The Second Circuit will hear arguments in the Chrysler bankruptcy appeal today. The appeal is spearheaded by Indiana pension funds and state treasurer Richard Mourdock.
The old saw in legal circles is that, if the law is on your side, pound on the law. If the facts are on your side, pound on the facts. If neither is on your side, pound on the table. From the excerpt quoted by the news sources I’ve seen, the Indiana funds are pounding on the table.
“This attack on the most fundamental of creditor rights has been funded, orchestrated and controlled by Treasury, despite its complete lack of statutory and Constitutional authority to do so.â€
The facts seem to be, according to the bankruptcy court (court order – pdf) after hearing evidence, that the plan approved by the bankruptcy court will yield more money to first priority creditors than they would have gotten out of a liquidation. (See my prior analysis here.) The only distributions being made for pre-bankruptcy petition debts will go to the first priority lenders, including the Indiana pension funds. Junior lienholders and unsecured creditors who will receive a benefit from the New Chrysler going forward do so because of new value they are contributing.
In addition, Indiana appears to have waived its right to challenge the bankruptcy plan by virtue of the investment agreement it signed on to. The first priority creditors signed onto an investment agreement whereby the investors agreed to be bound by the actions of an administrator. To take certain actions, the administrator had to get the approval of a certain percentage of the dollars invested — seems to have been a one-dollar, one-vote kind of deal. The Indiana funds are an extremely minor player in this investment fund, holding something like 0.6% of the total stake. The administrator received the approval of something like 96% of the dollars held. Now, the Indiana funds are trying to paint this as some sort of brave stand — Mourdock is bold enough to act where the rest of the financial giants were cowed into obeisance by the mighty federal government. The more likely explanation is that this is the best deal available under the circumstances. Political gain is what Mourdock and, perhaps, the Daniels administration hope to realize from this challenge.
I am curious about a couple of aspects related to this First Lien Credit Agreement to which the Indiana funds are subject. First of all, if the other creditors under the agreement are (as the Indiana funds seem to be suggesting) breaching their fiduciary duty by acquiescing to a bad deal because of political pressure; will the Indiana funds zealously protect their investment by suing its fellow creditors for the losses experienced because of this breach. If Mourdock is doing this for political gain, clearly the answer is “no.” If he truly believes his public position, then the answer should be “yes.” I suspect the former.
The other aspect of the First Lien Credit Agreement about which I am curious is whether the Indiana funds are opening themselves up to a suit themselves from their fellow creditors. I have to imagine that if the Indiana funds are acting outside of the terms of the agreement and, by doing so, cost their fellow investors money, there is some provision for those fellow creditors to make a claim against the Indiana funds. Given that those funds have at stake 96 times the money of the Indiana funds, the exposure could be substantial.
Guess we’ll have to wait and see what the Second Circuit does with this.
I think you’re accepting the values here too easily and ignoring the importance of credit bidding, or more precisely, ignoring the absence of credit bidding here. And relatedly, I think you’re too flippant in dismissing the existence of political pressure. Here’s why.
As you know, in a typical bankruptcy proceeding secured creditors can bid any amount they want to pay for an asset that’s for sale in a proceeding like this, but they only have to pay cash for the amount above the value of their lien. Therefore if Indiana held a lien of $100 million against a piece of Chrysler’s asset that went for sale, Indiana would be free to bid and pay cash only if the sale price went above $100 million. Then Indiana could sell the asset in the open market for whatever price we wanted.
In Crysler’s case, the secured creditors could have bid up to their claim of $6.9 billion and would only have to pay cash for any bids above that. Instead, the banks (who really run the show here by owning most of the credit) opted for a $2 billion cash payment and no credit bidding occurred. The difference in money here is really quite shocking and absurd.
They didn’t accept this cash payout, which is less than 30% of their claims, simply for economic reasons. At the same time the government (which now is the majority stockholder in many of these same banks) was pushing for a speedy proceeding, it was chastising the credit holders for making their claims. Not only is this unheard of, but it’s also a significant conflict of interest, as indicated in the Indiana briefs.
The political pressure is there, and the governments used their new-found power as majority owner of banks to make it happen. Indiana got screwed, but the administration made sure the UAW got their fair share.
This is only part of the problem with the Chrysler bankruptcy, but it’s an important part that I feel like you gloss over in covering this.
The crux of the issue is, then, what the assets are really worth right now.
I’m more familiar with the foreclosure and sheriff’s sale process which works a lot like you’ve described with the creditor’s ability to bid their lien. In a Sheriff’s sale after a foreclosure, the mortgage holder (and now judgment holder) can bid the amount of its judgment without paying cash (aside from paying fees to the Sheriff associated with the sale.)
But, even if its judgment on the note secured by the mortgage is $200,000; the creditor may well see fit to bid much less if the underlying property is actually worth much less. The question now becomes, how much does Treasurer Mourdock think the secured assets are actually worth and how did he come up with those valuations; and, secondly, are the Indiana funds fellow creditors breaching their fiduciary duties by concluding (or pretending they have concluded) that those assets are worth $2 billion or less?
‘When the law is on your side, argue the law; and when the facts are on your side, argue the facts…When you don’t have the law on your side, when you don’t have the facts on your
side, bang your fist on the defense table as loud as you can.’ – Bartlett in the West Wing
http://is.gd/PeLB
Also, it’s probably important to note that, while the Indiana funds hold a nominal $42.3 million in Chrysler debt, because of the distressed nature of the fund at the time Treasurer Mourdock invested, that nominal amount was purchased for an actual price of about $17 million. Indiana is expected to get about $12.18 million back.
According to the Post Tribune, at the time the Indiana funds invested in Chrysler, it was rated “seven levels below the highest junk bond status.” Getting 72% of your money back on such an investment doesn’t seem entirely unreasonable.
The crux of the issue is, then, what the assets are really worth right now.
Well, it’s certainly a really significant one.
You’re right hat often it makes sense to bid much lower, but remember, this is significantly (and absurdly) lower. And just as important, they didn’t even bid. They just took a wimpy cash payment. That decision was based far more on politics and pressure than on any economic calculation by the other creditors.
We speak here as if the banks are the other creditors, but really it’s the US government and the Obama administration, since they are majority shareholders in many of these banks. But the Obama administration’s goals and aims are very different from Indiana’s or any of the other normal creditors. The Obama administration is primarily interested in two things: (i) a speedy recovery for Chrysler, and (ii) a UAW that lands on its feat. These two aims are in direct conflict with Indiana’s.
Are the other creditors breaching their fiduciary duties? You bet.
I’m not sure you can say it’s “absurdly” lower. In August 2008, Indiana effectively bid $17 million for $42 million in debt. Now, in June 2009, it will get $12 million for something worth $17 million in 8/08. That doesn’t strike me as an absurd reduction in value, given how the value of other things has been reduced between August 2008 and the present.