Archive for September, 2009
Monday, September 28th, 2009
The bankruptcy blogosphere is replete with commentary on Chrysler LLC’s sale, through Section 363 of the Bankruptcy Code, to a newly-formed entity. The sale, of substantially all of Chrysler’s assets for $2 billion, gave secured creditors an estimated $0.29 on the dollar. Other, unsecured creditors received more. Though challenged, the sale ultimately received the 2d Circuit’s approval in a decision issued August 5.
Was the Chrysler sale proper? Or did it constitute an inappropriate “end run” around the reorganization provisions that ordinarily apply in a confirmed Chapter 11 plan?
Harvard Law’s Mark Roe and Penn Law’s David Skeel tackle this question in a paper released earlier this month entitled “Assessing the Chrysler Bankruptcy.” Roe and Skeel argue, in essence, that there was no way to tell whether or not the sale was proper because the sale lacked valuation, an arm’s length settlement, or a genuine market test (i.e., an auction) – all traditional measures of whether or not secured creditors received appropriate value for their collateral. They then suggest that the Chrysler transaction may portend a return of sorts to the equitable receiverships used to reorganize the nation’s railroads at the end of the ninenteenth century.
Roe and Skeel follow two fundamental strands of thought.
First, they review the basic facts of the Chrysler sale against the context of other so-called “363 sales” and ask where Chrysler fits within this context.
Their answer is that it really doesn’t fit.
Most complex bankruptcy sales (i.e., sales that effectively determine priorities and terms that the Code is structured to determine under Section 1129) are insulated from running afoul of the Code’s reorganization provisions through judicial innovations such as expert valuations or priority determinations, creditor consents, or competitive auctions. According to Roe and Skeel, the Chrysler sale had none of these. Instead,
“[Chrysler's] sale determined the core of the reorganization, but without adequately valuing the firm via [Section] 1129(b), without adequately structuring a . . . bargain [with creditors or classes of creditors], and without adequately market testing the sale itself. Although the bankruptcy court emphasized an emergency quality to the need to act quickly . . . there was no immediate emergency. Chrysler’s business posture in early June did not give the court an unlimited amount of time to reorganize, but it gave the court weeks to sort out priorities, even if in a makeshift way.”
How was the Chrysler sale deficient in these respects?
Though it involved a valuation presented by Chrysler, “the court did not give the objecting creditors time to present an alternative valuation from their experts . . . . Here, the judge saw evidence from only one side’s experts.”
For those who may protest that the Chrysler sale did, indeed, enjoy the consent of Chrysler’s secured lenders, Roe and Skeel argue that the largest of these lenders were beholden to the U.S. Treasury and to the Federal Reserve – not only as regulators, but as key patrons via the federal government’s rescue program. They were, therefore, willing to “go along with the program” – and the Bankruptcy Court was inclined to use their consent to overrule other objections from lenders not so well situtated. On this basis, Roe and Skeel contend that the secured lenders’ “consent” – such as it may have been – wasn’t independent “consent” at all.
Roe and Skeel also point out that the “market test” proposed as a means of validating the sale was, in fact, not a test of Chrysler’s assets, but of the proposed sale: “There was a market test of the Chrysler [sale], but unfortunately, it was a test that no one could believe adequately revealed Chrysler’s underlying value, as what was put to market was the . . . [sale] itself.”
The authors then go on to argue that the sale was mere pretense – and that, in fact, ”there was no real sale [of Chrysler], . . . at its core Chrysler was a reorganization”:
“Consider a spectrum. At one end, the old firm is sold for cash through a straight-forward, arms-length sale to an unaffiliated buyer. It’s a prime candidate to be a legitimate [Section] 363 sale. At the other end, the firm is transferred to insider creditors who obtain control; no substantial third-party comes in; and the new owners are drawn from the old creditors. That’s not a [Section] 363 sale; it’s a reorganization that needs to comply with [Section] 1129.
. . . .
[To determine where a proposed sale falls along this spectrum,] [a] rough rule of thumb for the court to start with is this stark, two-prong test: If the post-transaction capital structure contains a majority of creditors and owners who had constituted more than half of the old company’s balance sheet, while the transfer leaves significant creditor layers behind, and if a majority of the equity in the purportedly acquiring firm was in the old capital structure, then the transaction must be presumed to be a reorganization, not a bona fide sale. In Chrysler, nearly 80% of the creditors in the new capital structure were from the old one and more than half of the new equity was not held by an arms-length purchaser, but by the old creditors. Chrysler was reorganized, not sold.”
Was the Chrysler transaction – however it may be called – simply a necessary expedient, borne of the unique economic circumtsances and policy concerns confronting the federal government during the summer of 2009?
Roe and Skeel argue that, in fact, the government could have acted differently: It could have picked up some of Chrysler’s unsecured obligations (i.e., its retiree obligations) separately. It could have offered the significant subsidies contemplated by the deal to qualified bidders rather than to Chrysler. It could even have paid off all of Chrysler’s creditors in full. But it did none of this.
Second, Roe and Skeel consider that “[t]he deal structure Chrysler used does not need the government’s involvement or a national industry in economic crisis.” Indeed, it has already been offered as precedent for proposed sales in the Delphi and Phoenix Coyotes NHL team bankruptcies – and, of course, in the subsequent GM case.
One very recent case in which South Bay Law Firm represented a significant trade creditor involved a similar acquisition structure, with an insider- and management-affiliated acquirer purchasing secured debt at a significant discount, advancing modest cash through a DIP facility to a struggling retailer, and proposing to transition significant trade debt to the purchasing entity as partial consideration for the purchase.
The deal got done.
What’s to become of this new acquisition dynamic? Employing a uniquely historical perspective, Roe and Skeel travel back in time to observe:
“The Chrysler deal was structured as a pseudo sale, mostly to insiders . . . in a way eerily resembling the ugliest equity receiverships at the end of the 19th century. The 19th century receivership process was a creature of necessity, and it facilitated reorganization of the nation’s railroads and other large corporations at a time when the nation lacked a statutory framework to do so. But early equity receiverships created opportunities for abuse. In the receiverships of the late 19th and early 20th century, insiders would set up a dummy corporation to buy the failed company’s assets. Some old creditors – the insiders – would come over to the new entity. Other, outsider creditors would be left behind, to claim against something less valuable, often an empty shell. Often those frozen-out creditors were the company’s trade creditors.”
They trace the treatment of equity receiverships, noting their curtailment in the US Supreme Court’s Boyd decision, the legislative reforms embodied in the Chandler Act of 1938, and the 1939 Case v. Los Angeles Lumber Products decision which articulated the subsequently-enacted “absolute priority rule” (but preserved the “new value exception”). Against this historical background, ”Chrysler, in effect, overturned Boyd.”
But with a twist.
“One feature of Chrysler that differed from Boyd may portend future problems. Major creditors in Chrysler were were not pure financiers, but were deeply involved in the automaker’s production.” In cases where the value of the assets is enhanced by the continued involvement of key non-financial creditors, “players with similar [legal] priorities will not . . . be treated similarly.”
Translation: When non-financial creditors are driving enterprise value, a Chrysler-style sale suggests that some will make out, and some creditors - even, on occasion, some secured lenders – will get the shaft.
If accurate, Roe’s and Skeel’s Chrysler analysis raises some significant considerations about access to and pricing of business credit. It raises new concerns for trade creditors. It likewise presents the possibility that the Chapter 11 process – which has, in recent years, tilted heavily in favor of secured lenders – may not be quite as predictable or uniformly favorable as in the past.
Meanwhile . . . it’s back to the future.
Monday, September 21st, 2009
A brief update in the ongoing struggle between Antiguan liquidators Peter Wastell and Nigel Hamilton-Smith and federal receiver Ralph Janvey over control of the financial assets previously controlled by Sir Allen Stanford, including Stanford International Bank, Ltd. (SIB):
Readers of this blog will be aware that several recent court rulings – including a detention order for Sir Allen issued by the US District Court and recognition orders issued in England and Canada – have threatened to undermine Mr. Janvey’s position in a Dallas receivership before US District Judge David Godbey, where Stanford’s financial assets are under court control. For details on each of these orders and on other aspects of the Stanford matters, see prior posts located here, here, here, here, here, here, here, and here.
Recently, however, Mr. Janvey may have gotten a little help . . . from North of the border.
In related rulings issued Friday, September 11, Mr. Justice Claude Auclair of the Quebec Superior Court found that Vantis Business Recovery Services – a division of British accounting, tax, and advisory firm Vantis plc, and the firm through which Messr’s. Wastell and Nigel Hamilton-Smith were appointed liquidators for SIB – should be removed from receivership of SIB’s Canadian operations.
According to a report by Toronto’s Globe and Mail, Mr. Justice Auclair found that Wastell and Hamilton-Smith’s firm acted improperly in destroying original computer evidence from SIB’s Montreal branch office and “stonewalled efforts by Quebec’s financial authority – the Autorité des marchés financiers [the Financial Market Authority] – to get access to the copied information.”
In verbal rulings that will cost the liquidators control of the Canadian receiverhsip (which will now go to Ernst & Young Canada), Mr. Justice Auclair reportedly “derided” Vantis’ “high-handed” behavior after an Antiguan court made appointments to wind down SIB – and its Montreal office – and recover funds for alleged Canadian victims.
Reacting to arguments that Antiguan banking privacy laws prevented direct disclosure of information to the Canadian authorities and that destruction of SIB’s Montreal computer databases was necessary to keep them out of the hands of creditors seeking to repossess SIB’s Montreal office, Mr. Justice Auclair is said to have retorted, “As if we don’t have any safes in Canada to protect and preserve” such materials.
As if, indeed.
In pleadings filed with the US District Court, Mr. Janvey previously complained that the liquidators “erased all SIB electronic data from SIB servers in Montreal, removed data to Antigua, and attempted to seize over US$21 million in SIB funds through an ex parte legal proceeding in which they failed to disclose to the Canadian court the existence of [the receivereship] and the appointment of the US Receiver” Messr’s. Wastell and Hamilton-Smith have, of course, indignantly disclaimed Mr. Janvey’s “scurrilous and specious accusations of misconduct” regarding their administration of Canadian assets.
Whether or not it is “scurrilous” or “specious,” the liquidators’ conduct has apparently created controversy with more than Mr. Janvey alone, if the Globe and Mail’s account is accurate.
Meanwhile, the parties await Judge Godbey’s ruling in Dallas.
Monday, September 14th, 2009
Unfortunately, life is full of them . . . and so is the 2005 Bankruptcy Code. Today’s post will discuss just one: The expanded protection afforded trade creditors under Section 503(b)(9).
What does this section do? And just how much protection does it provide? As amended, Section 503(b)(9) was intended by Congress to protect vendors who supplied goods to a debtor within 20 days of a debtor’s bankruptcy filing by extending “administrative” (i.e., 100% payment) status to their claims. Along with amendments to Section 546(c), the idea was to protect vendors who extended credit to a debtor immediately before the debtor filed a case. But in fact, Section 503(b)(9)’s application may now be leaving many such vendors at greater risk.
How so? A recent Daily Deal piece by Natixis’ Christophe Razaire briefly outlines three general problem areas.
- Goods? Or services? Section 503(b)(9) protects suppliers of goods well enough, and understandably so: Along with Section 546(c), it is designed to preserve and augment the protections extended to the same vendors under the Uniform Commercial Code. But what about suppliers of services? Unfortunately, as a number of creative service providers have discovered, the Code offers no such similar protection. Moreover, where a company relies primarily on services for its activity, it appears doubtful that the Code’s amendment does anything to alleviate the risk of a debtor’s default and eventual bankruptcy.
- Payment? Or post-petition payables? Though Section 503(b)(9) provides administrative priority for “20-day” vendor claims and Section 546(c) likewise permits vendors to assert reclamation demands for goods supplied immediately prior to the debtor’s filing, in practice, vendors rarely see any early compensation in the case.
Instead, a bankruptcy court is far more likely to simply afford such claims their entitled administrative status, then require the vendors holding them to wait until the conclusion of the case for payment. Economically, this means that vendors who should be enjoying administrative protection and receiving cash are, in fact, merely exchanging one “IOU” for another – and, in the meantime, suffering as much liquidity distress as any other general unsecured creditor.
Needless to say, this liquidity distress has to be dealt with in some fashion. And it is often addressed through a refusal to further supply the debtor-in-possession except on “COD” or similarly restrictive terms. Alternatively, other customers of a cash-strapped vendor may feel the squeeze through tightened terms as the vendor struggles to compensate for large – but unsatisfied – administrative obligations owed by the debtor.
- Administrative protection? Or administrative insolvency? Perhaps the most unintended consequence of Section 503(b)(9)’s amendment is that business reorganizations involving large numbers of “20-day” claims may, in fact, be threatened by its application.
“20-day vendors” can, if they so choose, accept payments on their administrative claims at a discount – and, in fact, it is not uncommon for debtors to attempt to cut such deals. But where there are numerous “20-day” claimants, the debtor often faces very slow, arduous negotiations. Many vendors are reluctant to negotiate with the debtor for fear of “selling out” too low; others may try their hand at brinksmanship, betting that the debtor’s need to satisfy such claims prior to emerging from bankruptcy will reward their willingness to “hold out.”
Often, the “reward” for such bargaining is something less than creditors may have hoped for. The debtor concludes it cannot negotiate and must instead incur the [additional] administrative expense of contesting such claims directly in an effort to reduce their aggregate amount. If these claims disputes do not go the debtor’s way, or if the debtor is already struggling to emerge with sufficient cash, the debtor may be forced to liquidate – thereby leaving all creditors, from secured debt to general unsecured claims, with far less than might otherwise be the case.
How big can these problems get? A recent “Dealscape” blog post by Ben Fidler illustrates how the section is playing out in the troubled retail and auto parts sectors, where vendors of goods often play a significant role in a company’s operations. Fidler points to larger Chapter 11 filings, such as Empire Beef Co., Blackhawk Automotive Plastics, Inc., and Plastech Engineered Products, Inc., which have been left administratively insolvent or have been threatened with such insolvency, as a result of section 503(b)(9)’s amendments.
Though not every case is as large as the ones cited by Fidler – and not every case results in administrative insolvency – similar dynamics with similar results can just as easily arise in smaller Chapter 11’s.
In sum, this anecdotal data suggests that Congress’ well-intended efforts to afford some creditors with more options in a debtor’s reorganization may, in fact, have left all creditors with far less options.
Surely, this cannot have been Congress’ intended consequence.
Friday, September 11th, 2009
Tuesday, September 8th, 2009
Several weeks have passed since Antiguan liquidators Peter Wastell and Nigel Hamilton-Smith and federal receiver Ralph Janvey briefed US District Judge David Godbey on the liquidators’ request for US recognition of their proposed Antiguan liquidation of Stanford International Bank, Ltd. (SIB).
Readers will recall that Messr’s. Wastell and Hamilton-Smith have been at odds with Mr. Janvey, a federal receiver appointed in Dallas’ U.S. District Court for the purpose of administering not only SIB, but all of the assets previously controlled by Sir Allen Stanford (links to prior posts can be found here). Those assets and their creditors span at least three continents – North America, South America, and Europe – and have spawned insolvency proceedings in several countries.
One of the preliminary questions in these proceedings is which of them will receive deference from the others. Of particular interest is which proceeding – and which court-appointed representative – will control the administration of SIB. The Eastern Caribbean Surpeme Court (Antigua and Barbuda) has found, perhaps predictably, that SIB’s liquidation is to be adminsitered in Antigua. It also has found that Mr. Janvey has no standing to appear as a “foreign representative” or otherwise on behalf of SIB or other Stanford entities.
In London, the English High Court of Justice, Chancery Division’s Mr. Justice Lewison reached a similar conclusion in early July. Based on a determination under English law that SIB’s “Center of Main Interests” (COMI) is in Antigua, he designated Messr’s. Wastell and Hamilton-Smith as “foreign representatives” of SIB for purposes of Stanford’s English insolvency proceedings.
In Dallas, meanwhile, Judge Godbey has permitted the Antiguan liquidators to commence a Chapter 15 proceeding under the US Bankruptcy Code and to make application for similar recognition of SIB’s Antiguan liquidation in the US. Messr’s. Wastell and Hamilton-Smith and Mr. Janvey have each briefed the question of whether, under US cross-border insolvency law, that liquidation ought to be recognized here as a “foreign main proceeding” – and, more specifically, whether Antigua or the US is the properly designated COMI for SIB.
In briefs submitted over six weeks ago, the liquidators urged a finding consistent with that of the English and Antiguan courts. They argued essentially that a debtor’s “principal place of business” is essentially the location of its “business operations,” and referred repeatedly to SIB’s undeniably extensive physical and administrative operations in Antigua.
In opposition, Mr. Janvey argued strenuously for a finding that SIB’s COMI is, in fact, the US. He did so relying largely on the contention that, despite SIB’s physical location and operations in Antigua, Sir Allen allegedly “spent little time in Antigua” – and that Sir Allen effectively managed and controlled SIB from the US. Mr. Little, the examiner appointed by Judge Godbey to assist him in overseeing the receivership, generally concurred with Mr. Janvey.
Last week, Mr. Janvey’s contention may have received a set-back.
The United States Fifth Circuit Court of Appeals recently upheld a detention order confining Sir Allen to the US pursuant to a separate federal indictment issued against him – and in so doing, concurred in the lower court’s conclusion that Sir Allen’s ties to the State of Texas were “tenuous at best.” The Fifth Circuit’s 3-judge panel recognized that Stanford “is both an American citizen and a citizen of Antigua and Barbuda, and has resided in that island nation for some fifteen years,” and further noted:
Stanford admitted that he established a new residence in Houston in preparation for his required presence during the pendency of the case against him. Several of his children have recently moved to Houston to be closer to him during the proceedings. While Stanford did grow up in Texas, he has spent the past fifiteen years abroad. His international travels have been so extensive that, in recent years, he has spent little or no time in the United States . . . . [O]ne of Stanford’s former pilots [testified] that Stanford . . . engaged in almost non-stop travel on the fleet of six private jets and one helicopter belonging to [Stanford Financial Group] and its affiliates . . . .
On September 1, Messr’s. Wastell and Hamilton-Smith sought leave to file the Fifth Circuit’s order in support of their prior application for recognition, and over Mr. Janvey’s anticipated objection.
It appears that where Sir Allen’s indictment is concerned, home is where the corporate jet is.
But where SIB’s liquidation is concerned . . . where is COMI?