“Surgical” Bankruptcy for Big Auto Looking Increasingly Dubious

We said at the beginning of April, when the idea of a “surgical” bankruptcy of GM and Chrylser was first mooted, that we assumed this was an effort at high stakes poker, because there was simply no way to make reality conform with the Administration’s fantasy. Readers may recall that the high concept was a variant on the good bank, bad bank construct, by which a company would be separated into two pieces, and the Administration planned to get “some” creditors to back the plan.Our understanding is “some” doesn’t cut it for a prepak or any variant thereof.The Times today, in less pointed language,confirms this assessment, pointing out that a judge would be very loath to set this precedent. And it also mentions another awkward fact: that suposed prepaks often linger in court quite a long time.

The reason for haste is that a bankruptcy for a company as complicated as GM would take nearly two years even if all went well (a source for the Times pegged it at three years; Delphi has been in court four years). That much uncertainty will hurt sales (the risk of losing your local dealer and having to schlepp for in warranty servicing alone would put some buyers off).

Separately, the Wall Street Journal reports that auto task force chief chief Steve Rattner was involved in payments in an alleged kickback scheme with New York State’s pension fund. If this story leads to pubic ire, Team Obama is going to have to find a replacement. (Note the New York Times says an Administration official said that Rattner appraised them of the investigation and Rattner’s firm Quadrangle stated it expected no action to be taken against Rattner). If there were a change of the guard, any new face might not be as gung ho about the “surgical bankruptcy” concept. This is going to prove to be interesting.

From the New York Times:

Any hope of a high-speed bankruptcy by General Motors faces a serious obstacle: a judge — not the Obama administration, not G.M. management and not the company’s creditors — would reign in court.

A bankruptcy judge would be required by law to listen to unions, whose members fear for their jobs, benefits and pensions. And the judge would have to pay attention to creditors, including bondholders frustrated by how much they stand to lose if G.M. is broken up into “good” and “bad” companies as the administration is planning. Even a judge sympathetic to the administration — and the administration would look for a sympathetic court — might be reluctant to rubber-stamp that plan.

“Once you’re in, nobody knows where it’s going because anyone can come into court and say no, no, no,” said Sandra E. Mayerson, head of the insolvency practice in the New York law office of Squire, Sanders & Dempsey. “I’ve had preplanned bankruptcies that we thought would be out in 90 days but we were in for a year.”

While a bankruptcy judge agreed to a lightning-quick sale of Lehman Brothers assets last fall, he did so only after a parade of government regulators insisted that a failure to sell could undermine the world financial system. That claim would be a stretch for G.M., whose assets are factories, cars and other tangible goods that, unlike Lehman’s financial contracts, have value that is unlikely to evaporate quickly…

Casting aside the deliberative processes of bankruptcy would undoubtedly lead other companies to argue for the same treatment in the future….

Unionized employees and retirees would ask that their contracts be protected, and the Bankruptcy Code has provisions specifically requiring good-faith negotiations before labor agreements can be modified. Such talks could easily take many months…..

Separating and selling off G.M.’s more valuable assets, a strategy pursued at troubled banks (usually outside of bankruptcy, it should be noted), would most likely pit the company’s financial advisers against those working for creditors…

Even if a judge went along with the government’s plan to split the company, that judge would want plenty of legal cover. Gathering and presenting evidence that the split-up is the best option would take time.

Typically, companies sell off assets to third parties as part of a reorganization in Chapter 11. Plans for G.M. would go further, selling virtually all the viable parts of the company very quickly to a new one created solely to buy it.

“What’s driving this is the concern that the customer is not going to stand for a three-year bankruptcy,” said a person briefed on the government’s plan who insisted on anonymity because discussions are continuing. “The revenues will just stall out.”

Allowing the automaker to sell off the good assets would essentially sidestep the rest of the bankruptcy process, lawyers said, especially the nettlesome requirement that creditors approve a plan of reorganization. Once blessed, that tactic would be alluring to other troubled companies.

“If you could do this, it’s too cheap a trick — everyone would do it,” said Lynn M. LoPucki, a law professor at the University of California, Los Angeles. “There would be no other kind of bankruptcy remaining.”

Lehman Brothers conducted a sale within days of its bankruptcy filing, holding an auction under Section 363 of the Bankruptcy Code, which the administration’s plan could also use. But in Lehman’s case, an outside buyer, Barclays, bid on the assets, Professor LoPucki said. “Here, there is no buyer,” he said. “G.M. is selling itself to itself. That transaction has no economic reality.”

The transaction could have very real implications, though, for creditors and unionized workers. If union contracts on pensions, employment and benefits remain tied to the old G.M., employees and retirees could be devastated financially.

If the contracts move to the new, good company, the surviving business would look considerably weaker. That creates a political problem that would make a rapid, clean bankruptcy unlikely.

“It’s going to be about the union and the pensions,” said Ms. Mayerson, the bankruptcy lawyer. “And I don’t see any way that this is a quickie bankruptcy. After all, it took them 30 years to get into this mess.”

The Financial Times points out yet another complication that would likely get in the way of the Administration’s Tinker Bell plan, namely, that due to its large supplier network, GM would need to have an unprecedented number of companies designated “critical vendors” who need prompt payment:

General Motors is prepared to argue that hundreds of its suppliers are “critical vendors” who require timely payments if it seeks bankruptcy protection, setting the stage for what would be the most sweeping attempt ever to win special treatment for such contractors, people close to the matter say.

Companies often request special treatment for a limited number of suppliers as part of bankruptcy petitions.

Bankruptcy experts say GM would stand a good chance of winning protection for more suppliers than is usual because of the large number that provide “just-in-time” car parts to the company….

GM would have to demonstrate in court that its business would be better off, and could retain more value if it pays key bills.

A judge could also force GM to prove that individual suppliers would stop operating or shipping goods if they were not paid, rather than letting GM use the money as it sees fit.

The critical vendor legal doctrine can be “subject to abuse and unfairness”, one attorney said. Roughly two-thirds of GM’s suppliers also sell parts to Ford or Chrysler, and some may be able to absorb late or reduced payments.

“It’s a game of chicken,” one attorney said. “How do you figure out which suppliers really will stop supplying tomorrow and which won’t?”


Originally published at Naked Capitalism and reproduced here with the author’s permission.