October 9, 2009 6:25 PM

The Coyotes Bankruptcy and the Meaning (or Lack Thereof?) of Chrysler

Posted by Zach Lowe

We were drawn to the Phoenix Coyotes bankruptcy case initially because, as a sports junkie, we wanted to see whether owners could use bankruptcy court as a way to relocate a franchise without the required approval of league owners. (Answer: Apparently not.)

But we're drawn back to it again because of what it might tell us about the way history will judge the superfast Chrysler and General Motors bankruptcies--both in terms of legality and the importance of their precedent for future cases. Lawyers from Skadden, Arps, Slate, Meagher & Flom--representing the National Hockey League in the Coyotes matter--brought in the Chrysler and GM precedents to support the league's plan to purchase the Coyotes, a plan that would pay all creditors in full except for the team's current owner and its former coach, Wayne Gretzky. The Skadden team, led by bankruptcy partner Gregory Milmoe, argued that Chrysler and GM stood, in part, for the idea that buyers of assets in bankruptcy can pick and choose which liabilities they take and which they leave behind in bankruptcy court.

As our readers surely recall, the great controversy surrounding the Chrysler bankruptcy was the plan, hatched by the U.S. government among others, to purchase Chrysler's best assets, form a new company, and give major creditors an equity stake in that company. The problem, according to bankruptcy experts, was that those creditors were getting something (equity), while creditors above them on the creditor totem pole would get virtually nothing. This, the experts said, was a clear violation of the bankruptcy code. (White & Case partner Thomas Lauria tried to hold up the sale on these grounds on behalf of an Indiana pension fund that held a tiny slice of Chrysler debt.)

Here's how Lynn LoPucki, a professor at UCLA Law School and one of the country's foremost bankruptcy experts, put it in a conversation with us in July: "What happened in Chrysler and GM was so outrageous and so illegal that until March of this year, nobody even conceptualized it." Critics feared the sales would set a bad legal precedent; that debtors would use them to cram through assets sales that were actually reorganizations of the same business--reorganizations which usually require greater protections for creditors. 

By invoking Chrysler and GM last month, the NHL's legal team made the Coyotes matter something of a test case for the auto precedents. And if we can draw one conclusion from Judge Redfield Baum's opinion last week in the case, it might be this: The cases may be such outliers that they will really create no precedent at all. They might be, as one pundit predicted to us this summer, the "Bush v. Gore of bankruptcies."

Milmoe barely got the word "Chrysler" out of his mouth before Judge Baum interrupted: "Let me say something about these two cases," Judge Baum said during the Sept. 10 hearing, according to a transcript. "You know, those two cases were so unusual that I'm not sure how helpful the precedent of those two cases is to this court or any court. When the United States government comes in and says, 'I'm going to buy' what at one time was the biggest company in America...I mean, I had to get a little smirk when I thought of that poor pension manager from Indiana who was trying to fight that. It was kind of like the gentlemen in Tiananmen Square when the tank came rolling."

And that was the last substantial mention of Chrysler and GM during the hearing, the transcript of which goes on for 333 more pages. (Milmoe declined to comment, saying it is inappropriate to comment on a pending case.)

But the lawyers opposing the NHL were ready with counterarguments anyway, and those counterarguments provide one of the strongest defenses we've seen of the Chrysler and GM bankruptcies as perfectly legal under the bankruptcy code. In his brief opposing the NHL's bid because of the league's refusal to pay Gretzky and the team's current owner, Thomas Salerno, an attorney for the Coyotes from Squire, Sanders & Dempsey, spelled out what he believes is a key difference between the NHL's bid and the U.S. government's purchase of Chrysler. In its bid, the NHL was proposing to buy the Coyotes with a chunk of cash (about $145 million) that would be distributed to the team's creditors--except for Moyes and Gretzky. Salerno argues that the league has no right to control the distribution of sales proceeds in this way, since it discriminates against certain creditors in violation of the bankruptcy code.

And that is different from what happened in Chrysler, Salerno says. Certain creditors (notably the United Auto Workers) did receive favorable treatment in that case. But they received it in the form of equity in the New Chrysler. (The UAW owns a controlling stake in New Chrysler.) And they received that equity because of new value they were contributing to that company in the form of loans, technology or various other arrangements. On the other hand, the pile of cash the buyers turned over in exchange for New Chrysler--that was distributed to creditors of Old Chrysler in precisely the right order demanded by the bankruptcy code, Salerno says.

"People talked about Chrysler and GM like we were seeing cats and dogs living together--that those cases subverted bankruptcy law," Salerno says. "But they didn't subvert bankruptcy law at all. The cash proceeds were distributed just as the code suggests."

And ironically, just as we began writing this post, we noticed an essay in The New York Times from Jones Day partner Corinne Ball--Chrysler's lead counsel in the Chapter 11 case--in which Ball makes precisely this argument. (She did not immediately respond to our request for comment.)

So that's the verdict from the Coyotes case: The Chrysler and GM bankruptcies were legal, and they have virtually no importance as precedents.

Some of the critics remain unconvinced. LoPucki and others we talked to still believe Chrysler and GM were reorganizations disguised as asset sales, a violation of the bankruptcy code dubbed a "sub rosa plan" that offers creditors fewer protections than a normal plan of reorganization. But Salerno disagrees, and says the debate may not be that meaningful, anyway. "Chrysler and GM are extraordinary cases only applicable to themselves," he says. "This is the federal government trying to prevent the collapse of two of the largest businesses in the U.S. This isn't something you can move into the case of the Phoenix Coyotes or Joe's Bar and Grill down the street that's going out of business."

Photo: NHLI via Getty Images

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