April 30, 2009 4:03 PM

Can Stubborn Bondholders Delay a Chrysler Rebirth?

Posted by Zach Lowe

The Obama administration's confidence that Chrysler, with help from Fiat, can emerge from Chapter 11 in two months left the Am Law Daily wondering whether the bondholders who refused the Treasury Department's cash-for-debt offer have enough power to hold up the bankruptcy proceeding. So we called Douglas Baird, a professor at the University of Chicago law school and one of the nation's leading bankruptcy experts. He educated us on sections 363 and 1129(a)(7) of the federal bankruptcy code--two sections lawyerly types--and probably anyone else paying attention to this story--are going to be hearing a lot about over the next few weeks.

Hello, Professor Baird. Lawyers today have been urging us to check out section 1129(a)(7) of the federal bankruptcy code, saying the bondholders who refused Treasury's deal are going to cite it to object to the Chrysler Chapter 11. We've read it, but want your expertise. What exactly does this part of the code mean?

This is known as the "best interests of creditors" rule. It says each individual creditor is entitled to at least as much as they would get in a straight-up liquidation of the company. What these bondholders could say is that, if you took the Jeep brand name, the transmission business--a really successful business--the real estate, the company jets--that all of these things add up to more than $2.25 billion. Therefore, Chrysler is worth more than $2.25 billion, and a judge shouldn't be able to confirm the reorganization plan because it does not follow 1129(a)(7). 

That sounds like a solid argument. 

There's a "but" coming, now, though.

Okay, tell us about that "but."

The plan for Chrysler is to have a 363 asset sale before the confirmation of the Chapter 11 plan. Chrysler will ask to hold an auction for their most desirable assets and the court will conduct a sale. The new Chrysler corporation will buy those assets for $2.25 billion, and what's left for the bondholders and the rest of the creditors is that pool of cash--$2.25 billion. 

So by using the asset sale strategy under Section 363, Chrysler and the government are basically making objections under 1129(a)(7) moot? The bondholders can't even use that clause to argue they are not getting their fair share?

Yes, the sale moots [that argument]. They will not be able to use that argument to block the sale. And all that will be left for them is the proceeds from that sale. That's it. This is what they get. 

So the process could go pretty quickly, considering Fiat is already on board. Is there anything the bondholders can do to upset this process? 

Yes. The strategy they would have to use--and the one I think they will use--is to object to the 363 sale from the outset. 

On what grounds can they do that?

They will have to argue that it's not actually a sale--that it's an end run around their rights under 1129(a)(7)--that this not a sale, but rather a reorganization plan disguised as a sale.

Could that work? 

Well, I'm not their lawyer. But I would bet this is what their lawyers are telling them to do. This is certainly the argument I would be making if I were their lawyer. 

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