is when such papers are used by financiers, lawyers, etc. to try to make points about real world issues that the papers really don't address very well.

All economic papers weigh costs and benefits. Therefore the fact that APR violations increase costs doesn't really matter -- if allowing them encourages entrepreneurial risk taking that has benefits that exceed the costs. Most properly formulated theoretic economic papers purporting to address policy come, like this one, to the conclusion: The answer depends on the circumstances.

It is important to apply such papers to real world problems carefully and to avoid using them selectively to support a particular point of view.

Re: Chrysler I am not a lawyer, so I can accept that under the law the government may not be allowed to use a bankruptcy procedure to bailout a firm without paying off creditors in full. Clearly this means that our bankruptcy laws require large firms to be liquidated, when private DIP funding is not available. This may be an indication that our bankruptcy laws are flawed -- and not well suited to an economy dominated by extremely large firms.

Written By:ctk56 On May 6, 2009 2:13 PM

The absolute priority rule is not an issue so long as $2 billion is fair value for the assets transferred to New Chrysler. No one seems to vigorously contest that value, including the non-TARP lenders. The non-TARP lenders must properly contest value. Otherwise, the abstract arguments about the absolute priority rule are but a litigation tactic. Let the auction begin!!

Chrysler is on its deathbed as it is bleeding cash. By all accounts the first lien holders are underwater, the Debtor is not likely to pay back the DIP Financing and no commercial lender is willing to loan money to Chrysler before, during or after the bankruptcy. A liquidation is likely, if not a virtual certainty, but for the Federal Government's willingness to spend money for political reasons because the DIP loans make no economic sense.

Chrysler has been “for sale" for months. The current bid for the assets is $2 billion. An auction will occur in a few weeks. If someone is willing to pay more, let them bid, or forever hold their peace.

So-called "concessions" made by junior stakeholders and creditors are irrelevant to the absolute priority rule because they are made at a cost to the buyer. If another bidder comes forward and offers $3 billion without concessions to junior stakeholders, the Bankruptcy Court should accept that bid. If the non-TARP lenders are correct that money is being paid to junior creditors ahead of its claims, then such a bidder should exist. No such bidder is likely to appear. The only reason $2 billion is on the table is because the US and Canadian governments are willing to finance that purchase for political reasons.

In addition, the deals with junior stakeholders may be essential to the purchase price of $2 billion. The arrangement with the union is justified to insure labor peace in the future. As a buyer of substantially all assets, the potential for successor liability under the CBA also exists. The union deal is mostly shares of stock and a promissory note -- all paper, no cash. Trade debt is being paid in full, but the buyer may wish to do that to assure that it has access to supplies and services. That too is financed by the US and Canadian government.

Perhaps a different buyer could have struck a tougher bargain with the UAW and the trade. Perhaps that buyer would also be willing to offer more than $2 billion for the assets. No such buyer has appeared and the negotiations were not secret. The public auction will allow for higher bids. Taxpayers will rejoice if the government does not need to fund the purchase.

The affidavit of Robert Manzo submitted by Chrysler provides evidence that $2 billion is a fair value for the assets. The non-TARP lenders need to come forward with evidence that establishes a higher liquidation value.

Old Chrysler is almost dead. No commercial lender is willing to provide DIP or exit financing. Mr. Manzo says the sale provides fair value for the assets. What more does the Bankruptcy Judge need to know?

Let the auction begin!

Written By:richard gerard On May 6, 2009 9:32 PM

I practiced bankruptcy law at a JP Morgan predecessor bank, having a very sophisticated practice, their and elsewhere

As a matter of law neither GM or Chrysler, but particularly GM can sell their assets on a fast track basis in a bankruptcy.

GM will be liquidated.

However, you need understand the personalities. Judge Gonzales has worked for the government all of his life, he previously worked for the IRS and then was US trustee. He is a creature of the government. He will rule in favor of the government.

Unless a stay is issued, the question will be mooted.

The real test will come on the stay litigation which will get the matter to the District Court. The District Courts are somewhat clueless on bankruptcy and do not care, hence the stay of that decision which may affirm Gonzales under the old boy rule, is the place to focus.

All the analysis in the world does not address the personalities.

GM however will not draw Gonzales. Hence you may get a better result in the bankruptcy court, which under the law cannot possibly approve these type of deals.

I headed a bank steering committee in 1994 lobbying for bankruptcy reform, though many of the banks did not agree with my views. You need understand this bankruptcy was being planned way before 1994, the auto unions and banks drove that process and the deal was sealed in Congress by a deal between them on this issue.

In any event these posts are fascinating and the only place that the real issues are discussed.

I would like to see the Professor focus on the upcoming GM bankruptcy.

I am wondering if the bondholders will file an involuntary as GM has said it will not pay on June 1, hence they are free to do so and by doing so pick the forum rather than letting the company do so.

Given the absurd offer by GM to the bondholders they would be well advised to file an in involuntary now.

Written By:Jim McCafferty On May 7, 2009 5:30 PM

Some say that the Chrysler "plan" is the template for the GM case. But there is a huge difference between the two cases: unsecured bonds and small holders of those bonds. GM has them, Chrysler doesn't. The few objecting creditors in Chrysler are secured, and can be presumably satisfied for a few hundred million from the Treasury Department. In GM, the unsecured bondholders hold (reportedly) a $27 BILLION claim. Treasury reportedly wants to stiff them big time in favor of the UAW. If they object (and hopefully they will have the courage to do so - hire Tom Lauria?), their objection will be hard to overcome. A far different case from Chrysler.

Written By:Vancouver Washington Bankruptcy Lawyer On May 12, 2009 12:21 AM

I just found your informative bankruptcy blog. Thanks for sharing your knowledge! Look forward to reading future posts.

Written By:Tony On May 30, 2009 11:10 PM

Why must retirees and workers continue to take cuts,when the executives contunue to recieve outrageous salaries despite th economic we are facing ? It is the workers thaty have made all the profits for these giant companies ,not the executives. They have proved time and time again that they cannot handle large amounts of money ,because they spend it foolishly !They are the ones that should be held responsible for tyheir actions ,not to take health carew away from the workers that earned it ! The government doesn't lose any sleep over making retirees suffer ! To them ,it is a business ,and the little guy or gal will lose every time ! Gas prices will continue to raise ,just to make sure that oil company executives get their high wages and benefits !Nobody is being held accountable for their actions ! What is wrong with that picture?

Written By:Jackie On July 10, 2009 6:07 PM

My Buick cost me everything I owned before I totaaled it by taking down 3 telephone poles after hitting black ice. Geico refused me medical therapy and I've been in constant pain ever since. I couldn't even open my new dream business. When I got Geico's report, I saw it had 22 recalls. I only received 2 recalls. I've been trying to find a lawyer to take this case so I can finally get therapy. Can you help me? I saw you on tv. Thank You, Jackie Walt 716 896 5410

Ed Note: Sorry, Jackie, I'm not permitted to give legal advice in connection with my blog. Hopefully you'll find some counsel in your area to assist you.

Written By:jvwieringen On July 12, 2009 3:58 PM

Thank you for your informative post! I was wondering what the successful emerge of Chrysler from the prepackaged Chapter 11 reorganizations means for the legal aspects of the shareholder primacy versus stakeholder primacy discussion?

rgds,
JvW

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