z Illinois Chapter 11, Court Decisions, Liquidation, Lawyer & Attorney Steve Jakubowski : Bankruptcy Litigation Blog : Bankruptcy in the News

Mama Don't Take My Kodachrome Away!: Kodak's Chapter 11 -- A Bridge Over Troubled Water

Eastman Kodak Company’s bankruptcy is another in a string of recent chapter 11 filings by established brand names that lack a clear exit strategy (others are Borders, Hostess, AMR ... Europe!).  So much for the "end of bankruptcy"! 

As noted in Matt Daneman's article this week in the Rochester Democrat & Chronicle (quoting me, thanks Matt!), a Creditors’ Committee was recently formed, with the U.S. Pension Benefit Guaranty Corp. and trustees of its UK pension plan representing two of its seven members.  The Committee appointed Milbank Tweed as its bankruptcy counsel. 

Kodak’s CFO, Antoinette McCorvey, submitted a first-day supporting affidavit which is selectively long on history and short on prospects for the future.  In the 8 years preceding the bankruptcy filing, Kodak shed 50,000 jobs and closed 13 of 15 film plants and 130 photo labs.  It also exercised unilateral rights to reduce or eliminate some retiree benefits to its 65,000 retirees worldwide, resulting in about $100 million of savings annually, but retiree benefits still consumed about $250 million of cash in 2011.  Silver commodity prices also are an astounding 200% higher than 2008 (thank you Chairman Bernanke!).  Bankruptcy provides Kodak with an opportunity to accomplish many cost cutting objectives, including its behemoth $2.5 billion in legacy costs.

Notably absent from the affidavit is Kodak's staggering losses in the past decade.  Buried deep in the affidavit is a balance sheet from which one can derive that Kodak lost about $700 million in the nine months ended September 30, 2011, but nowhere in the affidavit can you find that Kodak lost another $1.5 billion in the 4 preceding years!  And the two years before that were anything but banner, too ($1.9 billion loss in 2005 & 2006 - p.60).

Kodak is like a Rubik’s Cube.  Its corporate chart shows 120 foreign and domestic subsidiaries.  It has three gargantuan business segments, R&D activities averaging $300-500 million per year in expense, 13,000 foreign patents and trademarks and pending registrations in 160 countries, and 8,900 U.S. patent and trademark registrations and applications.  This case is about not only whether the sum of the parts are worth more than the whole, but whether some of the parts have any tangible value at all. 

Trying to predict the value of nearly 23,000 patent and trademark registrations and applications is a monumental—if not entirely unfeasible—task in a chapter 11, particularly given the right of licensees to compel specific performance (see my IP in Bankruptcy Outline).  And given Kodak’s accelerating losses through the past decade, one has to wonder whether a real buyer will ever emerge for Kodak or whether the patent trolls will pick it apart like rabid Orcs.  In sum, Kodak’s footing in this chapter 11 seems as unsure as that of a Mississippi lawyer running to a Rochester court on a winter day. 

Alas, in the end, we reminisce over Paul Simon's all-too-prescient Kodachrome, but view Kodak’s chapter 11 as a Bridge Over Troubled Water.  Time will tell whether those waters will wash out the bridge.

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Mark Your Calendar for West LegalEd'sTrilogy of Worthy Webinars on Distressed Business Alternatives

West Legal Education Center, in conjunction with Buyouts Magazine, peHub, Venture Capital Journal, Thomson Reuters West, and DailyDACdeliver a webinar trilogy -- The Restructuring, Insolvency & Distressed Investing For 2012 -- featuring some of this country's finest restructuring professionals (including my partner Jonathan Friedland, who was instrumental in organizing these webinars).

I'm a big fan of West Legal Ed. Center, and listen to its library of webcasts often.  Subscribers to West Legal Ed. can watch these webcasts live using their general subscription packages.  Daily DAC subscribers get 25% off the program cost.

Here are the program titles, times, links, and participants:

Strategic Alternatives for Distressed Businesses
January 31, 2012 at 11am ET  / 10 am CT / 8 am PT
More Information

Everything the General Counsel Should Know about Chapter 11 Bankruptcy
February 29, 2012 at 11am ET  / 10 am CT / 8 am PT
More Information

How to Buy a Distressed Business
March 21, 2012 at 11am ET  / 10 am CT / 8 am PT
More Information

Panel Speakers Include:

  • James H.M. Sprayregen, Partner, Kirkland & Ellis (Chicago)
  • Jonathan Friedland, Partner, Levenfeld Pearlstein (Chicago)
  • Laura Davis Jones, Partner, Pachulski, Stang, Ziehl & Jones (Delaware)
  • Melissa Kibler Knoll, Senior Managing Director, Mesirow Financial (Chicago)
  • Richard E. Mikels, Partner Mintz, Levin, Cohn, Ferris, Glovsky & Popeo (Boston)
  • Tom Salerno, Partner, Squire, Sanders & Dempsey (Phoenix)
  • William Henrich, Vice Chairman, Getzler Henrich (NY)
  • J. Scott Victor - Founding Ptr. & Managing Dir., SSG Capital Advisors (Philadelphia)
  • Hamid Rafatjoo, Partner, Venable, LLP (Los Angeles)
  • David Lorry, Principal, Versa Capital Management (Philadelphia)
  • C.J. Burger, Managing Director, Summit Investment Management (Denver)
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Freshness Never Looked So Disheartening: Hostess' Round Trip to Bankruptcy Court Begins

As noted in Steve Mufson's excellent summary in today's Washington Post (made all the more excellent by having quoted me!), the iconic Hostess Brands fell into bankruptcy yesterday.  As with every bankruptcy case, the best summary is found in the "first day affidavit" of the company's leading executive, in this case Brian Driscoll, Hostess' CEO and board member.  From it, we learn that Hostess was founded in 1927 and went on an acquisition spree over the next 60 years to amass 36 bakeries, 565 distribution centers, 5,500 delivery routes, and 570 bakery outlet stores in the US.  We also learn, not surprisingly, that it operates in a "mature industry with high levels of competition and related pricing pressures, thin operating margins, and competitors with more sophisticated technology and significant cost advantages."

As most people know, that mature industry with razor-thin margins also led Hostess to file bankruptcy in 2004 under the name Interstate Bakeries Corporation (IBC).  That bankruptcy languished for 4 years, with liquidation often considered a real possibility.  But the parties eventually worked through the differences in hard-fought negotiations and Hostess emerged in early 2009 with a new name and a new capital structure ("4 tiers of secured debt ... of $860 million").  Unlike the government sponsored bankruptcies of Chrysler and GM that followed in short order, however, the bankruptcy effectuated no changes in Hostess' legacy costs.  Mr. Driscoll's first-day affidavit says Hostess won't make that mistake this time around.

Why did Hostess' plan fail?  Well, it was losing $150 million a year going into confirmation in 2008 and wasn't projected to start generating real net income until fiscal year 2012.  Based on the financial projections, it seems the dream of the reorganization team (which lost a lot of money on this bet) was to turn the company around in five years, generate about $150 million in "EBITDA," and sell the reorganized company at some multiple of EBITDA to the next pipe dreamer at a number that would get debt and equity investors out whole, perhaps even with a modicum of profit. 

But, as Robert Burns waxed poetically in 1786--later popularized by John Steinbeck--"the best laid schemes of mice and men gang aft a-gley [often go awry]."  Instead of generating sales of $2.9 billion in FY 2011, it only generated $2.5 billion.  Instead of losing $34 million and $9 million in FY 2010 and 2011, respectively, it lost $138 and $341 million.  Highly leveraged, with interest costs of about $60 million a year, Hostess ended up collapsing like a badly baked cupcake.

Here's the full plan and disclosure statement from Hostess' 2008 reorganization for those wanting to read the gory details of its first extended trip into bankruptcy. 

Based on the restructuring plan outlined in Mr. Driscoll's affidavit, Hostess' second trip into bankruptcy won't be as extended, but certainly will be contentious.

Thanks for reading!

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"Going Out of Business" Sales: An Interview with NPR's Planet Money

Planet Money's Zoe Chace today aired an excellent story on retail "going out of business" sales.  This 6 minute piece is a whirlwind glimpse into these sales from the perspective of the liquidator, the retailer and its staff, the consumer, and the bankruptcy lawyer (me). 

Thanks to Planet Money, who last interviewed me back in 2009 as GM was hitting the skids, for the opportunity to share my thoughts and help explain how the frenetic world of retail liquidation works.  My wide ranging 30 minute interview with Zoe was left--but for about 30 seconds--on the cutting room floor, but that's show biz!  But I think the interview gave Zoe a good frame of reference to assemble her piece, and it showed in the confident style with which she presented the basic dynamics of this unique sale process.

For those wanting some additional reading on the legal agreements behind the Borders' liquidation, which were "state of the art" from a legal perspective, here are some good materials (that are sure to put even the most hardened insomniacs to sleep if read word-for-word):

Motion to Sell Assets and Enter into Agency Agreement with the Liquidators

Order Approving Sale of Assets and Entry into Agency Agreement with Liquidators

Happy holidays to all!

(For those interested, here's my "holiday lights" post from two years ago, which the lights of the season always make me reflect upon and is a fitting reminder of the importance of maintaining dignity and hope in the face of seemingly insurmountable odds.)

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Get Your Daily Dose of Daily Deals at THE DAILY DAC!

There's an online subscription site, THE DAILY DAC, that is quickly gaining traction among bankruptcy and distressed M&A professionals by carving out for itself a niche in the underserved distressed M&A market for smaller acquisitions.  With smaller UCC foreclosure, receivership, creditor assignee, and bankruptcy 363 sales often closing within two weeks to two months from announcement, timely access to the available opportunities is critical for sellers and prospective buyers alike. 

For those wondering where to find information on these kinds of deals, THE DAILY DAC is the place to go.  The DAILY DAC capitalizes on everyone's need for timely information in this market by obsessively searching daily for opportunities nationwide in distressed M&A and commercial real estate offerings and in public auctions (whether out-of-court or pursuant to court order) and then posting them online in a searchable database for subscribers.  Information is also collected and distributed twice weekly by email.  The $500 annual subscription, however, is probably the best bargain you'll ever find at that site as it will pay for itself in less than one to two hours of professional or paraprofessional time.  A free trial subscription is available (and you don't have to mention you read it here to get it).

With the encouragement and support of a strong advisory board (featuring well-known names in the distressed world), the website launched on May 3 of this year.  Here is a Q&A I asked THE DAILY DAC's co-founder, Kristin Weber, to write for those wanting to learn a bit more about the site.

Thanks for reading.

[PS:  For the record, I neither received nor was offered a subscription or other rights for promoting THE DAILY DAC.  I have met the co-founders, discussed the site with them at length, offered some suggestions for improvement, reviewed the site's content and goals with a Chicago-based advisory board member, and--in the end--believe it provides a valuable service in an underserved niche.]

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Voyage of the Damned: The GM Tort Claimants' Opening Appellate Brief -- Brother, Can You Spare a Quarter?

[4/13/10 Update:  In this decision, the District Court denied my appeal as statutorily and equitably moot and so would not consider whether Section 363(f) allows bankruptcy sales "free and clear" in in personam products liability claims.]

[12/14/09 Update:  Here's the response briefs of GM and Treasury.  Here's my reply briefHere's a link to my post today on Supreme Court's bombshell ruling vacating the 2d Circuit's Chrysler decision.]

What started out a couple months ago as a "Slow Boat to China," today feels more like the "Voyage of the Damned."

Yesterday I filed this "Opening Brief" (plus the Sale Opinion at Appendix A and the Sale Order and MPA at Appendix B) on behalf of my five clients in our appeal of the GM Sale Order:  Callan Campbell, et al., v. Motors Liquidation Company, Case No. 09-6818 (NRB) (S.D.N.Y.).  The brief's "Summary of the Argument" is at the end of this post.

This appeal is the only one pending that challenges the abhorrent treatment of preexisting products liability claims in either the GM or Chrysler bankruptcy cases.

When I first got involved in the case three months ago, I summarized here the injuries and the myriad adversities faced by my clients on a daily basis.  I wrote:

The sad, and all too tragic, stories of my clients, taken from the filed objection, are set forth below.  The only thing my clients did wrong here was buy a GM car.  For this act of brand loyalty, they have paid dearly.   It's not enough that people lose their lives and get severely injured from design defects and product flaws, now they and their loved ones get thrown under the bus!

Having now lived with GM for about 450 hours the past three months, I have to say I'm thoroughly appalled at the cold-hearted stinginess of those calling the shots at GM and Chrysler.  They have left helpless accident victims hanging out to dry for reasons I cannot fathom, while otherwise spending "whatever it takes" -- to whomever it takes -- "to get the 'deal' done."  (See Opening Brief, at p.7).

With the US Treasury paying a mind-boggling $92 billion for most of "Old GM" (see Opening Brief, at p.7 fn.4), would it really be such a burden for the Secretary and his Boss to set aside another $250 million or so (or about 1/4% of the total consideration paid in the deal) to make sure there's a small, but adequate, reserve to cover medical bills, assisted care, and other basic requirements of those (see, e.g.,  here, here, and Callan Campbell here) severely injured by the design defects built into cars manufactured by the same plants they're now the stewards of?   (See Opening Brief at p.8 fn.6, estimating total remaining products claims left behind at $233.2 million).

Put another way, imagine you've got $92.00 in quarters in a big bucket.  Now imagine that you can dramatically change for the better the lives of hundreds, maybe even thousands, of people your own mirror-image predecessor destroyed through no fault of their own.  And imagine further that all you have to do to achieve that wonderful act of kind-heartedness is to take just one of those 368 quarters and put it aside for the benefit of those whose lives have been damned as a result of mistakes made by some of the people and property you just bought -- and now control -- for those 368 quarters.

That's all that needs to be done in GM to make things right, and my guess is that only about a dime needs to be put aside to cover the outstanding products liability claims left to rot in Chrysler.  But no one seems to have the political or moral compunction to wrestle those thirty-five cents from the Boss's own clenched fist.

"Sad" and "pathetic" are the first words that come to mind as I ponder the fact that I'm not on the "Slow Boat to China," but on the "Voyage of the Damned" (Art Spiegelman's take on it).

My brief's "Summary of the Argument" is below:

© Steve Jakubowski 2009



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GM Media Roundup: A LexisNexis Podcast and Then Some

Most bloggers report on events; few jump in themWhile I lost, I'm not done yet.  Here's my statement of issues on appeal.  Here's Old GM's counter-designation, filed yesterday.

My Chrysler and GM posts over the last three months generated incredible traffic (around 100,000 page views since May 1 from about 50,000 unique sites), while my involvement in the GM case and appeal of the decision led to several media interviews and appearances, including this 20 minute podcast just posted on the LexisNexis communities / Bankruptcy Law Center webpage.  In it, I discuss the differences between 363 sales and reorganization plans, predictions of the "end of bankruptcy," why I got involved in GM, Judge Gerber's decision and my appeal, why I started blogging, and the implications of GM and Chrysler for bankruptcies generally and the economy at large.

Thanks to LexisNexis's Steve Berstler for the interview and to Erin Capellman and her colleagues at LexisNexis for making the podcast happen and for linking to my Chrysler and GM blog posts.  LexisNexis was the pioneer in online legal research and remains the premiere online legal research service.  And for those of you who are involved in litigation, get LexisNexis' CaseMap and Concordance litigation management software.  We use these products in every litigation matter we're involved in, and I can't recommend them strongly enough.

For posterity's sake, here's links to some other media interviews and quotes I've given in the past month or so.  As for the experience generally, I concur with these two architects of the GM sale, who recently summed up the experience as "entirely gratifying ... a 'once-in-a-lifetime' experience."


Print / Blogs:

The Wall Street Journal    The New  York Times    NYT Dealblog    Bloomberg   

The Washington  Post   AmLaw Daily    National Law Journal    Financial Post

Lawyers USA    AP / Time    ABC    USA Today   Detroit Free Press  

Cleveland's Plain Dealer    Reuters / Forbes    PR News   

Lexblog's Real  Lawyers Have Blogs    Tom Lindmark / Seeking Alpha

The Pop Tort    China News    Viet Nam News

Thanks to everyone for reading, listening, or watching, and special thanks to the producers, reporters, and bloggers who made these interviews and appearances possible!

© Steve Jakubowski 2009

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Out of the Fray ... Onto the "Slow Boat to China": Putting the Brakes on the GM Bankruptcy Appeal

Three weeks ago, as I discussed here, I jumped into the GM fray and filed this objection on behalf 5 product liability claimants who, absent the "free and clear" sale protections sought by GM under Section 363, would have had the right to add the Purchaser as an additional defendant to their pending lawsuits based on each of their respective state's successor liability laws.

After putting in 20+ hour days for a full week, including reviewing 35+ Gigabytes of OCR'd documents from GM, deposing Fritz Henderson and the Auto Task Force's Harry Wilson over two days, attending three days of hearing, and giving everything I had in this closing argument, Judge Gerber's opinion approving the sale and his bench decision denying my motion for direct appeal to the Second Circuit ended the fray for me and put my clients' appeal on the "slow boat to China," as the old saying goes.  But in doing so, he issued a persuasive opinion that--on reflection--actually did my clients a favor, despite their having to endure an extra year of appeal by first passing through the district court. 

How so?  Well, Judge Gerber himself acknowledged that the successor liability issue was the “most debatable” and “most important” of the issues before the Court.  He also correctly observed that I’d like to see this issue decided by the Supreme Court (assuming I can't get the Second Circuit to reverse itself or at least distinguish GM from Chrysler on the facts).  After all, 363 sales are so common nowadays that Baird and Rasmussen's prediction in 2002 of the "end of bankruptcy" is now being viewed as a shocking--but inevitable--fact of life.  And the undeniable split in the circuits over whether 363 sales can be "free and clear" of successor liability claims makes the case ripe for Supreme Court review, particularly given the magnitude of the claims being left behind (GM and Chrysler alone have shed about $2 billion of these liabilities in the past 45 days). 

One thing we know about the Supreme Court, however, is that it doesn't like to get "ambushed."  As Justice Ginsburg pointedly reminded counsel during oral argument in the Travelers Casualty v. PG&E case (discussed here):

We are a court of review. So no matter how well it's been aired [in other circuit cases], we wait to see what the lower courts have said on a question. We don't take it in the first instance.

Judge Gerber echoed these thoughts in his opinion denying my motion for direct appeal when he asked:

How could a decision presented and decided to the Second Circuit in two days (or on any other expedited basis) be helpful to the bankruptcy community, or the public, or the Supreme Court?   If the Supreme Court is to decide an issue that’s the subject of a Circuit split, doesn’t it deserve the best decision the Second Circuit can provide?

Hard to argue with that.  So, per Judge Gerber's sound instruction, we'll leave the "supercharged" Corvette ZR3 6.2L / 638 hp V8 at the dock and instead board the luxurious, brand-spanking-new, Bohai Zhenzhu, destination SCOTUS, with stops at the SDNY and 2d Circuit ports of call.

Bon Voyage!

© Steve Jakubowski 2009

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Objecting to the GM 363 Sale's Treatment of Product Liability Claims: Stepping Into The Fray

[7/6/09 Update:  The Bankruptcy Court entered this opinion and order approving the sale late last night.  I filed this notice of appeal.]  [7/8/09 Update:  Here's my post on boarding the "slow boat to China" after my motion for direct appeal to the 2d Cir. was denied.]

In today's depressed environment, Howard Beale's famous rant in Network--the 1976 movie that took several academy awards against stiff competition (Rocky, All the President's Men, and Taxi Driver)--sure reads like something that could have been written today:

I don't have to tell you things are bad. Everybody knows things are bad. It's a depression. Everybody's out of work or scared of losing their job. The dollar buys a nickel's worth; banks are going bust; shopkeepers keep a gun under the counter; punks are running wild in the street, and there's nobody anywhere who seems to know what to do, and there's no end to it.

We know the air is unfit to breathe and our food is unfit to eat. And we sit watching our TVs while some local newscaster tells us that today we had fifteen homicides and sixty-three violent crimes, as if that's the way it's supposed to be!

We all know things are bad -- worse than bad -- they're crazy.

It's like everything everywhere is going crazy, so we don't go out any more. We sit in the house, and slowly the world we're living in is getting smaller, and all we say is, "Please, at least leave us alone in our living rooms. Let me have my toaster and my TV and my steel-belted radials, and I won't say anything. Just leave us alone."

Well, I'm not going to leave you alone.

I want you to get mad!

I don't want you to protest. I don't want you to riot. I don't want you to write to your Congressman, because I wouldn't know what to tell you to write. I don't know what to do about the depression and the inflation and the Russians and the crime in the street.

All I know is that first, you've got to get mad.

You've gotta say,

"I'm a human being, goddammit! My life has value!"

So, I want you to get up now. I want all of you to get up out of your chairs. I want you to get up right now and go to the window, open it, and stick your head out and yell,

"I'm as mad as hell, and I'm not going to take this anymore!!" 

Well, Howard's rant is what a lot of panicked plaintiffs' lawyers involved in cases against GM are screaming these days as they watch years of toil on behalf of people seriously injured by defective GM products (like crushed roofs, exploding "side saddle" gas tanks, and collapsing seat backs) potentially go for naught as GM makes its grandest attempt ever to crush an entire class of former customers (presumably including anybody who buys a GM car between now and the closing date of the sale) and existing and future products liability claimants (including those who haven't even been injured yet!) in a sale that many plaintiffs lawyers of record only received written notice of in the past couple of days. 

Those following this blog know my rising concern (even anger) over how products liability claimants were completely stiffed in Chrysler, so much so that Howard's famous rant came to mind!

So, I decided to do something about it, and officially stepped into the fray by filing this Objection to the GM Sale and this Memorandum in Support.  On the brief with me is Public Citizen's Adina Rosenbaum and Allison Zieve, counsel for the Center for Auto Safety, Consumer Action, Consumers for Auto Reliability and Safety, National Association of Consumer Advocates, and Public Citizen.

We should win; whether we do is a "horse of a different color."


Many thanks to the Center for Auto Safety's Executive Director, Clarence Ditlow, for his help in organizing the team, Public Citizen's Adina Rosenbaum and Allison Zieve for their tremendous assistance in framing the legal arguments and drafting the pleadings, and to Public Citizen's Director, Brian Wolfman, for his support.

And, of course, special thanks to The Coleman Law Firm's own Bob Coleman for his generosity in dedicating the firm's resources to this important pro bono effort.

The sad, and all too tragic, stories of my clients, taken from the filed objection, are set forth below.  The only thing my clients did wrong here was buy a GM car.  For this act of brand loyalty, they have paid dearly.   It's not enough that people lose their lives and get severely injured from design defects and product flaws, now they and their loved ones get thrown under the bus!

If their stories don't bring a tear to your eye, then you probably support the sale's treatment of product liability claimants too!

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What's Bothering Ruthie? Chrysler Bankruptcy Sale Opinion Analysis - Part II

[6/9/09 PM Update:  The United States Supreme Court just cleared the Chrysler sale!  "The applications for stay ... are denied," the Court wrote in this 2 page per curiam opinion.  The Court still may hear the petition, but the petitioners needed to prove likelihood of success not just on the merits, but also "a likelihood that irreparable harm will result from the denial of a stay."  Even the tort claimants can't prove that as they'll always have their day in court in their respective jurisdictions.]

[See Part I of my analysis of Judge Gonzalez's sale opinion here.]

The brilliant lawyer, author, and ex-blogger, Bill Patry (now senior copyright counsel at Google), wrote on his Patry Copyright Blog back in 2005 about the greatest Biblical scholar of all time, Rabbi Shlomo Yitzhak (whom everyone affectionately calls "Rashi").  Bill wrote:

Rashi is used as a learning device for children not because he is simple (he isn't) but because of the unusual nature of his commentary.  His commentary consists of very terse conclusions, but without the questions that prompted the conclusions.  Children are left with the task of asking "What's Bothering Rashi?"  ...  The "What's Bothering Rashi?" approach to learning text is useful in analyzing statutes because it teaches one to ask the why of things, rather than as we almost always do, just read the literal words divorced from what the law would be like in their absence.

Bill's post came to mind in thinking about "What's Bothering Ruthie?" that would prompt her to write a one-liner calling a halt to a sale that remarkably worked its way from bankruptcy filing to cert. review in less time than it takes the average person to buy a used Town & Country.  Here are a few ideas:

  • Maybe she doesn't like the lawyers down the street telling her (as reported here by SCOTUS Blog) that "no court, including the Supreme Court, has the authority to hear a challenge by Indiana benefit plans to the role the U.S. Treasury played in the Chrysler rescue."  Tell that to Justice Marshall!
  • Or maybe, like her predecessors during the Depression in the Schechter Poultry Corp. v. US case, she's wondering whether (as argued here by Ralph Nader) Congress abdicated the essential legislative functions with which it is vested by letting the Executive Branch alone structure and implement the deal.
  • As noted in my Part I analysis, however, I doubt she's losing sleep over whether the sale is a sub rosa plan or whether the absolute priority rule was violated. 

I'm guessing, though, that what bothers her most -- and frankly what's really been bothering me most (hence Part II) -- is the sale's treatment of tort claimants, both present and future, and Judge Gonzalez's cursory justification for such treatment.  He wrote:

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Chrysler's Bankruptcy Sale Opinion - Part I: Proving "What Goes Around, Comes Around"

[6/9/09 UpdateSee Part II of my analysis of Judge Gonzalez's sale opinion here.]

Well it's official, and really no surprise:  Judge Gonzalez in this opinion (WL) approved the sale of Chrysler's assets in the Fiat Transaction "free and clear of liens, claims, interests and encumbrances."

Part I of my quick take on the opinion focuses on the most discussed elements of the case that have caused so much unnecessary heartburn (some caused, I admit, by my own three previous posts).  Here's my thoughts on a few of the key issues in the opinion that I touched upon in prior posts:

  • Was it a sub rosa plan (as questioned here)?  The Court said no.  And I actually agree.  It's hard to argue something circumvents the chapter 11 plan process when the debtor wouldn't have survived long enough to be able to propose a plan in the first place.  Arguments that a sale is a sub rosa plan make sense when the debtor can survive to confirmation; they are irrelevant where the debtor can't.
  • Was the absolute priority rule violated (as questioned here)?  The Court danced around this issue pretty well, taking the position, well stated in this Credit Slips blog post, that "the allocation of ownership interests in the new enterprise is irrelevant to the estates' economic interests" and that "in addition, the UAW, VEBA, and the Treasury are not receiving distributions on account of their prepetition claims ... [but] under separately-negotiated agreements with New Chrysler ... [that are] not value which would otherwise inure to the benefit of the Debtors' estates." 

Everyone cares about the retirees' medical claims under VEBA, but it's hard to see why this group should get any consideration from the New Chrysler since they will provide no value to the new enterprise.  Moreover, it's quite common in bankruptcy cases (see In re UAL, discussed here) for the current employees to leave the retirees hanging out to dry precisely because they'll provide no value to the new enterprise and the existing employees want to retain whatever benefits they can eke out for themselves.  To this limited extent, therefore, perhaps the flow of consideration does violate the absolute priority rule.  The auto workers union is obviously a tighter and more cohesive group, however, and they refused to do what their comrades in the pilots union did to the retiree pilots, thus enabling the Court here to find that the "unprecedented modifications to the collective bargaining agreement, including a six-year no-strike clause" were sufficient to justify New Chrysler's assumption of obligations to all VEBA claimants, as demanded by the union.

  • What are the rules of the game for "last-resort" lenders?  One thing I said in my 10 minute interview with Anthony Mason that didn't make it on TV was that "what goes around, comes around" (as the apparently not so old saying goes) and that here, the secured lenders were getting a taste of their own medicine, so it was hard to feel too sorry for them.  After all, in most bankruptcy cases, the existing secured lender is the lender of last resort, and it is the existing secured lender that takes the hard-line, "take it or leave it" position described by Judge Gonzalez that leaves everyone else gasping for air as it stuffs its demands down everyone's throat, including the court's.  Such practices, Judge Gonzalez tells us, are "troubling to some, but such is the harsh reality of the marketplace."  Further, as I was quoted in my 7 seconds of  fame, "the [governments'] providing the money, and they're the ones who are ultimately going to decide how that money's going to be spent."  And that's pretty much what Judge Gonzalez said, though far more articulately:

The absence of other entities coming forward to fund any transaction highlights the risk presented to distressed companies that are situated similarly to Chrysler.  Accompanying that risk is the lender's ability to dictate many of the key terms upon which any funding will occur.  The hard-fought "take it or leave it" approach that often drives the outcome of this type of negotiation is troubling to some, but such is the harsh reality of the marketplace.  Here, the Governmental Entities, as lenders of last resort, are dictating the terms upon which they will fund the transaction, thereby leaving the Debtors with few options.  Nevertheless, the usual marketplace dynamics play out and the Court applies the same bankruptcy law analysis.  Moreover, the Debtors' CEO testified that the demands from the Governmental Entities were not greater than that presented by other lenders, and in some aspects were not as onerous.... 

[T]he ordinary marketplace dynamic played out with respect to the lenders and whatever ability they had to dictate terms.   The fact that the lenders of last resort happened to be Governmental Entities did not alter that dynamic.  The Governmental Entities did not preclude other entities from participating or negotiating, they merely set forth the terms that they required to provide financing and the parties were either amenable to them or not.  Finally, as noted, the Governmental Entities had no obligation to fund the transaction and Chrysler and Fiat were free to walk away from the negotiations.

  • Has the "Rule of Law" Been Withered (as questioned here)?  Maybe, as I'll discuss later in Part II, but not for the reasons the Indiana Pension Funds are arguing on appeal.  In fact, if anything, the following well-worn rules have been affirmed in this case:

    1.  You can't circumvent chapter 11's plan process when you can't even fund next week's payroll.

    2.  You can't violate the absolute priority rule if junior creditors necessary to the new enterprise get something out of the deal.

    3.  Lenders of last resort owe no duty to anyone but themselves and can dictate the terms of a plan or sale so long as the terms aren't unconscionable, which they aren't here.

More to follow, and thanks as always for reading!

© Steve Jakubowski 2009

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CBS Evening News Interview Tonight: My Quick Take on GM and Chrysler Bankruptcy Developments

Tonight my first TV interview will air on the CBS Evening News with Katie Couric.  I talked for about 10 minutes with Anthony Mason, CBS's veteran correspondent, which should translate after editing into about 15 seconds of fame

Many thanks to the CBS Evening News production team for the call and the opportunity, and to the TV House in Chicago for a cool, comfortable setting in which to give the interview.

5/28/09 Update:  Make that about 7 seconds.  Eight more to go.


And special thanks to Charles Osgood for including me in his 5/29/09 broadcast.  I well remember the one time I met him when I was fresh out of college and working part-time for the CBS News / NYT Poll during the 1980 presidential election, and he was, as he always has been, the consummate gentleman.

© Steve Jakubowski 2009

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Zywicki on the Chrysler Bankruptcy: Whither the Rule of Law?

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

Todd Zywicki, the University Foundation Professor of Law at George Mason University's School of Law, has been a friend to me and this blog since very early in my blogging career back in 2005 when his first of many links to one of my posts on the Volokh Conspiracy blog multiplied my puny site visits by ten-fold.  His justification?  Polish bankruptcy lawyers always stand together!

Todd takes some pretty unorthodox views now and then, exhibiting what Professor Lawless called "cognitive dissonance" in testimony before Congress when he extolled the newly-enacted BAPCPA bill as "perfect" and "well-calibrated."  You did have to wonder though whether Todd was arguing simply because he really likes to argue!

While his backing of BAPCPA may not have been one of his shining moments, his passionate op-ed piece in yesterday's Wall Street Journal entitled Chrysler and the Rule of Law is.  In it, he articulates what has disturbed a lot of people in the business and financial community about the heavy-handed manner in which the Chrysler sale was jammed down the senior lenders by the Obama administration (as this phenomenal piece of journalism by the WSJ's Jeff McCracken and Neil King proves).  Todd wrote:

The Obama administration's behavior in the Chrysler bankruptcy is a profound challenge to the rule of law. Secured creditors -- entitled to first priority payment under the "absolute priority rule" -- have been browbeaten by an American president into accepting only 30 cents on the dollar of their claims. Meanwhile, the United Auto Workers union, holding junior creditor claims, will get about 50 cents on the dollar.

The absolute priority rule is a linchpin of bankruptcy law.  By preserving the substantive property and contract rights of creditors, it ensures that bankruptcy is used primarily as a procedural mechanism for the efficient resolution of financial distress.  Chapter 11 promotes economic efficiency by reorganizing viable but financially distressed firms, i.e., firms that are worth more alive than dead.  Violating absolute priority undermines this commitment by introducing questions of redistribution into the process.  It enables the rights of senior creditors to be plundered in order to benefit the rights of junior creditors.

The U.S. government also wants to rush through what amounts to a sham sale of all of Chrysler's assets to Fiat.  While speedy bankruptcy sales are not unheard of, they are usually reserved for situations involving a wasting or perishable asset (think of a truck of oranges) where delay might be fatal to the asset's, or in this case the company's, value.  That's hardly the case with Chrysler. But in a Chapter 11 reorganization, creditors have the right to vote to approve or reject the plan.  The Obama administration's asset-sale plan implements a de facto reorganization but denies to creditors the opportunity to vote on it.

By stepping over the bright line between the rule of law and the arbitrary behavior of men, President Obama may have created a thousand new failing businesses.  That is, businesses that might have received financing before but that now will not, since lenders face the potential of future government confiscation.  In other words, Mr. Obama may have helped save the jobs of thousands of union workers whose dues, in part, engineered his election.  But what about the untold number of job losses in the future caused by trampling the sanctity of contracts today? 

My earlier posts on Chrysler examined whether the Chrysler sale is tantamount to an illegal "sub rosa" plan or whether the "absolute priority rule" will kill the Chrysler sale, but with nowhere near  Todd's passion.  His views are resonating with many, including Jack and Suzy Welch, who are far from "speculators" or "Obama-bashers."  In their column last week in Business Week entited, A Bad Week for Business, they wrote:

Look, we don't know how the Washington-Detroit negotiations played out.  But the ease with which the large bank lenders appeared to cave to a pennies-on-the-dollar deal might suggest that TARP was involved; the government was wielding a big stick, and it wielded it in favor of the unions over the conventions of bankruptcy law.  Is such a radical upending of the economic system good for business confidence and capital formation?  It's hard to imagine how.

And so, we are beginning to feel afraid—very afraid.  We believe America needs to be more competitive than ever to get out of this recession.

It looks like not everyone agrees.

And so, with GM moving inexorably towards the Chrysler model of bankruptcy justice, as reported here, we bankruptcy professionals--lawyers, judges, and consultants alike--have to wonder, "whither the rule of law?"  Who knows, maybe there was something to that Thracymacus guy's view that "might is right" and justice is "the interest of the stronger," and that because "in a state the Government is the strongest, it will try to get--and it will get--whatever it wants for itself."


Special thanks to the incredible editorial cartoonists, Cox & Forkum, for authority to use the inset cartoon from this 2005 post entitled Backsliding.


6/05/09 UpdateSee my analysis of the Chrysler Sale Opinion (Part I) here.

© Steve Jakubowski 2009

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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:

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Chrysler Files Bankruptcy - Part II: Testing The Limits Of Section 363 Sales

[Part I: Assessing the Financial Carnage; Part III: Will the Absolute Priority Rule Kill the Sale?]

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

"Be careful what you wish for," the old saying goes, and so too for those who wished for Chrysler to file for bankruptcy in order to achieve their objectives.  Chrysler and all its major constituents will argue that the house is on fire and absent a quick sale on the agreed-upon terms (well summarized in this Treasury release), asset values (whatever's left of them) will be irrevocably destroyed.  The dissident lenders will argue that the fire is an ingenious illusion meant to force them to accept a deal that denies them their first priority rights to Chrysler's assets and is merely a disguised plan of reorganization that a Court has no authority to approve in the 363 sale context.

So what's the risk for the proponents of the sale?  As Chrysler's own counsel at Jones Day wrote in this 2002 publication:

[U]nder certain circumstances a debtor may sell all or substantially all of its assets without making the sale part of a plan of reorganization. Where a chapter 11 debtor proposes to sell its assets or business "outside of a plan of reorganization," creditors are entitled to notice of the sale and an opportunity to voice any objections they may have with the court. However, the sale will not be subject to the same creditor disclosure and voting rights attendant to a sale as part of a plan of reorganization. Moreover, the proposed sale will be subject to the less exacting "business judgment" standard of review. For this reason, some courts refuse to approve a proposed sale outside of a plan of reorganization if it appears that the transaction is really a "sub rosa" or "de facto" plan because the terms of the sale will necessarily dictate the provisions of any future plan.

You don't have to be a bankruptcy maven to see from the face of the term sheet that the proposed sale dictates the provisions of a future plan of reorganization and sure has the feel of a "sub rosa" or "de facto" plan under which:

  • Lenders with a first priority interest in Chrysler's assets will receive $2 billion, nothing more.
  • The junior VEBA claimants will receive a $4.6 billion note payable over 13 years at a 9% rate of interest and additionally will receive 55% of the equity of New Chrysler.
  • Unsecured trade payables of about $1.5 billion get paid in full.
  • The US Treasury will receive 8% of the equity of New Chrysler as repayment of its $4 billion junior TARP loan while the Canadian government gets a 2% stake for its junior loans.

What's the governing law?  Well, since the case was filed in New York, the law of the Second Circuit Court of Appeals applies.  The latest pronouncement from the Second Circuit on whether 363 sales are disguised "sub rosa" plans came in Motorola, Inc. v. Official Comm. of Unsecured Creditors, 478 F.3d 452 (2007), where the Court wrote:

The trustee is prohibited from such use, sale or lease if it would amount to a "sub rosa" plan of reorganization.  The reason "sub rosa" plans are prohibited is based on a fear that a debtor-in-possession will enter into transactions that will, in effect, “short circuit the requirements of [C]hapter 11 for confirmation of a reorganization plan.”  Pension Benefit Guar. Corp. v. Braniff Airways, Inc. (In re Braniff Airways, Inc.), 700 F.2d 935, 940 (5th Cir. 1983).  In this Circuit, the sale of an asset of the estate under § 363(b) is permissible if the “judge determining [the] § 363(b) application expressly find[s] from the evidence presented before [him or her] at the hearing [that there is] a good business reason to grant such an application.”  Comm. of Equity Sec. Holders v. Lionel Corp. (In re Lionel Corp.), 722 F.2d 1063, 1071 (2d Cir. 1983).

The Court noted in a footnote a "number of factors that a judge might consider when determining whether there is a 'business justification' for the asset's sale."  These factors include, but are not limited to, the following:

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Chrysler Files Bankruptcy - Part I: Assessing The Financial Carnage

[Part II - Testing the Limits of Section 363 Sales; Part III: Will the Absolute Priority Rule Kill the Sale?]

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

And so, with these fighting words by President Obama, Chrysler files for bankruptcy in the Bankruptcy Court for the Southern District of New York.  Clearly, we're in uncharted waters as never has the Office of the President become so engaged in the restructuring of America's largest businesses.  In supporting Chrysler's filing, a visibly angry President Obama came out swinging, stating:

A group of investment firms and hedge funds decided to hold out for the prospect of an unjustified taxpayer-funded bailout. I don't stand with those who held out when everyone else is making sacrifices. They were hoping that everybody else would make sacrifices and they would have to make none. We will use the bankruptcy laws to clear away remaining obligations. It will be designed to deal with the last remaining holdouts. It was unacceptable to let a small group of speculators endanger Chrysler's future by refusing to sacrifice like everyone else.

For his part, Congressman John Dingell, the longest serving member of the House, promised that “[t]he rogue hedge funds that refused to agree to a fair offer to exchange debt for cash from the U.S. Treasury – firms I label as the 'vultures' – will now be dealt with accordingly in court."

The secured debt holdouts didn't see things quite the same, obviously, and issued this statement justifying their holdout, saying:

[W]e offered to take a 40 percent haircut even though some groups lower down in the legal priority chain in Chrysler debt were being given recoveries of up to 50 percent or more and being allowed to take out billions of dollars. In contrast, over at General Motors, senior secured lenders are being left unimpaired with 100 percent recoveries, while even G.M.’s unsecured bondholders are receiving a far better recovery than we are as Chrysler’s first lien secured lenders. We have a fiduciary responsibility to all those teachers, pensioners, retirees and others who have entrusted their money to us. We are legally bound to protect their interests. Much as we empathize with Chrysler’s other stakeholders, the capital is just not ours to contribute to their cause by accepting a deal that is outside the well-established legal framework and cannot be rationalized as being commercially reasonable.

So the petition is now filed.  Let's examine the carnage:

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More Thoughts on a GM Bankruptcy: Another NPR Planet Money Interview

NPR's Planet Money, which interviewed me in this podcast last November about how the US government might get involved in a GM bankruptcy, called again asking for my thoughts on recent developments in GM's restructuring saga, particularly now that the Obama administration has become so engaged in attempting to dictate the results.

You can hear some of my comments in this latest podcast, just released today.  The interview starts at 6:16 minutes into the podcast.  Be sure to also listen to the fine introductory song, The Fear, by Britain's Lily Allen (full version and lyrics here).

Many thanks to Kathleen Brooks, David Kestenbaum, Laura Conway and the staff at Planet Money for the call and the opportunity to share some of my thoughts with others!

© Steve Jakubowski 2009

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The Tribune Company Free Falls Into Bankruptcy

12/9/08 UpdateWell, unlike Lehman, the more traditional complement of first day motions were filed late last night (docket here), including a critical vendor motion and a financing motion that authorizes it to continue selling its receivables through an amended securitization facility.  Here's the 90 page supporting affidavit of Chandler Bigelow III, the Trib's CFO, in support of all the first day motions, including a brief explanation of the liquidity events that forced the entire enterprise into chapter 11 and a nice chart at the back showing the corporate relationship among the various filing and non-filing subsidiaries.

          *                                  *                             *

I followed Lehman's free fall into bankruptcy through a number of posts in the first week of Lehman's case (start here).  Today, the Tribune Company performed its own spectacular free fall into chapter 11, taking not only itself down, but also another 111 subsidiaries (including The Chicago Tribune, WGN, The LA Times, KTLA. The Times Mirror, The Baltimore Sun, WPIX, and even forsalebyowner.com).

Like the Lehman chapter 11 filing, the Trib's filing was accompanied by none of the motions one would expect to see at the outset of the case (such as for approval of use of cash collateral and a DIP lending facility, payment of basic employee benefits for accrued and unpaid wages, maintenance of its cash management system and business forms, and assumption of various customer programs, all accompanied by an affidavit of a senior executive explaining the cause of the filing and the need for the requested relief).

My guess is that the senior secured lenders, led by JP Morgan Chase, as agent for a host of banks and hedge funds in an $8.571 billion senior credit facility (compared with stated total assets of $7.6 billion), are balking at management's business plan for the near- and long-term, and have been unable to reach agreement with management over the terms by which the Trib and its subsidiaries would have access to cash to fund operations during the case.  Given the widespread recognition that DIP lending facilities simply have dried up, this standoff comes as no surprise.  Until then, the Trib's operations will run on fumes supplied by the goodwill of its trade vendors and employees.

Here's the Tribune Company's voluntary petition, and here's the docket in the Trib's main case, which as of 5:30pm EST has a single entry, that of the petition.  Though the other 111 or so subsidiaries identified in the Trib's petition are listed as co-debtors, none of these entities have yet filed their respective individual petitions, thus potentially enabling three wily creditors of each subsidiary to really throw a wrench in the works by filing an involuntary petition against that subsidiary in a venue other than Delaware (where the parent Tribune Company filed its petition).

Most people in Chicago were appalled by last summer's dramatic changes to the layout of The Chicago Tribune.  I wonder what's going to show up tomorrow. 

© Steve Jakubowski 2008

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Some Thoughts on a GM Bankruptcy: An NPR Interview

Got a cold call today from NPR's Alex Blumberg, host of NPR's Planet Money, who interviewed me about the prospects and pitfalls of a GM bankruptcy.  Here are links to the NPR podcast.  The interview begins a couple of minutes into the podcast.

Special thanks to Alex and NPR for the call and their plugging the blog!

© Steve Jakubowski 2008

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Judge Peck Approves Barclays' Purchase of Lehman's Broker-Dealer Subsidiary

9/22/08 UpdateHere's the final complete Asset Purchase Agreement (including First Amendment and Clarification Letter).  Also, this notice of appeal was filed by Bay Harbour Management and others.  Here and here are the best news reports I've seen describing the surreal hearing.

               *                   *                    *

Just after midnight early today, Judge Peck entered this order approving the sale of Lehman's broker-dealer subsidiary (LBI) to Barclays and overruling all objections to the sale (identified here).  Note the reference in the order to a first amendment to the asset purchase agreement and to a subsequent letter agreement modifying the original asset purchase agreement.  Neither of these amendments have yet been posted, but the net effect of them appears to have resulted in a $400 million reduction in the purchase price, according to this news report

The "Purchased Assets" were sold free and clear of "Interests," including "those that purport to give any party a right or option to effect any forfeiture, modification or termination of the Debtors' interests in the Purchased Assets."  Interests also presumably include the Lehman Europe Joint Administrators' demand (described here) for a return of the $8 billion in overnight funds swept by the Debtor in advance of the filing (though it's doubtful that any of those funds actually went into LBI and thus would be implicated by the sale).

The order also expressly released Barclays from any potential successor liability claims, including taxes, which means that the Debtors will be stuck paying the transfer taxes (to the glee of New York State, per this recent Supreme Court case).  Counterparties to contracts being assumed will have until 10/3/08 to file an objection to the proposed cure amount. 

The sweeping change in the economic and political landscape after the announcement of the government's bailout prompted Debtor's counsel to say in Court that "[t]his is a tragedy - maybe we missed the RTC by a week," to which Judge Peck responded, "[t]hat occurred to me, as well; Lehman Brothers became a victim, in effect the only true icon to fall in the tsunami that has befallen the credit markets."  But, as Rod Stewart sang, no one's gonna help "a victim of a shotgun wedding."

               *                                                  *                                                *

The inset cartoon is from the Business Cartoon Collection of Shannon Burns, to whom special thanks is owed for granting me permission to post it here.

© Steve Jakubowski 2008

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Examining the Limited Objections to Lehman's Shotgun Wedding

Lehman Brothers, Inc.'s sale to Barclays is a foregone certainty, but--as Judge Easterbrook reminds us here--the "devil is in the details" (origins of phrase here).  Scores of objections (like this one filed by Goldman Sachs) were filed by parties objecting to the posted cure amounts of contracts and unexpired leases to be assumed and assigned at closing.  Making such an objection was critical to those who disputed or were unsure of the cure amounts since the sale notice advises that failure of any contracting party to object to the assumption and assignment or to the posted cure amounts will be barred from later objecting to the assumption and assignment or to the cure amounts.  Other contracting parties (like the Chicago Board of Options Exchange) additionally objected on the basis that generic references to contracts to be assumed didn't adequately specify the contracts subject to assumption, assignment, and cure.  Otherwise, however, none of these parties had any conceptual objections to the proposed sale.

Other more interesting insights into the case are found in objections filed by parties concerned that non-debtor assets of various subsidiaries of the Debtor are included or implicated in the sale.  One significant focus (as here and here) was Section 2.1 of the Asset Purchase Agreement, which broadly defined the "Purchased Assets" to include "all of the assets of [the Debtor] and its subsidiaries used in connection with the business.  Several subsidiary creditors filed objections to the sale of assets that were in nondebtor subsidiaries and thus not "property of the debtor" that could be sold free and clear. 

Mickey Mouse's objection, filed by Marty Bienenstock, is the most elegant and comprehensive of all from a bankruptcy perspective.  It raises the same concerns about selling nondebtor assets, and adds a range of related intercompany issues, most significant of which is the concern that entry of the sale order will extinguish the rights in third parties to recover assets of nondebtor subsidiaries that shouldn't have been included in the sale.  The relief requested thus "would be an illegal, sub rosa substantive consolidation," Mickey complains.

Finally, there's this lengthy and well-documented objection from the Joint Administrators of the Lehman European Group Administration Companies, who were appointed on the day of the bankruptcy filing by the English High Court of Justice pursuant to the English Insolvency Act of 1986.  The Joint Administrators have hired a team of 200 PWC accountants and consultants, supported by a team of 100 lawyers, to manage these European related entities.  The Joint Administrators say they support the sale, but have concerns about its impact on shared IT and administrative systems, books and records, confidentiality requirements.  And then, of course, there is that matter of the Debtor's having swept $8 billion in funds last weekend from Lehman Europe and not returning the funds as the Debtor typically did every Monday morning, but couldn't this past Monday because of the intervening bankruptcy filing.  Respectfully, the Joint Administrators ask, that money (and possibly more) should be returned to its rightful owner.

Have a good weekend all, and thanks for reading!

© Steve Jakubowski 2008

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Lehman's Shotgun Wedding Set for Hearing Tomorrow

In my last post, I reviewed the structure of Barclays' $5.7 billion offer to purchase Lehman's broker-dealer subsidiary.  The press has universally misquoted the purchase price as being only $1.7 billion, but--according to the motion filed with Bankruptcy Court--this only represents the pure cash component of the deal and excludes the $1.5 billion in "cure" costs and $2.5 billion in estimated employee retention costs.  Adding in these real costs brings the total consideration paid by Barclays to $5.7 billion.

Barclays' offer was conditioned upon the deal's closing no later than Tuesday, September 23.  If you're planning this year's National Conference of Bankruptcy Judges, Barclays drop dead date couldn't have been timed better since the conference begins the next day and, coincidentally, Judge Peck is the featured speaker on two panels: one entitled, "Exit Strategies for the Subprime Mortgage Crisis"; the other entitled, "The Impact of the Subprime Meltdown: From a Ripple to a Tsunami."  Those panels alone are worth the price of admission.

As for the sale dynamics, after an extended hearing into the evening yesterday, Judge Peck entered this order approving Lehman's motion to set bid procedures and set the hearing to approve the sale for tomorrow, September 19, at 4:00 p.m.  "Qualified bidders" will have until the hearing to submit a bid that must, at a minimum, provide for:

  • a $450 million DIP facility (comparable to this one [Order / Agreement] just approved on an interim basis, subject to a final hearing on October 2); and
  • the replacement by no later than the opening of business on 9/22/08 of all bridge financing advanced to Lehman by the Federal Reserve Bank of New York (and, p.s., good luck finding about $50 billion owed to the Federal Reserve on two days' notice).

The approved sale procedures attached as an Exhibit to the Order further cement the deal in that they include a highly unusual "no-shop" / "no solicitation" provision, which most practitioners and judges would agree are generally forbidden in bankruptcy.  The procedures also place Lehman in the impossible position of having to provide 48 hours notice of its intent to enter into a competing transaction, though there's less than 48 hours left until the sale hearing (not that it matters, since no one else is stepping forward).

Finally, the sale order provides that the hearing shall not be adjourned or canceled without the prior consent of the SEC, the CFTC, and the Federal Reserve Bank of NY.  If nothing else, this provision at least guarantees that senior officials from these agencies won't be working non-stop for their 5th consecutive weekend.

So as Barclays enters the "major leagues," accompanied by England's national anthem "blaring over the loudspeakers," let us pay tribute to the hard working--soon jobless--people who made Lehman great and to the ordinary people who plowed their hard-earned savings into Lehman securities only to be left "holding the bag."  May G-d bless them, and may G-d bless America.

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Rumor had it that former Weil Gotshal partner Marty Bienenstock (now with Dewey & LeBoeuf, NY) would be declared the winner of the Committee beauty pageant (described here), but lo and behold, as reported here, the prize went to Milbank, Tweed, Hadley & McCloy, which also represented the Creditors' Committee in Enron and Refco.  Congratulations!

© Steve Jakubowski 2008

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Barclays Submits Stalking Horse Bid for Lehman's Broker-Dealer Operations of About $5.7 Billion

Meanwhile, back at the ranch, Lehman has just filed this motion to approve postpetition financing and this motion to approve bid procedures for "the sale of the Purchased Assets" (i.e., the Lehman Brothers, Inc. broker-dealer assets) to Barclays.  Both motions will be presented at today's 11:00 a.m. scheduled hearing.  Here's the hearing agenda.  It's the first opportunity for counsel to explain the case to Judge Peck and a standing room only crowd.  [Noon Update: The hearing was continued until 4 pm today, probably to allow the Committee to select counsel (and the Judge to digest the pleadings).]

According to the DIP financing motion, Barclays is offering to lend up to $450 million on a senior secured basis, collateralized by a first priority lien on Lehman's equity interests in Neuberger Berman Holdings LLC. This loan appears to be a bridge to a sale of Lehman Brothers, Inc. (LBI), Lehman's primary broker-dealer subsidiary, to Barclays for $1.7 billion cash and assumption of certain liabilities and contracts (the cure costs of which will add an additional approximately $1.5 billion to the purchase price).  The $1.7 billion cash consideration is based on a payment of $250 million cash plus the appraised values of Lehman's NY headquarters at 745 Seventh Ave. and the Cranford and Piscataway NJ Data Centers, which will presumably bear the Barclays logo after closing.

Barclays also has agreed to offer employment to about 10,000 North American-based employees of LBI (or about 70% of the North American workforce) for 90 days, to pay their Christmas annual bonus, and to provide normal severance benefits for any worker terminated based on "reductions in force" or "job eliminations" (all at a projected cost of about $2.5 billion).  Section 3.3 of the Agreement provides for a purchase price adjustment (which could favor either Lehman or Barclays depending on market results) of up to $500 million on the one-year anniversary of closing based on profits or losses realized in various assumed long or short "Positions" (the "Long Positions" alone have a book value today of about $70 billion).  Lehman Commercial Paper, Inc., a more toxic division, is excluded from the deal. 

Time is of the essence for the sale, the motion states (and so does Milbank's Luc Despins), and the proposed Purchase Agreement contemplates that prior to the sale hearing, LBI will consent to commencement of a case under the Securities Investor Protection Act of 1970 and appointment of a SIPA trustee, which itself will have to ask the consent of the SIPA Court for the sale. 

The break-up fee is $100 million plus $25 million in reimbursable expenses.  In addition, the motion proposes a "KERP" retention plan for about 208 employees, of whom 200 are designated as "key to the success of the business" and 8 as "critical to the success of the business."  Though the motion doesn't identify who these employees are, my guess is that Dick Fuld (see Congressional invitation here) is not on that list.

The closing date for the sale is September 23, which is like a nanosecond given the size of the deal, but it's probably just slightly less time than Barclays had to consider the deal.  We'll see if the Judge authorizes such a short a window, and much will depend on the marketing process that occurred in advance of the filing and the expressions of interest generated.  $5.7 billion is a big nut, and in today's environment when cash is king and flowing like molasses as the market loses about 5% in value a day, it'll be a tough number to beat.

Evidencing the furious pace of negotiations is the fact that the executed draft of the Asset Purchase Agreement attached to the sale motion is a marked-up "confidential" draft that was re-marked as the "Execution Copy."  The documents is remarkably loaded with substantive handwritten interlineations and cross-outs on virtually every page.  Rarely does one get this kind of insight into final, last-minute negotiations.  The draft line on the bottom of the page says it's "v.2," suggesting that the execution copy was the third and final run.

Those interested in seeing who's on the "A" list of people getting notice of the proceedings will find the current service list here.

My previous Lehman posts are here (Lehman's Free Fall), here (Bankruptcy Update), and here (Committee Formed).

Thanks for reading, and thanks to those who have called or written with comments, kudos, and suggestions!

© Steve Jakubowski 2008

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Lehman Creditors' Committee Formed

9/18/08 UpdateWinner of committee counsel beauty pageant announced here (drumroll please).

             *                              *                              *

Following up from yesterday's post, many are searching for a list of the creditors appointed to the Lehman Creditors' Committee.  The US Trustee has just filed this notice identifying the following seven creditors that have been appointed to the Committee:

  • Wilmington Trust, as Indenture Trustee (Not Listed in Voluntary Petition)
  • The Bank of NY Mellon, as Indenture Trustee ($155 Billion in Bond Debt)
  • Shinsei Bank, Ltd. ($231 Million in Bank Debt )
  • Mizuho Corporate Bank, Ltd.  as Agent ($289 Million in Bank Debt)
  • The Royal Bank of Scotland, PLC (Not Listed in Voluntary Petition)
  • Metlife (Not Listed in Voluntary Petition)
  • RR Donnelley & Sons (Not Listed in Voluntary Petition)

With all the late nights at Lehman, I'm surprised the coffee vendor isn't on the list.

It doesn't appear that the Committee has selected counsel, which isn't surprising given how late the meeting went last night, according to this news report.

9/17/08 UpdateFollow up post on today's events here.

© Steve Jakubowski 2008

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Lehman Bankruptcy Update

9/17/08 UpdateSee this post on the US Trustee's selection of Committee members and this post on Lehman's motions for DIP Financing and for the sale of its broker-dealer subsidiary to Barclays.

             *                         *                         *

Following up on yesterday's post...

The case has been assigned to Judge James M. Peck (author of this important decision in the long-running Iridium litigation), who in 2006 adopted a lifestyle change in ascending to the bench and walking away from Schulte Roth & Zabel's highly regarded bankruptcy group, where he was co-chair.  Here's the latest docket showing no new filings other than routine appearances by interested parties.  Here's the voluntary petition, showing the top thirty unsecured creditors at the holding company level range from an aggregate $155 billion in bond debt to about $3 billion in aggregate bank debt.

Meanwhile, according to this notice from the US Trustee's office, the organizational meeting of unsecured creditors is set for 6:00 p.m. on September 16 at the Helmsley Park Lane Hotel.  The purpose of the meeting is to form a creditors' committee, which will bestow upon one lucky firm one of bankruptcy's most coveted prizes--the role of committee counsel.  Those wanting a sense of what these events are like should read Peter Lattman's rundown of the Calpine "beauty pageant."  I suppose you could say it's a place where counsel puts lipstick on a pig (i.e., the debtor) in hopes of having committee members believe that counsel is best suited to maximize value for the benefit of creditors. 

You can bet counsel will review with Committee members the whopping $5.7 billion in Christmas bonuses that were approved by this board and paid for management's stellar performance in [not taking the writedowns that may have impaired their bonuses in] 2007.  For more insight into this issue, see Professor Adam Levitin's recent post on the Credit Slips Blog.

Finally, special thanks to Dan Slater of the WSJ Law Blog, Francis Pileggi of the Delaware Corporate and Commercial Litigation Blog, and Kevin LaCroix of The D & O Diary for their kind links that helped set this blog's record-breaking numbers for the day (3,435 page views from 1,643 unique sites).

Good luck to all!  We sure need it!

© Steve Jakubowski 2008

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Free Fall: Lehman Enters Chapter 11

(9/16/08 Update Here)

In most endeavors, it's important to start off on the right foot.  I don't think you'd call the Lehman bankruptcy filing today one such start.  A well-planned bankruptcy case is orchestrated so that the early days of the case represent a seamless flow between the pre- and post-bankruptcy world.   Calpine's "first-day pleadings" (discussed at length here) reflected the kind of significant planning that would avoid a financial meltdown of the firm.

By contrast, Lehman Brothers Holdings, Inc.'s chapter 11 filing early this morning (docket here / petition here) shows that Lehman's executives must have hired Weil Gotshal as late as possible to avoid any hint to its employees or the market that bankruptcy was possible.  It played chicken, and lost.  Lehman filed only three motions to open the case, and none are substantive: 

  • this motion asks the Court to enforce the automatic stay provisions of Code Section 362 (and is in itself a curious motion since the law in the 2nd Circuit is that all actions in violation of the automatic stay are void, not voidable);
  • this motion asks the Court to extend the time to file required lists and schedules; and
  • this motion asks the Court to waive the requirement that a filing include a list of creditors. 

Like Drexel before it, only the holding company filed, so it will be "business as usual" for all of Lehman Holdings' subsidiaries, none of whose activities are directly subject to the protections of the automatic stay or the Bankruptcy Code and Court generally (SIPC confirmation here).

Maybe, in the end, preparation of a well-executed contingency plan wouldn't have mattered much since, in BAPCPA, Congress (as discussed at length here) amended or added various provisions to the Bankruptcy Code that enabled a nondebtor party–without limitation–to terminate, liquidate or accelerate its securities contracts, commodity contracts, forward contracts, repurchase agreements, swap agreements or master netting agreements with the debtor.  As noted in my previous post on BAPCPA's effectively excluding Wall Street's financial firms from the benefits of bankruptcy, Columbia Law professor Edward Morrison, with Columbia GSB economics legend Franklin Edwards, argued in a Winter 2005 article entitled Derivatives and the Bankruptcy Code: Why the Special Treatment? that BAPCPA's extension of the Code's protections for the financial services industry "to include a broader array of financial contracts, all in the name of reducing systemic risk ... is a mistake."  They argued that "[a] better, efficiency-based reason for treating derivatives contracts differently arises naturally from the economic theory underlying the automatic stay [i.e., derivative contracts are rarely needed to preserve a firm's going-concern surplus]."  Still, they warn (at pp.1, 4-5):

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Exit Stage Left?: Purchasers of Simplicity's Assets Hope (Against Hope?) to Avoid Successor Product Liability Claims in Simplicity Bassinet Recall

[6/19/08 Update:  The issues raised by this case are fully explored in connection with my filed objection to the GM 363 Sale on behalf of certain products liability claimants, discussed here.]

I decided to do some digging after reading of last week's tragic story about the four-month old infant strangled to death when her head got caught in between the metal bars of a defectively designed bassinet manufactured by Simplicity, Inc., of Reading, Pennslyvania.  What struck my eye was the statement from Simplicity's successor, SFCA, Inc. – a subsidiary of the Bethesda, MD-based $88 million private equity fund, Blackstreet Capital (itself managed and advised by some prominent D.C. financiers, lobbyists, and "political luminaries" ) – that it was not responsible for products previously manufactured by Simplicity since it had purchased only the assets of Simplicity at foreclosure last April, not the liabilities.  Quoting (or misquoting) Wilkie Farr's Barry Barbash, the Washington Post story reported that "[l]egal experts said SFCA is not obligated to comply with the CPSC's request to do a recall because of the way its purchase of Simplicity's assets was structured."

It may be true as a practical matter that SFCA is not obligated to fund the recall of 1 million bassinets (since assumption of that responsibility would surely force SFCA out of business just as it had forced its predecessor out of business).  It may even be true as a matter of law that this Minnesota district court decision is correct and that even Simplicity itself (and hence SFCA without question) is not liable to any consumer that has not been physically injured by the design defect (with the court apparently not recognizing as a "legally cognizable injury" the worthlessness of the crib itself, yet who in their right mind would continue to put a baby in a crib that's been recalled).  It is by no means clear, however, that SFCA has sidestepped liability for deaths or other injuries caused by the defectively design cribs.

The background to how SFCA came to own Simplicity is itself interesting.  Simplicity was a family-owned company that was founded in 1947 and grew into the nation's largest crib manufacturer on the backs of the post-WWII baby boom and the "echo boom" of the next generation.  Difficult business conditions, and the September 2007 product recall (prompted by a Chicago Tribune reporter's dogged pursuit of the story), forced Simplicity to "explore strategic alternatives, including a sale or restructuring."  According to this press release, the sales process played out as follows:

After conducting a broad sale process and negotiating with several strategic and financial partners, professionals with the [National City Capital Markets] Special Situations Group concluded that the greatest value for Simplicity's stakeholders would be achieved through a sale of Simplicity's senior debt and subsequent UCC Article 9 asset sale to an affiliate of Blackstreet Capital Management ("Blackstreet"). This solution allowed Simplicity's management team to remain in place while leveraging Blackstreet's Asian sourcing and retail expertise. The sale closed in April 2008.

The transfer of Simplicity's assets to SFCA is as notable for the route not chosen as it is for the route chosen.  Many have prophesized that the "end of bankruptcy" is near, and the decision not to pursue a bankruptcy sale of Simplicity's assets is surely a sign that this prophesy has merit.  After all, the Third Circuit's decision in United States v. Knox-Schillinger (In re Trans World Airlines, Inc.), 322 F.3d 283 (3d Cir. 2003) (pdf), had significantly enhanced (at least for bankruptcies filed in Pennsylvania, Delaware, and New Jersey) the ability of purchasers to buy a bankrupt debtor's assets "free and clear" of  "any interest," including potential successor liability claims arising under federal common law.  Had the buyer felt that the bankruptcy route could have extinguished potential successor products liability claims, it's hard to believe it wouldn't have chosen that path. 

The fact that it didn't certainly suggests that – at least privately – SFCA isn't as certain about its lack of responsibility for successor product liability claims as it's willing to confess publicly.  And with good reason, too, for as the 7th Circuit held in Chicago Truck Drivers, Helpers & Warehouse Workers Union (Indep.) Pension Fund v. Tasemkin, Inc., 59 F.3d 48, 49-51 (7th Cir. 1995), even purchasers of a chapter 7 debtor's assets in a state foreclosure sale are not shielded from potential successor liability claims for delinquent pension liabilities. 

More to the point, many jurisdictions hold that even "free and clear" bankruptcy sales under Bankruptcy Code § 363(f) don't insulate a successor corporation from product liability claims that could have been asserted against its predecessor if applicable state law would hold the successor liable for such claims.  See, e.g., Western Auto Supply Co. v. Savage Arms., Inc. (In re Savage Indus., Inc.), 43 F.3d 714, 718-23 (1st Cir. 1994) (product liability case against successor not enjoined by "free and clear" sale where tort claim arose before sale but debtor made no effort to notify claimant of sale); Lemelle v. Universal. Mfg. Corp., 18 F.3d 1268, 1274-78 (5th Cir. 1994) (wrongful death action against purchaser of  chapter 11 mobile home manufacturer's assets may proceed for home constructed before commencement of case).  As the New Jersey Supreme Court stated in Lefever v. K.P. Hovnanian Enters., Inc., 734 A.2d 290, 160 N.J. 307 (N.J. 1999), when it affirmed that "product line exception" product liability actions survive "free and clear" sales under Code section 363(f) and may be sustained against the successor purchaser:

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Subprime Litigation Update: Plaintiff's Victory a Near Certainty in Bankers Life v. Credit Suisse

It's been a while since I've talked about the subprime mess.  For the record, I believe I was the first person to ever link the words "subprime" and "tsunami" in a single article when I predicted back on March 16, 2006, in a post entitled "The Subprime Squeeze," that "tsunami-like" waves of defaults would likely result from the "hockey stick" growth patterns in the subprime industry.  In fact, I just did a search of WESTLAW's newspaper database, and no one had ever used the words subprime and tsunami in the same article before I had written that post.  How things have changed!  The "Subprime Tsunami" has hit land, deluged households, stalled the economy, revived a moribund class action industry, and become the full employment act for a battalion of defense lawyers worldwide.

Back about a year ago when subprime litigation was first revving up, I was moved to comment in this post on the Bankers Life v. Credit Suisse case, one of the first subprime litigation complaints filed nationwide, based on a post I had read in the Calculated Risk Blog (which remains to this day my number 1 "go-to" blog for timely, insightful, and depressing financial news).  In that post, I predicted the 8-count complaint wouldn't fare too well.

Well, my prediction proved correct, as the plaintiff substantially amended the complaint about five months later to drop the four securities law-related counts and the third party beneficiary count that I predicted would be dismissed.  In its 17-count amended complaint, the plaintiff kept the fraud claims, which I predicted would be dismissed for lack of particularity, and added several new breach of fiduciary duty and breach of contract causes of action.  It also repled the negligent misrepresentation claim, which I predicted would be dismissed, by smartly beefing up this count to include specific allegations pointing to alleged misstatements in the prospectus upon which plaintiff allegedly relied in purchasing the depressed securities.

So how did the amended complaint fare against BigLaw's motion to dismiss?

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May Day, May Day! Readying for DePaul's Spring Symposium on Lawyers, Law Firms & the Legal Profession

As winter's glove descends on Chicago with the onset of standard time, many of us in Chicago begin to count the weeks until "May Day," that festive day the world over when hope springs eternal and workers (and pagans) of the world unite.

Next year's "May Day" offers lawyers an opportunity to reflect on the state of their profession, but only if they attend the 6th Annual DePaul Business & Commercial Law Journal Symposium, whose program this year is entitled "Lawyers, Law Firms & the Legal Profession."  Some--such as my former classmate, and now Stanford Law dean, Larry Kramer--scream "May Day" when they ponder the state of the legal profession today.  This rallying cry, Larry hopes, will encourage today's generation of law students to "secure the future of our profession" and "preserv[e] the qualities that attracted so many of us to the study of law in the first place."  Of course, if Larry's more radical, anti-establishmentarian generational predecessors could be overseeing today's system where--as he sees it--success and prestige are first and foremost judged by how well the firm's "profits-per-partner" are maximized, then Larry's hopes of a sea-change in attitude among today's newly-minted lawyers when they assume the profession's leadership reins 25 years from now will likely go unrequited.

My firm's founder, Bob Coleman, and many others at the Coleman Law Firm, have spent much of their professional careers analyzing, advising, and litigating issues regarding a lawyer's professional and ethical responsibilities.  Many are also DePaul Law grads.  It is thus with great pride that Coleman Law Firm will co-sponsor (with Development Specialists, Inc., and Financial Solutions Network) DePaul's "May Day" Symposium on Lawyers, Law Firms & the Legal Profession.

To that end, Holly D. Howes, Editor-in-Chief of the DePaul Business & Commercial Law Journal, has graciously agreed to guest blog today's post and describe the one-day symposium's topics, distinguished panels, and enrollment details.  To say that the $75.00 entry fee is a real bargain for the one-day event is an obvious understatement given the quality of the presenters, the complimentary catered lunch, the many hours of CLE credits earned by those attending, and thick stack of program materials distributed to all.  It's also a great time to visit Chicago!

So, without further ado, heeeeeeere's Holly!


© Steve Jakubowski 2007

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Free July 12 Web Seminar: "The Ongoing Saga of Marshall v. Marshall: Beyond the Anna Nicole Headlines"

Be sure to free some time up between 10:00 and 11:00 a.m. EDT on July 12 for this free web seminar sponsored by the Washington Legal Foundation entitled The Ongoing Saga of Marshall v. Marshall: Beyond the Anna Nicole Headlines

The speakers are WilmerHale's Craig Goldblatt (a friend of this blog who has filed many cert. petitions and merits briefs before the US Supreme Court, including, most recently, in In re Marrama), and Horace Cooper, former counsel to Former House Majority Leader Dick Armey and senior fellow with the National Center for Public Policy Research and the Centre for New Black Leadership. 

The program promises to:

  • Discuss the case’s current posture before the 9th Circuit Court of Appeals
  • Review the case’s implications for federal/state parallel litigation, especially in cases involving bankruptcy and probate.
  • Analyze key issues pending before the appellate court, including claim & issue preclusion and “core proceeding” determinations.
  • Consider the ramifications of the case, and the Court's opinion in Marshall v. Marshall, on future estate planning probating of wills & trusts.

Here's the program invitation.  As an added bonus, you can submit questions during the program by email to interactive@wlf.org.

Finally, here's a link to my post on the Supreme Court's Marshall v. Marshall decision, which has at the end a link to other posts of mine pertinent to the case.

© Steve Jakubowski 2007

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The Subprime Lending Shakeout: A Litigation Perspective

Having finally wrapped up this mess, it's back to blogging on a more regular basis...

Yesterday, Fed Chairman Ben Bernanke commented at length for his fellow economists at the Federal Reserve Bank on how problems in the market for subprime mortgages may affect the housing markets and the economy generally.  As one of my favorite economist bloggers summed up in this post at the Calculated Risk blog, according to Chairman Bernanke, "everything will be fine."

That may be reassuring to stock market investors, who must be feeling a bit dizzy from the recent 15% run up since the subprime collapse took its toll on the market a few months back.  For those left holding the bag, however, there's little solace to be drawn from Chairman Bernanke's comments.  But, based on the benefits Chairman Bernanke noted the subprime shakeout is having on helping rein in loose lending practices generally, I think it's fair to say here that one man's noose is another man's whip.

For those purchasers of securitized subprime mortgage-backed securities left holding the bag, however, there is one prayer that may provide much needed relief ... and that's the "prayer for relief" that accompanies a complaint filed in the US district court.  As this 8-count complaint proves, there's no shortage of prayers for relief available to the disgruntled investor left holding the bag.   Bankers Life Insurance Co. v. Credit Suisse First Boston Corp., et. al., No. 07-690 (M.D. Fla. 4/23/07) (hat tip: Calculated Risk). 

Through its complaint, Bankers Life seeks to recover the 95% of its $1.4 million investment that it lost when it purchased in 2004 certain securitized mortgage-backed loans that were originally issued in 2001 in an offering underwritten by Credit Suisse First Boston and DLJ Mortgage Capital.  The packaged loans were subsequently serviced by Select Portfolio Servicing (SPS) of Salt Lake City. 

Cutting to the chase, Bankers Life alleges that CFSB, DLJ, and SPS misled the agencies whose ratings determined the market price of the securitiies by misrepresenting key indicators relating to the portfolio's performance.  As a result, the complaint alleges, Bankers Life was left holding the bag since it paid about $1.3 million more than the securities were inherently worth.

As every litigator knows, alleging something is one thing, but proving and recovering on it is a "horse of a different color," as the old saying goes.  Here are a few "off the cuff" thoughts as to why I think this complaint will have difficulty surviving a motion to dismiss....

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A Miffed Judge Scheindlin "Shuts Up" Adelphia's Dissident Bondholders Who Refused to "Put Up" an Adequate Bond to Stay Effectiveness of Adelphia's Plan

As reported in my prior post last January, Judge Shira A. Scheindlin of the United States District Court for the Southern District of New York issued a ruling on January 24, 2007 that she called "one of the most difficult tasks this Court has yet confronted."  In it, by entering a stay of confirmation conditioned upon the posting of a $1.3 billion bond, she nearly derailed plan confirmation in the Adelphia bankruptcy, which Judge Robert Gerber, the presiding bankruptcy judge, called "among the most challenging -- and contentious -- in bankruptcy history."

By way of comparison, Judge Scheindlin's ruling last week that pulled the plug on the dissident bondholders' appeal seemed "a piece of cake."   Why the change of heart?  Judge Scheindlin realized, as she put it, that the bondholders "used the Court to obtain bargaining leverage to extract a better deal for their client with no intention of ever posting a reasonable bond."  "[Their] inconsistent positions," she found, "have had an impact on judicial integrity and have prejudiced Appellees."  "Such behavior," she observed, "is cynical at best and unprincipled at worst."  ACC Bondholder Group v. Adelphia Comm. Corp. (In re Adelphia Comm. Corp.), 07-1172 (S.D.N.Y. 4/2/2007) (Opinion at p.14 n.33).

By way of background as to how the case proceeded from my last post, Judge Scheindlin recounted that soon after the bondholders appealed Judge Scheindlin's initial decision, the 2d Circuit on 2/9/07 dismissed the appeal for lack of jurisdiction on the basis that bondholders were unwilling, rather than unable, to post the requisite bond.  (Op. at 4.)  The 2d Circuit, however, noted in remanding the case to Judge Scheindlin that the dissident bondholder group could

seek modification of the bond amount (a) if it can show that it is in fact unable (rather than unwilling) to post the required amount or (b) to present alternative arrangements for the District Court’s consideration that might lessen the amount of harm likely to be suffered by the Appellees in the event of an unsuccessful appeal, thereby perhaps justifying a reduction in the amount of the bond.  (Op. at 4.)

Because the bondholders would not budge from the $10 million bond amount originally proposed, however, Judge Scheindlin vacated the stay on 2/12/07, finding that "such a small bond was unacceptable to the Court in light of the magnitude of threatened harm to the Appellees."  (Op. at 5.) 

Once the stay was lifted, Adelphia wasted no time in consummating the plan, distributing $6.49 billion in cash to 8,000 claimants, 118 million shares of free trading Time Warner Cable stock to 13,500 claimants, and 9.56 billion freely tradable interests in the "Contingent Value Vehicle" (a post-confirmation litigation trust) to 8,000 claimants and 23,000 equity interest holders.   (Op. at 5-6.)

In the end, the bondholders' lost in part because they were so persuasive in the first round before Judge Scheindlin where they argued that if Adelphia were permitted to consummate the plan, then the appeal would be "equitably mooted."  This earlier argument, the Court held, precluded them under the principles of judicial estoppel from arguing the opposite view -- in this second bite at the apple -- that consummation of the plan would not equitably moot their appeal.  (Op. at 11-14.)

Regardless, Judge Scheindlin held, the appeal in fact was equitably mooted by the plan's substantial consummation because the bondholders "fail[ed] to meet their burden on four of the five Chateaugay factors" that would support hearing the merits of their appeal.  (Op. at 14-15) (citing Frito-Lay, Inc. v. LTV Steel Co. (In re Chateaugay Corp.), 10 F.3d 944, 952 (2d Cir. 1993) (these four factors being (i) whether effective relief can be granted (Op. at 15-20); (ii) whether such relief will unravel intricate transactions (Op. at 21-22); (iii) whether parties adversely affected have had notice and opportunity to participate in the appeal (Op. at 22-25); and (iv) whether appellants pursued a stay with diligence (Op. at 25-26)).

Judge Scheindlin closed the opinion by yet again expressing her displeasure with the bondholders for "pursuing a stay that they never intended to bond," once more demonstrating that a party attempting to "stop the confirmation train from leaving the station" better be prepared to "put up or shut up," as the old saying goes.

© Steve Jakubowski 2007

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Don't Touch that Dial! Adelphia's Reorganization Plan Temporarily Put on Hold to Give Dissenting Bondholders Their Day in Court

Bankruptcy lawyers often analogize the plan confirmation process to the running of trains, whereby once the so-called "confirmation train leaves the station," it's very hard -- if not impossible -- to stop the plan from being confirmed.  When does the confirmation train "leave the station"?  Typically, when a consensus is reached among the debtor and its major creditor constituents (or classes) over the terms of a reorganization plan.  It's commonly assumed that once that consensus is reached, not even Superman can stop that locomotive from reaching its destination.  As the famed late Bankruptcy Judge James E. Yacos of New Hampshire noted when he terminated plan exclusivity in New Hampshire's largest bankruptcy case ever (In re Public Service of New Hampshire, 99 B.R. 155, 176 (Bankr. D.N.H. 1989)):

Opening up the process to alternative plans in my judgment will serve to quantify and make concrete various ways of resolving those circular questions. I believe it will force the parties to use all of their considerable skills to negotiate resolutions on a fact basis (rather than and ideological basis dealing with unanswered and unanswerable interesting legal questions) under the gun of having the "reorganization train leave the station" before they are aboard.

Adelphia Communications Corporation's reorganization case has been proceeding for over 4-1/2 years.  It was called by Bankruptcy Judge Robert E. Gerber, the presiding judge in the case, "among the most challenging -- and contentious -- in bankruptcy history."  The case involved 230 separate jointly administered entities, generated over 13,000 docket entries in the main bankruptcy case and spawned about 130 separate adversary proceedings (not to mention scores of additional complex and high-profile related securities and criminal proceedings).

As widely reported, on January 3, 2007, Judge Gerber rang in the new year with a 267 page "Bench Decision on Confirmation" that laid the groundwork for entry of an order confirming Adelphia's "First Modified Fifth Amended Joint Chapter 11 Plan."  The opinion, with its comprehensive explanation of key events in Adelphia's reorganization (including the background to the filing, the restatements of Adelphia's financials and bankruptcy schedules, the proposed sale of Adelphia's cable operations to Time Warner/Comcast and the genesis of that deal, the various iterations of the reorganization plans previously proposed, the increasingly complex and hostile negotiations leading to the current plan, asset valuations, and the key points of contention at the confirmation hearing), is a veritable masterpiece (not to mention the lengthiest opinion of record confirming a plan of reorganization).  The supporting Confirmation Order, entered two days later, is itself 47 another pages, and incorporates the Bench Decision (and the "Rigas Pay-over Bench Decision") by reference as containing the Court's findings of fact and conclusions of law.

The primary objector to plan confirmation was the so-called "ACC Bondholder Group," comprised mainly of activist hedge funds, which on the day before Thanksgiving, filed this opening 34 page objection summarizing the group's primary confirmation objections.  The focus of the Bankruptcy Court's Bench Decision, at its core, is on explaining why the ACC Bondholder Group's objections should not stop confirmation.

The ACC Bondholder Group appealed the order of confirmation (submitting this "Statement of Issues and Designation of Record on Appeal"), and the case was assigned to Judge Shira A. Scheindlin, whose previous involvement in various prior unrelated appeals gave her significant familiarity with the procedural preconfirmation dynamics of the case.  From the ACC Bondholder Group's perspective, the selection of Judge Scheindlin to hear the appeal must have been welcome news given her history of supporting the underdog, even at the risk of being reversed by the Second Circuit (as happened in her February 2004 ruling that Maurice Clarett could participate in the 2004 NFL Draft and her April 2002 ruling dismissing perjury charges against an acquaintance of two of the 9/11 hijackers, who she then ordered released from prison after finding his detention legally unjustifiable--and who later, by the way, was acquitted by a unanimous jury, thereby silencing Judge Scheindlin's fierce critics).  

On January 24, 2007, Judge Scheindlin stepped in front of Adelphia's speeding confirmation train and, in this opinion, single-handedly derailed it by granting the ACC Bondholder Group's motion to stay the effectiveness of the confirmation order (though the victory must have seemed a pyrrhic one to the victors given the $1.3 billion bond that Judge Scheindlin ordered be posted as a condition to maintenance of the stay).

In granting the stay, Judge Scheindlin said that deciding what to do was "one of the most difficult tasks this Court has yet confronted."  What swayed Judge Scheindlin?  At root, three things:

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Seventh Circuit Appears Ready to Ground Retired Pilots' Challenge to United Airline's Confirmation Order

Practitioners before the Seventh Circuit Court of Appeals know that oral arguments in that Court can sometimes go well (e.g., by following the guidelines set forth in Question 4 here), and sometimes not so well (see here), and that one's success, failure, and/or embarrassment at oral argument may well hinge upon the panel drawn.

Counsel to the United Airlines Retired Pilots' Benefit Protection Association in preparing to argue the Retirees' appeal of United Airline's plan confirmation order surely had to be concerned upon learning that he had drawn a panel consisting of Judges Posner, Easterbrook, and Bauer.  As suggested here, one planning to argue a weak case before this group of heavyweights may as well throw away the script and pray to the Almighty for forgiveness because failure and embarrassment are the likely outcomes of such a test.

The Retirees' appeal presented the Court with two primary issues: 

First, whether the UAL's plan unfairly classified and treated active pilots differently from retired pilots in respect of their respective claims resulting from termination of pension benefits.

Second, whether the reorganization plan appropriately included exculpatory releases that shielded the union for the active pilots from claims that the retirees may desire to assert against the union.

In yesterday's oral argument (accessible here), Judge Posner took the lead in peppering the retirees' counsel with questions.  Judge Posner provides litigators a lesson in the importance of answering the precise question asked, regardless of how damaging the answer may be to one's case.  Here, while pressing the retirees' counsel to answer his question as to how this appeal is not a direct attack on Judge Posner's ruling last March (holding that the bankruptcy court could approve UAL's agreement with the active pilots' union providing for differential treatment that favored the active pilots interests over those of the retired pilots), Judge Posner had this to say in response to counsel's failure to respond directly to the question asked:

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Duck Soup: NY's Judge Burton Lifland Nixes Dana Corp.'s "Incentive" Plan for Its Top Six Executives

Though its origins are murky, the slang phrase "duck soup" is typically understood to mean "a piece of cake" or "something that is easily done." 

The Marx Brothers made the phrase famous in their movie Duck Soup, which Roger Ebert calls "probably the best" of the Marx Brothers' movies (though contemporary audiences apparently didn't think so).  

In hearing of New York Bankruptcy Judge Burton Lifland's ruling that denied Dana Corp.'s proposed incentive plan for its executives as a disguised retention plan prohibited by BAPCPA's new Code section 503(c) -- and his statement  in open court that "this compensation scheme walks like, talks like, and is a KERP" -- I was reminded (speaking of "movies with corporate themes") of the opening segment in Duck Soup where Groucho Marx, as the newly inaugurated dictator/president of bankrupt Freedonia (or perhaps, more aptly, "Free-Dan-[i]-a"), outlined his own bonus incentive plan in the movie's opening sequence:

I will not stand for anything that's crooked or unfair
I'm strictly on the up and up
So everyone beware
If anyone's caught taking graft
And I don't get my share
We stand 'em up against the wall
And pop goes the weasel.

You'll find some good early commentary on Judge Lifland's decision here (WSJ Blog),  here (CFO.com), here (Boss & Workplace Blog), here (Bankr. & Restr. Blog), here (Credit Slips Blog), and here (Credit Slips Blog).  As noted here (in connection with his successful mediation of the dispute in the Enron bankruptcy over Stephen Cooper's $25 million "success fee" request), Judge Lifland is no stranger to compensation fights.  Indeed, his legendary experience on the bench makes his decision all that much more signficant.

Given the ease with which Calpine Corporation's proposed incentive plan sailed through Judge Lifland's court only four months earlier, Dana's advisers (as reported here) "had been confident they would prevail, in large part because ... the Dana pay package was modeled on one adopted [in] Calpine."  In approving the Calpine plan, Judge Lifland commented from the bench:

Well, based upon this record, and it's certainly clear to the court that these plans and agreements are proposed in good faith and based upon appropriate business judgment. Further, the record before me validates that the focus of the plans and agreement is to maximize value for all the estates; the plans are apparently designed as incentive plans as opposed to retention or KERP's.

I do find, based upon this record, that the prohibitions of Section 503 have, if not been avoided, are not applicable based upon the structure of these plans and the agreements. To the one area where there might be potentially an argument to be made that 503(c) would be applicable, that would be in the supplemental plan, but that does not involve insiders, and I think 503(c)(3) is appropriately analyzed to agree with that.  In short, I do agree that these are incentive plans to bring enhanced value into the estate. They are not retention plans, although anyone can always make an argument that if people are made happier than they were before, then they are excited enough to stay with the company, but that's not the focus of these plans. And this would be clearly, based upon this record, not KERP's and they are not in violation of 503(c). And I will approve the appropriate orders submitted.  (See Transcript at pp. 84-85.)

Here's a copy of the order entered by Judge Lifland in the Calpine bankruptcy case, to which the approved Calpine incentive plan is attached as Exhibit A.  For the sake of completeness.  Here also you'll find the Debtor's motion to approve the incentive plan, the sole objection filed by a small, outgunned Calpine shareholder, and the Debtor's reply in support.  At the near "rubber-stamp" hearing approving the plan, Judge Lifland heard offers of proof from Scott Davido, Calpine's CFO/CRO, and Nick Bubnovich, a senior consultant from Watson Wyatt (who also provided some benchmarking testimony), as well as statements in support of the incentive plan from Akin Gump's Mike Stamer on behalf of Calpine's Official Unsecured Creditors' Committee.

Approving Dana Corp.'s proposed incentive plan, however, proved to be anything but "duck soup" for veteran bankruptcy lawyer Corinne Ball and her legions at Jones Day in this hotly contested proceeding.  Instead, Judge Lifland wrote in striking down Dana's proposed compensation arrangements, "if it walks like a duck (KERP), and quacks like a duck (KERP), it's a duck (KERP)."  In re Dana Corp., 2006 WL 2563458 (Bankr. S.D.N.Y. 9/5/06) (pdf).  He continued:

The Completion Bonus includes an amount payable to the Executives upon the Debtors’ emergence from chapter 11, regardless of the outcome of these cases. Without tying this portion of the bonus to anything other than staying with the company until the Effective Date, this Court cannot categorize a bonus of this size and form as an incentive bonus. Using a familiar fowl analogy [see "duck" quote above], this compensation scheme walks, talks and is a retention bonus. Contrary to the contentions of several objectors, however, the language of section 503(c)(3) does not prevent this Court considering a Compensation Motion using the business judgment rule....

The Debtors have failed here to meet their burden of demonstrating that the payments in exchange for signing a non-compete agreement and other payments do not constitute “severance” for purposes of section 503(c)(2) of the Bankruptcy Code, or that the evidentiary requirements contained in section 503(c)(2) have been satisfied.

In explaining why he approved a comparable plan in Calpine's bankruptcy case, but would not do the same in Dana's, Judge Lifland remarked:

The Debtors also compare the compensation programs brought before other courts, in other cases, including the plan brought before this Court in In re Calpine. If this Court is to analyze the Compensation Motion pursuant to section 503(c), the Court must look to the specific circumstances of these cases, and these Debtors. A significant aspect of these cases, in the context of the Compensation Motion, are the issues raised in the strong objections filed by several parties in interest, including the Creditors’ Committee, Equity Committee and United States Trustee and therefore, the Compensation Motion cannot fairly be compared to other compensation motions brought before this Court or other courts. Finding support in this Court’s bench ruling in In re Calpine is misplaced as in that case there was a prima facie case and record to support the application for an "incentive” that was largely unrebutted, therefore not raising the issues currently before this Court.

Or, put another way, "fool me once, shame on you; fool me twice, shame on me."

For those interested, below you'll find links to all the pleadings (with exhibits) filed by Dana and the objecting parties in connection with the matter.  Taken as a whole, they make for some fascinating and enlightening reading:

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The "Inverted Yield Curve": A Sign of Recessionary Times Ahead?

With chapter 11 filings at the lowest level in 10 years, the world awash with liquidity, and default rates at historic lows, a recent post on the excellent Econobrowser blog last week caught my eye when it suggested that recent yield-to-maturity data "yields a probability-of-recession estimate of 44.3%."

Yesterday's Reuters news bulletin, pointing to a study released yesterday by the Federal Reserve Bank of NY, further confirmed that the future may not be quite as rosy as present default rates (or, alternatively, bankruptcy lawyer billable hours) suggest.

This study, authored by Arturo Estrella (senior vice president in the Capital Markets Function of the Research and Statistics Group at the Federal Reserve Bank of NY) and Mary Trubin (former economist at the FRB who is now on track to get a Ph.D. in economics at Northwestern U.), concludes that a curve inversion lasting at least three months can signal a recession 12 months before it actually happens.  According to the study, the minimum spreads between three-month and 10-year yields ranged as much as -3.51% prior to the August 1981 to November 1982 recession, to as small as -0.08% before the August 1990 and August 1991 recession.

Thus far, according to yesterday's news release, 3-month yields have exceeded 10-year yields since mid-July.  The 10-year/3-month spread is presently about -0.26%.

Place your bets!

© Steve Jakubowski 2006

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Foreclosures on the Rise, Confidence on the Wane, and Hot Dogs on the Grill

It's hard as a bankruptcy lawyer not to focus on negative economic news, especially when it deals with the ability of common Americans to pay that last bastion of assumable debt -- the mortgage.  Today's front page article in Chicago's Sunday Tribune, titled "Mortgage defaults on rise," informs of the following rather depressing facts:

  • Foreclosures on home mortgages are on the way up.
  • In Illinois during the first three months of 2006 nearly 13,700 properties entered foreclosure, up 32 percent from the fourth quarter of 2005.
  • The numbers are grimmer elsewhere in the Midwest, with Michigan and Ohio together recording 45,000 mortgages entering some stage of foreclosure in the first quarter of 2006, representing increases of 91 percent and 39 percent, respectively, compared with last year's fourth quarter.
  • Nationally, foreclosures are up 38 percent, higher than in any quarter of last year.
  • Things could get far worse when $2.7 trillion in ARM's reset over the next 18 months.

Recently, I came across this well-focused blog, The Foreclosure Report, which offers the following recent posts to show that the dramatically increasing trend in foreclosures is not limited to the midwest, but is affecting every region:

The prime culprit for all this pain:  loose lending, particularly at the subprime level (a problem discussed here).  The Tribune article cites to the Community Bank of Elmhurst's own Bill Gooch, its CEO, who said he thought that lending policies are playing a role in the foreclosure trend as "some financial institutions, competing fiercely for business, are making mortgages available to marginal borrowers."  "People think they have to loosen their restrictions, their guidelines, their policies," he said.  Similar sentiments have been widely reported elsewhere.
Meanwhile, we learned on Friday that the University of Michigan's Survey of Consumers reported that its index of consumer confidence fell to 79.1 in May from 87.4 in April, the biggest drop since Hurricanes Katrina and Rita hit last year.  As the site's charts and tables show, that's about as low as it gets.  The squeeze continues.
Good luck all, and have a safe holiday.
© Steve Jakubowski 2006
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Fruehauf Examiner's Report Wreaks Havoc in Race for Seat as Orange County's Treasurer and Tax Collector

A bankruptcy examiner is appointed by the court in a bankruptcy case pursuant to Code section 1104(c) to "conduct such an investigation of the debtor as is appropriate, including an investigation of any allegations of fraud, dishonesty, incompetence, misconduct, mismanagement, or irregularity in the management of the affairs of the debtor." 

This simple grant of authority has led to the issuance of  reports that, when stacked together, surely validate former Fed chairman Alan Greenspan's conclusion in 2002 -- in pre-Sarbannes-Oxley testimony before the Senate -- that:

  • The stock boom of the 1990's created "an outsized increase in opportunites for avarice," in which "[a]n infectious greed seemed to grip much of our business community.  Our historical guardians of financial information were overwhelmed."
  • "It is not that humans became any more greedy than in generations past.  It is that the avenues to express greed had grown so enormously."

Historians of future generations need only look at examiner's reports in some of the more spectacular bankruptcies of the recent past to confirm Mr. Greenspan's conclusory observations.  (See, e.g., Enron, WorldCom-1&2 , Spiegel, Fibermark, and Gitto Global-1, 2, 3, 4).  Perhaps, though, they'll just conclude, like King Solomon, that "there's nothing new under the sun."

Another damning examiner's report, this one issued by Dan Harrow, the Court-appointed examiner in the Fruehauf Trailer Corp. case, has recently been the subject of considerable controversy, as these articles from the LA Times relate.  According to today's story:

What otherwise promised to be a low-key race for Orange County treasurer/tax collector has been anything but, with one candidate stung by allegations that he mismanaged the assets of a bankrupt trailer company, resulting in a district attorney's investigation....

After bankruptcy was granted in 1998, Street took over a successor company formed to liquidate Fruehauf's remaining assets as well as its pension plan. He resigned in August 2005, replaced by a new trustee, Daniel Harrow.

On March 15, five days after Street filed his candidacy papers to run for Moorlach's seat, Harrow filed a 63-page statement with the Bankruptcy Court in Delaware accusing Street of "mismanagement, conflicts of interest and greed" while in charge of the trust.

Street said the statement was rife with falsehoods. He defended his actions, saying that creditors had recouped their money and that he had shored up the company's ailing pension fund.

When the federal Pension Benefit Guaranty Corp. announced its takeover of the fund in 2004, its news release said that a $7-million deficit would be covered by insurance.

In April, Street filed a defamation and conspiracy lawsuit against Harrow and a union official who criticized Street before Orange County supervisors.

Street's "shoot the messenger" defamation suit likely won't go far given that private trustees like Harrow have, according to the 9th Circuit, quasi-judicial immunity for "actions that are functionally comparable to those of judges, (i.e., those functions that involve discretionary judgment)."  Curry v. Castillo (In re Castillo), 297 F.3d 940, 947 (9th Cir. 2002) (pdf). 

Street's failure to obtain a protective order under Code section 107(b)(2) to "protect [him] with respect to scandalous or defamatory matter contained in a paper filed [with the Court]" may also bar him on claim preclusion grounds from attempting to raise this issue again in another related proceeding.  Cf., Gitto v. Worcester Telegram & Gazette Corp. (In re Gitto), 422 F.3d 1 (1st Cir. 2005) (pdf) (contents of examiner's report only "defamatory" for purposes of Code section 107(b)(2) if material would cause a reasonable person to alter its opinion of the person in question and either (i) the material is untrue or (ii) the material is potentially untrue and irrelevant or included within a bankruptcy filing for an improper end).


© Steve Jakubowski 2006

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The Price of Success: Enron's Bankruptcy Court Approves $12.5 Million Success Fee for Stephen Forbes Cooper, LLC

With eyes glued to the daily happenings in Houston's trial of the century, surprisingly little attention has been given to the $12.5 million success fee recently granted to Stephen Forbes Cooper, LLC, by Judge Arthur Gonzalez (former 13 year veteran schoolteacher in New York's public schools who won the equivalent of the "Bankruptcy Judge Lottery" by having been randomly selected to be the presiding judge -- at the same time -- over the two largest bankruptcies of all time: Enron and Worldcom). In re Enron Corp., 2006 WL 1030421 (Bankr. S.D.N.Y. 4/12/06) (pdf).

Back in September 2004 when Mr. Cooper first requested (motion here) a $25 million success fee for his firm (Stephen Forbes Cooper, LLC), the W$J and others suggested that Enron's "feed trough" had become a "fee bonanza" for those, like Cooper's firm, who could get the work.

Fourteen months later, on the eve of an 11/15/05 hearing on the fee request, Mr. Cooper submitted a reply brief (parts 1 and 2) and affidavit (with exhibits A-1 [retention order], A-2 [engagement agreement], A-3 [conflicts affidavit], B-1 [revised engagement agreement], B-2 [duty of loyalty agreement], C [retention order], and D [fascinating comparative analysis of success fees awards in 22 mega-cases]) in support of his firm's success fee request.

The Department of Justice, through the Office of the US Trustee, jumped into the fray with both feet, advising the Court at the November 15, 2005 hearing (313 page transcript here) that it had "undert[aken] an investigation that uncovered billing practices and billing irregularities unacceptable to the U.S. Trustee, which the U.S. Trustee maintains were not disclosed to the bankruptcy court." (pdf)

After much legal wrangling, the parties resolved their differences with the help of Bankruptcy Judge Burton R. Lifland (the famed judge of the Johns-Manville, Calpine, and Dana bankruptcies and upcoming recipient of the NY Inst. of Credit's 1st Annual Conrad B. Duberstein Memorial Award For Excellence and Compassion in the Bankruptcy Judiciary). As reflected in this stipulated settlement with the U.S. Trustee, Cooper's firm agreed to slice its requested success fee request in half, to $12.5 million.

For its part, the Court had this to say about how to define -- and price -- "success" in bankruptcy:

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The Subprime Squeeze

The Wall Street Journal's James Haggerty wrote thi$ 3/11/06 article entitled "Millions Are Facing Monthly Squeeze On House Payments." In it, he provides some disturbing data regarding the subprime lending industry, including a graph showing subprime lending originations increasing from $150 billion in 2000 to $650 billion in 2005. Haggerty writes:

In the hot housing market of recent years, many households took advantage of "affordability" mortgage loans -- heavily promoted by lenders -- that hold down payments for an initial period. Now the initial periods are coming to an end on many of these loans, leaving borrowers to face resets of their interest rates that can cause monthly payments to shoot up between 10% and 50%.

More than $2 trillion of U.S. mortgage debt, or about a quarter of all mortgage loans outstanding, comes up for interest-rate resets in 2006 and 2007, estimates Moody's Economy.com, a research firm in West Chester, Pa....

A recent study by First American Real Estate Solutions, a unit of title insurer First American Corp., projects that about one in eight households with adjustable-rate mortgages that originated in 2004 and 2005 will default on those loans....

For a study released in February, Dr. Cagan examined adjustable-rate first mortgage loans made in 2004 and 2005, including refinancings. He figures about 7.7 million of these loans are outstanding, representing $1.888 trillion of debt.

About 1.4 million of those households face a jump of 50% or more in their monthly payments once their initial low-payment periods run out, Dr. Cagan says, and an additional 1.6 million face smaller increases that are still likely to strain their finances.

Assuming that home prices stay around current levels and interest rates don't rise sharply, Dr. Cagan figures about one million households eventually will default and lose their homes to foreclosure. That would cause about $110 billion of losses for lenders, he says.

Lenders and the economy as a whole could easily cope with such losses, Dr. Cagan says, though it would be devastating for some families and painful for some investors who bought securities backed by the riskiest loans. "It won't happen all at once," Dr. Cagan says. "It will be spread out over several years."

History has shown that "hockey stick" growth patterns in the subprime industry are more likely caused by looser adherence to underwriting standards than by increased demand for subprime products among qualified borrowers. If, in fact, looser credit standards have driven the current exponential growth since 2000 in subprime lending, then waves of defaults will be "tsunami-like" in proportion. That's what happened to the subprime auto lenders of the 1993 - 1997 era (e.g., Mercury Finance, First Merchants Acceptance Corp., National Auto Financial, Reliance Acceptance). Let's hope it's not the case here, but don't hold your breath that its not. Either way, the squeeze continues.

3/22/2007 Update:: See my latest update on the subprime squeeze here.

© Steve Jakubowski 2006

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Judges in the News: The Southern District of Florida's Bench Gains Two Strong Practitioners

I just learned that two very able bankruptcy lawyers from Florida are leaving private practice to further distinguish themselves as bankruptcy judges for the Southern District of Florida. Congratulations to John Olson, formerly of Stearns, Weaver, Miller, Weissler, Alhadeff & Sitterson in Tampa, who was appointed to the bench in Fort Lauderdale, and Laurel Isicoff, from Miami's Kozyak Tropin & Throckmorton (they run ABI's BAPCPA Blog), who was appointed to the bench in Miami.

Ms. Isicoff will be the Southern District's first woman bankruptcy judge! Amen!

The Miami Herald reports this on their recent appointments:

Isicoff and Olson were each appointed to serve 14-year terms by the 12-judge 11th Circuit Court of Appeals in Atlanta. They will earn annual salaries of $151,984 [health and pension benefits aren't too bad either]. The appointments increase the number of bankruptcy judges in South Florida to seven. The two new positions were authorized by Congress last year to address the increased case load in South Florida, according to Norman Zoller, an official with the 11th Circuit Court of Appeals.

© Steve Jakubowski 2006

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What, Me Worry? UAL Readies for Confirmation Showdown

As UAL makes its final preparations for tomorrow's confirmation hearing, it surely is focusing its aim on the objections of the trustees for the holders of unsecured aircraft public debt and on the objections of the unions for the pilots (ALPA) and the flight attendants (AFA). Recent filings by UAL, however, suggest that its attitude as it enters the confirmation hearing is best captured by Alfred E. Neumann's favorite catch-phrase, "What, me worry?"

The Unions' Attack on UAL's Proposed Management Equity Incentive Plan

The WSJ Law Blog, Ideoblog, and the Business Law Prof Blog recently cited to and commented upon last Sunday's highly-charged NYT article by Gretchen Morgenson attacking the UAL Management Equity Incentive Plan (MEIP) as excessive, and even "exceed[ing] what was described as 'reasonable' by Towers Perrin, the compensation consultant employed by the company." These harsh refrains echo the separate objections filed by ALPA and AFA (here and here) against the proposed MEIP (which at the time the objections were filed offered almost 50% more than the recent scaled down version approved by the Unsecured Creditors' Committee and made part of the revised "Second Amended Plan" filed yesterday).

An interesting bankruptcy litigation angle to this dispute over the propriety of the MEIP relates to the unions' proposed use of expert testimony and other evidence related to "employee morale" or "shared sacrifice" in support of their objections. Last Friday, UAL filed this motion in limine to exclude the unions' use of such testimony and evidence. The primary focus of this objection is UAL's attempt to bar the testimony of the AFA's proferred expert, Thomas Jones, a professor of business ethics at the University of Washington School of Business, who was retained by the AFA to testify about the "ethical questions" surrounding UAL's proposed MEIP. UAL argues in its motion in limine :

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The UAL Two-Step: One Step Forward, Another Step Back?

The trustees for the holders of public debt instruments in UAL's aircraft financing transactions just filed this surprise objection to UAL's plan. In it, they express shock at the concessions made to the PBGC and the Unsecured Creditors Committee in UAL's recently announced settlement (reported here). To the trustees of the public aircraft debt, these concessions are unfair because they deprive the public debt holders of equal (or pari passu) treatment with the PBGC and other unsecured creditors of UAL, as they originally contemplated. The trustees argue:

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UAL Settles Dispute with Creditors' Committee, Thus Clearing the Path to Confirmation

The Unsecured Creditors' Committee in the United Airlines case just filed this pleading announcing that it is withdrawing its objection to confirmation of UAL's plan of reorganization based on an attached 13 page "Term Sheet" setting forth the agreement among the parties. The changes of significance address the following main bones of contention:

  • post-confirmation corporate governance issues, including the structure of the board (12 members, with 2 designated by the union, 5 by the Creditors' Committee, and 5 by the Company), an amendment of the by-laws to include "poison pill" and preferred stock provisions acceptable to the Committee;
  • establishment of a post-confirmation "Plan Oversight Committee," a successor-in-interest to the Creditors' Committee (which will be dissolved on the plan effective date);
  • revisions to the Management Equity Incentive Plan (MEIP): limiting the percentage equity to be issued under the MEIP to 8% of the common shares issued (i.e., 10 million shares, down from 15% posited in the plan); restricting future grants to agreed upon amounts; and staggering the vesting of share grants (with 40% vesting during the first year, and 20% vesting in each of the second, third, and fourth succeeding years);
  • modification and reduction to the "SAM Distributions" provided in the plan to salaried and management (SAM) employees "by the amount that otherwise would have been distributed thereunder to the MEIP participants, who shall not share in the SAM Distribution" (please leave a comment if you can say in plain english how this works);
  • establishment of a post-confirmation "Plan Oversight Committee," a successor-in-interest to the Creditors' Committee (which will be dissolved on the plan effective date); and
  • litigation between the Committee and the PBGC would be settled, resulting in the Committee withdrawing its objection to the PBGC's claim.

Additionally, you'll find the Debtor's Memorandum of Law in support of confirmation here, and the Debtor's Witness and Exhibit Lists here.

UAL also filed this disclosure pursuant to Bankruptcy Code section 1129(a)(5)(B) of the persons that will serve as the officers and directors of the Reorganized Debtors (excluding the parent, UAL Corp. and officers of UAL Corp.). This disclosure also explains in four pages (including a summary chart) the nature and amounts of projected management compensation of the Reorganized Debtors.

Earlier posts on UAL are here, here, and here.

UAL's Plan Summary is a good document to read for an overview of proposed distributions under the plan to creditors (equity gets nothing).

© Steve Jakubowski 2006

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Litigation Drums Beat Over UAL's Proposed Post-Confirmation Corporate Governance and Management Equity Incentive Plan

As large cases go, the relationship between UAL and the Creditors' Committee has been pretty good, with most disputed matters having been resolved consensually between the parties without wasteful litigation fanfare and posturing. When it comes to post-confirmation corporate governance issues, however, the parties appear ready to duke it out over the proposed management equity incentive plan (which offers up to 15% of the equity of Reorganized UAL to about 400 management employees), creditor representation on Reorganized UAL's board of directors, and UAL's proposed inclusion of a "blank check" preferred stock "poison pill" defense in its post-confirmation corporate charter.

The dispute officially surfaced in the Committee's objection to confirmation of UAL's proposed reorganization plan (objection available here; UAL's plan and other related filings available here) over the "size and terms of the Management Equity Incentive Program [and] the composition of the post-emergence Board of Directors and other corporate governance issues." Still, the Committee assured the Court (and the markets), "the Committee fully supports the Debtors' intention to emerge from Chapter 11 in February 2006."

In gearing up for a fight over these issues, the Committee recently filed an emergency motion to retain Yale Law School's Professor Jonathan R. Macey (at $800/hour, for those curious about the going rate) to serve as the Committee's "Corporate Goverance Expert." (Motion here; Macey Affidavit here). The Committee explains the basis for bringing this emergency motion as follows:

On December 13, 2005, the Committee filed Creditors Committee's Objection to Plan Confirmation and Approval of Related Plan Supplement Documents. Among the Committee's specific objections were objections to the Debtors' proposed board composition and their proposal for implementation of poison pill provisions. The Committee has engaged in in-depth discussions and negotiations with the Debtors regarding the appropriateness of their proposed corporate structure, including, but not limited to, corporate governance, board composition and the availability of a poison pill. However, at this time no resolution of these issues has been achieved and the Committee requires an expert in preparation for the confirmation hearing to provide expert testimony and provide an expert report. The Committee is currently engaged in extensive preparation for the confirmation hearing scheduled to commence January 18, 2006. Expert reports are due January 2, 2006 and depositions must be completed by January 9, 2006. Therefore, the Committee seeks the relief requested herein on an emergency basis.

UAL today filed an objection (available here) to the Committee's application to retain Professor Macey, arguing that his services "are at worst completely irrelevant and unnecessary and at best wholly duplicative of the services already provided by Heidrick & Struggles, the Committee's previously-retained consultant on the composition and structure of United's board."

UAL's objection to the Committee's emergency motion provides an introduction to UAL's arguments in support of the management equity incentive plan and UAL's proposed post-confirmation corporate governance provisions. UAL describes the Committee's core confirmation objections regarding corporate governance issues as follows:

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Calpine's Bankruptcy: Key First Day Pleadings, Plus a Glimpse from Mirant Group's Bankruptcy Court into Valuation Issues of Relevance to Calpine Investors and Speculators

The days preceding and following a company's bankruptcy filing are some of the most hectic in a bankruptcy lawyer's professional experience, with one good night's sleep typically representing the total number of hours slept during the entire week. Most debtor lawyers use first-day motions as the opportunity to educate the judge, who is seeing the case for the first time, of the circumstances leading to the bankruptcy filing, the business challenges ahead, and the debtor's reorganization prospects. Generally, the first-day hearing is a well-orchestrated event in which the debtor pretty much gets what it asks for, the judge begins to learn about the case, and final evidentiary hearings are scheduled on matters requiring notice and a hearing.

The NY office of Kirkland & Ellis, led by veteran lawyer Richard Cieri, handled Calpine's massive filing this week, and got several routine first-day motions granted which were aimed at providing a relatively seamless transition for the company into bankruptcy from a purely operational perspective. In addition, several key substantive motions were presented, including the following (all of which are available for your downloading convenience):

Links to news reports on the filing are available here, here($), here($), and here. Here's a link to Tom Kirkendall's initial report on the filing.

On a related point, Calpine investors and speculators looking at the "end game" here and trying to predict ultimate values available for distribution will surely find of interest a recent opinion from Judge Dennis Michael Lynn, the bankruptcy judge overseeing the Mirant Group bankruptcy case. In re Mirant Corp., 2005 WL 3471546, (Bankr. N.D. Tex., 12/9/05). In this lengthly opinion, Judge Lynn tackles the question of how to determine the "total enterprise value" of the entities that make up Mirant Corp. and its 82 affiliated entities for purposes of plan confirmation. In the end, he concluded, valuation of a behemoth like Mirant is far more art than science. He wrote:

At best, the valuation of an enterprise like Mirant Group is an exercise in educated guesswork. At worst it is not much more than crystal ball gazing. There are too many variables, too many moving pieces in the calculation of value of Mirant Group for the court to have great confidence that the result of the process will prove accurate in the future. Moreover, the court is constrained by the need to defer to experts and, in proper circumstances, to Debtors' management. The law governing the court, from Till [v. SCS Credit Corp., 541 U.S. 465 (2004),] to Protective Comm. [v. Anderson, 390 U.S. 414, 442 (1968)] was developed in cases far different from that at bar.

It may be that there are better ways to determine value than through courtroom dialectic. That said, the court must work within the system created by Congress-and, in valuing a company in chapter 11, that system contemplates an adversary contest among parties before a neutral judge. The court believes all participants in the Valuation Hearing performed their duties to their constituencies, Debtors' estates, the public and the court, for which it expresses its appreciation.

The Court first described the process of sifting through the evidence and preparing for the contested hearing on valuation as follows:

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Delphi Court Enters Agreed Order Approving Critical Vendor Motion

Two weeks ago, I wrote here about Delphi's heavily contested motion for entry of a proposed order "approving procedures to assume certain amended and restated sole source supplier agreements." These agreements were alleged to be "critical" to Delphi's on-going business operations.

It was a long day for Delphi and its counsel, to be sure, but they won, as reported in press reports here and here. Given that the union and senior lenders already supported the motion, and that the objections of the Unsecured Creditors' Committee and Wilmington Trust Company (as indenture trustee) were resolved at the hearing, the victory obviously had far more to do with the consensus reached than the rhetorical flair of Delphi's attorneys, as reported by the press.

You will find here a copy of the Court's order, entered today, granting Delphi's motion to approve preferential agreements with "critical" sole source suppliers.

© Steve Jakubowski 2005

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Weekly News Roundup on Bankruptcy-Related Topics for the Week Ended 12/2/05

Below are some notable news posts for the week ended 12/2/05 on the following topical bankruptcy issues of interest to the bankruptcy litigator and practitioner:

Calpine News

Delphi's Bankruptcy

Delta Bankruptcy

Subprime Mortgages


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Facing Stiff Opposition, Delphi Reschedules Hearing on Controversial "Key Executive Compensation Plan" to January 5, 2006

Delphi announced today that the motion to approve the executive compensation program (discussed in yesterday's post) "is being adjourned to January 5, 2006 pursuant to an agreement between the Debtors and the Creditors' Committee." No big surprise here given the opposition aligned against the motion, including an objection filed today by the US Trustee.

Here you'll find a 20 page agenda identifying all 32 matters set for hearing on November 29, 2005. Of these 32 matters: 17 are continued or adjourned, 6 are uncontested, agreed, or settled; 8 are contested non-evidentiary matters; and 1 is a contested evidentiary matter.

This last one, a motion for entry of a proposed order approving procedures to assume certain amended and restated sole source supplier agreements, is an interesting one. In it, Delphi seeks authority to assume agreements covering the supply of goods that Delphi determines--

are absolutely critical to their on-going business operations; in other words, those goods that are not readily available from another supplier in quantities sufficient to avoid an interruption in the Debtors' manufacturing operations and the Debtors' supply of products to their customers (generally sole sourced Goods) and without which the Debtors would face an imminent shutdown of business operations at one or more of the Debtors' business locations that would affect the operations of the Debtors' customers.

This motion drew scores of objections from affected suppliers left out of the deal, as well as from the Creditors' Committee. In support of the motion, Delphi filed supporting declarations from John Sheehan, Randy Eisenberg, and David Nelson. The DIP lenders filed a statement in support, though it was hardly a ringing endorsement of the proposal.

In the preliminary statement to its objection, the Creditors' Committee summed up its concerns as follows:

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Delphi's "Key Employee Compensation Program": What the parties are telling the Court

We've heard a lot in the news about the fight between management and labor in the Delphi case. What gets in front of the Bankruptcy Court, however, is evidence and legal argument, not newspaper stories and press releases.

With a hearing before the Bankruptcy Court on Delphi's Motion to approve its "Key Employee Compensation Program" set for November 29, I thought readers of this blog would appreciate having the opportunity to see exactly what the parties are telling the Court in their filed pleadings.

Click the links to find Delphi's motion in support, the accompanying Watson Wyatt report, and the objections filed by the UAW, the PBGC, JPMorgan Chase (a "limited objection" as agent for 250 senior secured lenders), Wilmington Trust (as indenture trustee), and the Lead Plaintiffs (in the pending shareholder class action).

Bottom line, the proof is in the pudding, and it's hard to see the debtor winning on the measly submissions it has before the Court right now. The UAW appears to have the better side of the law in arguing that the Court should scrutinize the insider compensation plan under the "inherent fairness" standard, not the deferential "business judgment" standard advocated by Delphi's counsel. The UAW also rightly points out that:

Under [BAPCPA's new amendments to the Bankruptcy Code], a retention-type obligation incurred for the benefit of an insider "shall neither be allowed nor paid" absent findings by the court, based upon evidence in the record, that the individual has a job offer at the same or greater rate of compensation, that the services provided by the individual are "essential to the survival of the business" and that the payments meet a strict monetary test.

Although BAPCPA's amendments technically don't apply because Delphi filed before these amendments became effective, it's still a solid argument as they probably represent the proof that a litigator generally would want to introduce anyway under the "inherent fairness" standard governing insider transactions.

Still, while it's common for parties to reach agreement on the eve of trial, it's difficult imagining the unions caving on this one and agreeing to anything. Instead, I suspect, the unions will make the Court cram this one down their throats if the Court really wants management to benefit here (though this too seems unlikely given the weak generalized evidence presently before the Court and the equally shaky legal grounds upon which Delphi relies).

In the end, nothing is guaranteed for the workers being asked to sacrifice and stay, so why should anything be guaranteed to the 500 management employees who are being asked to do the same (other than the fact that they control the debtor's lawyers who are instructed to file these kinds of motions)? But maybe expecting that management will refrain from self-dealing while asking for workers to take severe pay cuts is asking too much of some people.

Stay tuned.

© Steve Jakubowski 2005

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Weekly News Roundup on Bankruptcy-Related Topics for the Week Ended 11/25/05

Below are some notable news posts for the week ended 11/25/05 on the following topical bankruptcy issues of interest to the bankruptcy litigator and practitioner:

Management-Labor Bankruptcy Issues at Northwest, Delta, and Delphi

Delta Bankruptcy News

GM News

Delphi News

US Air Post-Confirmation Results

Calpine News


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Lower the Flags and Say a Prayer, for Judge Conrad B. Duberstein Has Passed from Our Midst

Today I learned the sad news that Conrad B. Duberstein, former Chief Bankruptcy Judge for the Eastern District of New York, died peacefully at his home on November 18, 2005 after a long illness. This legend of the bankruptcy bar and courts will be sorely missed by all those who had the great fortune of being in his presence.

We at The Bankruptcy Litigation Blog express our deep condolences to the family of Judge Duberstein, and to his friends and colleagues. May his memory be a blessing and a comfort to those who mourn him.

Below is the obituary that appears in today's New York Times, courtesy of Judge Duberstein's former firm, Otterbourg, Steindler, Houston & Rosen, P.C. It speaks volumes of his known -- and unknown -- greatness.

His funeral is set for November 21, 2005 at 1 p.m., at Park Avenue Synagogue, 50 East 87th Street in New York City. Please make every effort to attend. Also, please do not hesitate to provide a comment below in honor and memory of this great man, especially during the initial 30 day mourning period.

Judge Duberstein's obituary follows below:

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Weekly News Roundup on Bankruptcy-Related Topics for the Week Ended 11/18/05 - Part 2

Below is our second installment of notable news posts on topical bankruptcy issues of interest to the bankruptcy litigator and practitioner for the week ending 11/18/05.


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Arthur "Isaiah" Levitt's Stern Warning About Shoddy Pension Accounting Practices Raises the Specter of Future Bankruptcy Lamentations Caused by Moore v. Bay

[This post was retitled to highlight its connection with prior criticisms of Moore v. Bay]

Arthur Levitt, Jr., the former chairman of the SEC, and perhaps its best chairman to date, sounded a stern warning in a lengthy op-ed in today's W$J, entitled "Pensions Unplugged," about the dire consequences sure to follow for America generally "unless immediate action is taken to bring accuracy, transparency, and accountability to pension accounting." He begins:

As the wave of pension defaults that began with the steel companies and the airlines now threatens to engulf auto-parts makers and even car companies themselves, the pension crisis has grabbed headlines. Proposals to shore up the Pension Benefit Guaranty Corporation (PBGC) are making their way through Congress. Meanwhile, the problem -- in the private and the public sector -- will only get worse unless immediate action is taken to bring accuracy, transparency and accountability to pension accounting.

Over the past three decades, we have allowed a system of pension accounting to develop that is a shell game, misleading taxpayers and investors about the true fiscal health of their cities and companies -- and allowing management to make promises to workers that saddle future generations with huge costs. The result: According to a recent estimate by Credit Suisse First Boston, unfunded pension liabilities of companies in the S&P 500 could hit $218 billion by the end of this year. Others estimate that public pensions -- the benefits promised by state and local governments -- could be in the red upwards of $700 billion.

Claims on the PBGC have skyrocketed. If serious reform is not undertaken, the non-partisan Center on Federal Financial Institutions estimates that the PBGC could easily face a $100 billion hole, delivering to our overburdened treasury a crisis exceeding the massive savings-and-loan bailout of the late 1980s. It's imperative that we reform the regulatory incentives and accounting rules that encourage employers to make, and employees to accept, promises that can't be kept.

He then outlines three critical steps that need to be undertaken if disaster is to be averted. These are:

First, "bring transparency and honesty back to pension accounting";

Second, "investors and pensioners deserve relevant and understandable information from pension plans about their fiscal health and operations, not impenetrable financial statement footnotes";

Third, "while the most recent headlines have focused on the impending crisis in corporate pension plans, there is perhaps an even larger problem with the public pensions of state and local governments. Not only are unfounded liabilities moving toward $1 trillion, but the accounting standards in this arena lag behind that of corporate America."

Levitt's final two paragraphs read more like a passage from the Book of Isaiah: a long passage detailing society's prospective demise from its self-inflicted failings, followed by a few words of hope, rooted in the possibility -- however unlikely -- of effective human action. He writes:

Unrealistic pension assumptions already have gotten a number of public entities -- such as the city of San Diego and the states of Colorado and Illinois -- into economic difficulty, trouble that will spread if these impractical assumptions are not reined in. This past year, I have served as a member of the audit committee charged with investigating and remediating allegations of problems surrounding San Diego's pension funds and finances. I have seen firsthand how devastating apparent examples of bad pension accounting and mismanagement can be, and how vital correcting both are to the overall health of the capital markets and the retirements of tens of millions of workers and retirees.
Untangling the web of problems plaguing the automotive and airline industries, as well as those of municipalities and states, has not been easy. Putting their pension plan and finances on sound footing will require great sacrifice for all affected: investors, employees, management and citizens. To avoid the pain that Delphi and San Diego are undergoing, we must now place defined-benefit pension plans on solid ground. Doing so may be difficult for many cities and companies. But it will be very good for America.

We can only hope that this country's politicians, bureaucrats, and corporate and union stewards will heed Mr. Levitt's passionate call for action.

What does this have to do with bankruptcy litigation? A lot, actually. As often noted on these pages (including here and here), bankruptcy courts can be expected in the coming years to enter orders terminating pension plans, leaving the PBGC and us taxpayers holding the bag.

Also, if he's right, as we know he is, then large numbers of companies are likely presently insolvent (at least from a balance sheet perspective, if not from an "equitable" or cash flow perspective). Split-offs, spin-offs, divestitures, and the like that have been or will be consummated by these insolvent companies may well be challenged years later by trustees in bankruptcy (or their post-confirmation equivalents) asserting that these transactions were constructive fraudulent transfers because the companies were insolvent at the time of the transaction and received less than "reasonably equivalent value" in exchange.

Given the unjust, but universally-acknowledged, rule of Moore v. Bay (referenced here, here, and here), any such transaction that is avoidable under state law as to even just a single creditor is avoidable to the full extent of the transaction's value for the benefit of the entire estate (thus providing significant numbers of creditors with a bankruptcy windfall that would otherwise be unavailable under applicable state law).

Hence, for those contemplating vulture-style purchases of assets from companies that are technically insolvent based on their real (i.e., understated) pension liabilities, carefully consider Arthur "Isaiah" Levitt's stern admonitions, for they carry another simple, implicit message: CAVEAT EMPTOR! (or, alternatively, consult your preferred bankruptcy advisor).

Steve Jakubowski

© Steve Jakubowski 2005

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UAL's Bankruptcy Court Shifts Burden of Establishing Grounds for Pension Plan Termination to the PBGC, Which Faces Ever Widening Deficits as Plan Terminations Mount

As the W$J reports here, with the PBGC on track to becoming one of the largest shareholders in several of this country's basic industries, there's not a lot of joy these days in the Pre-Termination Processing Division (PTPD) at the Pension Benefit Guaranty Corporation (PBGC). According to this article, the PBGC owns about 7% of US Air, and is expected to own between 15% and 35% of UAL upon emergence from chapter 11. Regarding the PBGC's mounting exposure to pension plans terminated in bankruptcy, the WSJ reports:

PBGC's assumption of corporate pensions is resulting in a sharply widening deficit. At the end of 2004, the PBGC had $62.3 billion in obligations and $39 billion in assets -- a gap of $23.3 billion. The deficit could swell if the Chapter 11 filings of Delta, Northwest and Delphi lead them to offload unfunded pension liabilities on the agency. The Congressional Budget Office estimates that the shortfall will widen to $86.7 billion by 2015....

The shares in the reorganized [US Air] that were awarded by the court to the PBGC amount to compensation for the $2.3 billion in unfunded pension liabilities it took over....

If Northwest and Delta shed their pension plans, it could saddle the PBGC with an estimated $11.2 billion in new unfunded liabilities.

Moreover, the PBGC estimates that Delphi, the largest U.S. auto-parts supplier in terms of sales, has an unfunded pension liability of $10.8 billion -- and that the agency itself would be on the hook for $4.1 billion.

In related news from the UAL bankruptcy proceedings, Pension Benefit Guaranty Corp. v. United Air Lines, Inc., (Bankr. N.D. Ill., 10/26/05), the Bankruptcy Court ruled on the PBGC's motion for an order of the Court terminating the UAL Pilot Defined Benefit Plan (the "Pilot Plan") and establishing 12/30/04 as the plan termination date. According to the PBGC, if the Pilot Plan continued just six more months, the PBGC's liability upon termination would rise by as much as $138 million (an amount disputed by UAL and the Pilots Union). The Bankruptcy Court for the Northern District of Illinois, however, denied the PBGC's motion for summary judgment, stating:

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Movin' on Up, Finally! -- Long Overdue Selections to Delaware's Overworked Bankruptcy Court Announced

Last Wednesday, the Office of the Circuit Executive for the U.S. Court of Appeals for the Third Circuit selected four men to serve in the open slots finally created for Delaware's grossly understaffed Bankruptcy Court (which for nearly 15 years had been denied the addition of permanent judges primarily, in my view, because of fear by out-of-state lawyers/lobbyists that enhancing Delaware's ability to handle premiere cases would adversely impair their out-of-state, big city practices). The four are:

Kevin Gross, Rosenthal Monhait Gross & Goddess

Brendan Shannon, Young Conaway Stargatt & Taylor

Kevin Carey, Bankruptcy Judge of the Eastern District of PA

Christopher Sontchi, Ashby & Geddes

The Office of the Third Circuit Executive is now taking comments on the qualifications of these designates through December 1st, and decide soon thereafter. For those who know the candidates personally, I hope that you take the time to send in your comments.

The Bankruptcy In$ider had this to say about their backgrounds, Delaware's woefully understaffed bankruptcy bench, and the selection process generally:

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AM GmbH Settles Litigation With Chicago-Based Bankruptcy Trust

Multi-Year Litigation Seeking $17 Million in Damages Ends With $150,000 Settlement

FRIEDRICHSDORF, Germany, Oct. 17, 2006 (PRIMEZONE) -- AM GmbH, a privately held German company, today announced that a federal bankruptcy court in Chicago has approved a settlement between the bankruptcy litigation trust of Chinin USA, Inc. and the company concerning financing services provided by AM GmbH to Chinin between 1992 and 1997. AM GmbH paid $150,000 in the settlement in exchange for a complete release of all possible claims against the company and its founders. The bankruptcy court order approving the settlement is now final and non-appealable, and the case was dismissed with prejudice yesterday by stipulation of the parties.


"Our position since the beginning has been that the litigation lacked merit. This settlement provides a resolution to a matter that had become a significant nuisance over a several-year period and we look forward to more productive use of management's time," said Arnold Mattschull, chairman and president of AM GmbH.

Steve Jakubowski of The Coleman Law Firm, based in Chicago, represented AM GmbH in the litigation.

About AM Group

The AM Group produces "ready-to-wear" clothing from designs with modern machinery, trained skilled employees, and effective logistics with a total capacity of more than one million garments per month. The AM Group currently operates four state-of-the-art production facilities in India, Sri Lanka, and China with more than 2,400 employees. Additional information is available at www.AM-Fashion.com

CONTACT:  Maier & Company, Inc.
          Gary S. Maier/Crystal Warner
          (310) 442-9852

© Steve Jakubowski 2005

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The Big Squeeze, as Portrayed in "Big Box Mart" -- JibJab's New Clip and the Coming Squeeze of Middle America

You have to check out JibJab's new movie, Big Box Mart. Another JibJab classic. Get there early, because if the past is any guide, the servers are going to be overwhelmed with traffic.

This short clip makes you laugh at Middle America's squeeze, but the reality is, it's no laughing matter. With the US auto industry in peril (see, e.g., Delphi, GM, Ford, Visteon), hundreds of thousands of jobs are in jeopardy, and individual dislocations will be severe as union workers and middle management bear the brunt of the industry's assault on costs. Present and future bankruptcy courts can be expected to enter orders in the next 5 years terminating pension plans and modifying collective bargaining agreements. With BAPCPA's legislation about to go effective, these squeezed workers and retirees will find that bankruptcy isn't the "home court" it once was for new debtors.

JibJab picked up on the coming squeeze of the middle class (with BAPCPA's onerous provisions supplying some additional squeeze), and has created another gem.

© Steve Jakubowski 2005

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A Complaint of Judicial Misconduct: Sua Sponte Withdrawal of Reference Brings Trouble for District Court Judge

The Ninth Circuit has issued an opinion, titled In re Complaint of Judicial Misconduct, addressing a judicial misconduct complaint filed against a district judge, Manuel Real, in February 2003. The case, covered extensively by the L.A. Times , was initiated by a complaint alleging that Judge Real acted for inappropriate personal reasons in placing a "comely" female criminal defendant on probation "to himself, personally," and in withdrawing the reference in the bankruptcy proceeding of this probationer in order to "benefit an attractive female." The claim asserted in the complaint was that the judge "acted inappropriately to benefit an attractive female" and requested that "this matter be appropriately investigated to determine, among other things, the actual relationship" between the probationer and the judge.

In dismissing the complaint as "entirely unfounded," the Ninth Circuit opined:

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US Supreme Court Grants Certiorari in the Anna Nicole Smith Jurisdictional Battle

The famed 10 year jurisdictional tug of war between Texas probate courts and federal bankruptcy courts over who gets the last say over the right of Anna Nicole Smith (a/k/a Vickie Lynn Marshall) to claim about $800 million from her beloved hubby's estate will be reviewed by the US Supreme Court, which granted certiorari. This case is sure to go down as a classic, not only for the colorful personalities, but also for the extremely complex procedural posture of the case. Oral arguments are expected in January, and a decision is likely at the end of the term. Marshall v. Marshall, No. 04-1544. Stay tuned.

© Steve Jakubowski 2005

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Distressing News from Chicago's Bankruptcy Court

The Chicago Tribune reports that Sandra Butler, former courtroom deputy to Judge Jacqueline Cox (and before that to former Judge Ron Barliant), has been charged with attempted extortion for allegedly soliciting $500 from a debtor by promising to halt the sale of the debtor's house. The Tribune reports:

Butler had no power to influence the bankruptcy proceeding, but she acted otherwise, even pretending to call the debtor's bank to negotiate a more favorable repayment plan, according to an affidavit filed by FBI agent Kenneth Samuel.

According to the affidavit, Butler, talking into a phone earlier this month, "asserted that she knew [the debtor] very well" and that while the amount "is supposed to be 10 percent, that was all [he] had." Butler then led the debtor to her office, where she took the money, according to the affidavit.

Butler appeared Monday before U.S. Magistrate Judge Sidney Schenkier. She was allowed to remain free on a $4,500 bail, and a court date was set for Sept. 27.

Butler was employed by Ken Gardner, clerk of the U.S. Bankruptcy Court in Chicago, and was assigned to the courtroom of Judge Jacqueline P. Cox. Gardner said he fired Butler from the $69,000-a-year job Monday morning.

"I'm shocked this would occur in the courthouse," Gardner said. "I'm shocked this would occur with someone working for me."

Butler had worked for the clerk's office since 1985 and had been assigned to Cox's courtroom for about two years, Gardner said. Bankruptcy Court officials cooperated with the sting operation, according to the affidavit.

The FBI became suspicious of Butler in August 2002, when a debtor in a bankruptcy case told them Butler had asked for $5,000 to stop the sale of her home, according to Samuel's affidavit. The debtor in that case later learned the money wasn't used for that purpose and contacted the FBI.

In the sting operation, FBI officials filed a fake bankruptcy case, giving the debtor a false name, Stanley Kozubal, and listing his home as an address in Des Plaines. The bankruptcy filing said Kozubal owed $130,000 to a bank in Kentucky.

The undercover witness was wearing an audio and video recording device when he went to Butler's office at the beginning of the month, according to the affidavit. He said he was afraid to lose his home and asked Butler for help.

"Butler responded that she could `off the record' make some phone calls to try and stop the sale of his property," Samuel said in the affidavit. "Butler asked the [debtor] if he had any `funds today.'"

Officials in U.S. Atty. Patrick Fitzgerald's office would not elaborate on Samuel's affidavit. A federal defender representing Butler could not be reached for comment.

Our condolences to the Judges and staff at the Bankruptcy Court for this horrible and most undeserved news. Having practiced in a number of jurisdictions around the country, I can tell you that Chicago's bankruptcy court is among the most skilled, diverse, and efficient in the land. Its judges always afford great compassion, time, and respect to even the most indigent pro se debtor caught up in the upside-down world of consumer bankruptcy. How sad it is that this news, which clearly caught everyone from Chief Judge Eugene R. Wedoff on down by surprise, might detract from the Court's painstaking efforts to lead the way in fairly administering justice in today's very contentious and litigious bankruptcy environment.

Steven Jakubowski

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United Airline's Reorg Plan Leaves Equity Holding the Bag

United filed its draft 130 page Plan of Reorganization and supporting 430 page Disclosure Statement (Parts 1 and 2), and it's looking like a blood bath for unsecured creditors (4-7 cents on the dollar) and equity holders (no distributions whatsoever). Another very well-drafted plan by K&E's bankruptcy group, that contemplates the substantive consolidation of all United entities (this request alone makes the treatment sections of the Plan very cumbersome because the plan is drafted in the alternative to accommodate the possibility that United's substantive consolidation request is denied by the Bankruptcy Court). While sources say that the lack of distributions under the Plan to equity was long expected, the 50% drop in the stock price within moments after the Plan was filed suggests otherwise among professional traders (though the fact that the price is even $.65 a share tells me that people haven't quite yet figured out that "nothing" in bankruptcy really means "nothing").

This plan gives a bone to unsecured creditors, though valuations probably don't really justify it. Rough cut at the numbers suggests that total combined take for all unsecured creditors and common stockholders will be only about 2-3 times total expected professional fees earned in the case. It also makes you wonder about whether holders of publicly-traded shares should ever be restrained from selling at will for fear of impairing net operating loss carryforwards. The 7th Circuit clearly wasn't too impressed with the idea of restraining shareholders from selling shares in order to avoid jeopardizing post-confirmation use of NOL's. Turns out, the use of NOL's will be severely limited anyway under the Plan as presently drafted.

Special thanks to Kevin O'Keefe and his staff at LexBlog for their getting this blog up and running so quickly in order to accommodate the breaking news, as well as my incessant desire to share news and information with others.

More to follow. Thanks for reading.

© Steve Jakubowski 2005

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