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Let's Try This Again

posted by Stephen Lubben

Despite my best efforts (see here, here, here, here, you get the idea), we have yet another story today about how the Chrysler sale is a "rub rosa" plan that violates the absolute priority rule. It is not -- and neither is GM's.

In both cases the "good" assets will be sold to new entities.  The consideration for that sale goes to the "old" debtor, and will be distributed according to the absolute priority rule.  Not a sub rosa plan.

The press has speculated -- generally accurately -- that all the consideration will go to the secured lenders in Chrysler.  They have a $6.9 billion claim and the sale proceeds are $2 billion.  The press has also speculated that the consideration in GM will go to the bondholders.  That's only partially right; the GM papers make clear that the consideration will go to GM to distribute to creditors.  Since the secured lenders will have been paid off by this point, the sale proceeds will go to unsecured creditors (of which the bondholders are one part).

This still does not make it a sub rosa plan.

In both GM and Chrysler the Union is getting better treatment than other unsecured creditors.  BUT that better treatment is not coming from the debtor.  It is coming from the U.S. government, passing through the purchaser of the "good" assets in each case.  We can debate whether it is wise for the government to bail out the Unions, but it still does not make it a sub rosa plan.


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One major difference between GM and Chrysler is how the impaired parties are being treated.

In GM, the impaired classes are the unsecureds. Reportedly, a majority of the holders of the unsecured bonds have agreed to receive 10% of the equity and warrants for an additional 15% (after the Government reduced the amount of debt owed to the Government - making this a substantially better offer than the earlier 10% offer of last week). It is generally agreed that the unsecured classes would be greatly impaired regardless of how the restructuring is performed, but they will be able to share in any improvements through their equity participation.

In Chrysler, on the other hand, the SECURED (FIRST LIEN) CREDITORS are impaired. This determination comes solely from an "expert opinion" from a consulting firm that has an unusually large number of caveats. The investment bank that provided a fairness opinion, relied entirely upon the caveated liquidation analysis in arriving at their conclusion.

The "good" Chrysler assets are being purchased for $2 billion in cash, therefore limiting the recoveries of the secured lenders (and the unsecured lenders).

Had the Chrysler case been treated normally (without the accelerated 363(b), the objecting parties would have been able to engage their own experts to contest the value of the transferred assets (Chrysler, unlike GM, is a privately owned company and, therefore, it would be difficult for any outside firm to provide a valuation without discovery).

The acceleration of the 363(b) process is based on the belief that Chrysler's value, like that of fresh produce, will decline in value without an expeditious sale. The Court has accepted this argument despite the evidence to the contrary (Chrysler has picked up market share - see http://blog.lawrencedloeb.com/2009/05/does-bankruptcy-hurt-car-sales.html and http://blog.lawrencedloeb.com/2009/05/does-bankruptcy-hurt-car-sales-part-ii.html.

The Lionel case seemed to me to say that there needed to be a good business reason for an expedited sale of this type. The lack of debate on the "good business reason" in the case of Chrysler together with the reliance on a heavily caveated and uncontested valuation report are, to me, very troubling.

You make a great point about absolute priority but I think you're mixing concepts in a way that has the potential to cause confusion. A sale can be a "sub rosa" plan without violating absolute priority -- ie, there are confirmation requirements other than just absolute priority that are avoided through a quick sale (e.g., accelerated timeline; best interests; feasibility; in a cramdown, no unfair discrimination against impaired non-accepting class (eg, bonds vs labor)). Courts don't seem too concerned about sub rosa plans nowadays but maybe the proposed newco/oldco structure is the point where we've distorted the law too much and the pendulum will swing back, similar to what happened with 1146(c) (ie, the point where 363 sales "jump the shark"). This sale will get approved because the administration is behind it but the structure does more than just "dicate" the terms of the restructuring, it implements the terms. They're setting up a new shell, with new owners, to "purchase" the assets through what is largely a credit bid; which is precisely the sort of restructuring ordinarily done through a plan.

I agree with part of the prior comment, and disagree with part of it. I am talking about sub rosa plans and absolute priority together, and they are distinct concepts that happen to be related in these particular cases (because the absolute priority argument is often used to support the claim of a sub rosa plan). My first point in the post relates to absolute priority, the second to sub rosa plans, and the third is kind of a combination.

But I disagree with the idea that the sale to a new corporation makes this a sub rosa plan. That's pretty routine in 363 sales (at least in the SDNY and Delaware). Think about the TWA case, where TWA was sold to TWA LLC, a newly created LLC owned by American. The key difference here is that the government has been very open about what the plans are post-sale, whereas a typical commercial buyer can do whatever they want post-closing without telling the world about it.

As I understand it, the term "sub rosa plan" didn't apply to Lionel, which is what the Court is relying on in its ruling.

The Lionel opinion, as I understand it, laid out the basic requirements to allow for a 363(b) sale of the majority of the assets of a company (without regard to the distribution of proceeds - which would lead to being more like a plan).

For some reason, White & Case relied on legal arguments and cross examinations to make their case rather than providing their own experts to contest the need for urgency, the valuations, and the fairness of the compensation. This may have been due to the limited means of the Indiana Pensioners (they did only have a $41 million position that cost them less than $20 million - making them somewhat sensitive to costs if they couldn't be passed along to the estate).

The Judge, therefore, had only legal arguments to interpret. The attempt to shed doubt on Capstone's valuation by pointing to the compensation arrangements (a $17 million success fee with $10 million going to the principal witness) was not received well by the Court.

I did an inartful job of explaining my final point.

It's not the sale to a newco that makes this a sub rosa plan (on this point, I agree sales to newcos are the norm); it's that the newco was formed by existing creditors who are swapping debt for equity through the sale, as opposed to through a plan, and are determining the relative priorities of their claims. Secured lenders credit bid all the time but they have a property interest to protect and there's no compromise of relative priorities because they typically take ownership of 100% of the newco if they prevail on a credit bid. What's unusual/creative with GM, and arguably a stretch, is allowing these mostly unsecured creditors (with the possible exception of the Treasury Dept.?) to credit bid, compromise their relative priorities, and set the distributions, which is usually plan fodder.

The Court has made the assumption, based on arguments, that the agreement with the Union is between NewCo and the Union and, therefore, is not a violation of priorities nor part of "a plan."

I have suggested that it might have been easier to avoid the priority issue if they had kept the VEBA deal out of the transaction and simply announced the intent of NewCo to enter into that agreement after the close of the transaction (see http://blog.lawrencedloeb.com/2009/05/chrysler-cant-even-get-bankruptcy-right.html).

That said, a very good argument can be made that NewCo is getting nothing of value for the $4.25 billion of equity and the $4.587 billion of debt. There is no asset being purchased in exchange for these interests. The value is being realized by the Estate of Chrysler. Therefore there IS a violation of priorities and it IS a "sub rosa" plan that not only provides for disposition of the majority of assets, but allocates the proceeds.

If NewCo were actually a new business, they could hardly be expected to pay newly hired workers - even a group of workers - funds to pay for their service to another company (and to pay for the benefits of retirees WHO NEVER WORKED FOR NEWCO!).

Certainly there are cases where employees are hired with signing bonuses, but $8.837 billion? 55% ownership in the company? That's absurd.

Also absurd is that there is that much value to allocate without considering the true value of the assets being purchased by NewCo - which, therefore, is clearly more than $2 billion.

While I haven't seen the transcripts, I am not aware of any arguments along these lines in the case.

If such arguments had been made, I would be surprised that the Judge didn't mention them in his opinion (and explain the logic by which he justified the payment without considering it a violation of priority or a "sub rosa" plan).

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