Implications of the sale of Chrysler

This post is based on a client memo from Donald S. Bernstein and Marshall S. Huebner of Davis Polk & Wardwell.

In an important ruling issued on Sunday, May 31, 2009, Bankruptcy Judge Arthur J. Gonzalez in the Southern District of New York approved the sale of Chrysler in exchange for two billion dollars in cash and the assumption of certain liabilities.[1]
[2]

In connection with approval of this sale transaction, Judge Gonzalez opined on sub rosa challenges, the ability of a secured lender to object to a transaction if the administrative agent has consented, and the survival of tort claims after assets have been sold pursuant to section 363 of the Bankruptcy Code. The ruling makes it yet easier for debtors to consummate sales under section 363.

Background
On April 30, 2009, the date Chrysler filed for bankruptcy protection, Chrysler, Fiat S.p.A (“Fiat”) and New CarCo Acquisition LLC (“New Chrysler”), an acquisition vehicle formed by Fiat, entered into a Master Transaction Agreement (the “MTA”) in accordance with section 363 of title 11 of the U.S. Code (the “Bankruptcy Code”). Under the MTA, Chrysler would transfer substantially all of its operating assets to New Chrysler, in exchange for two billion dollars in cash and the assumption of certain liabilities (the “Sale Transaction”). Upon consummation of the Sale Transaction, New Chrysler agreed, pursuant to the MTA, to issue stock to certain interested parties: 67.69% to an independent Voluntary Employee Beneficiary Organization (the “VEBA”) for the benefit of certain Chrysler employees and retirees, 9.85% to the U.S. Treasury, 2.46% to Export Development Canada (“EDC”) and 20% to Fiat.[3]

Objections
Among the objecting parties were: a group of pension funds from the State of Indiana (the “Indiana Funds”) objecting, inter alia, on the grounds that the Sale Transaction amounted to a sub rosa plan; certain Chrysler dealers objecting to the attempted rejection of their dealership agreements and arguing that state dealer protection laws are not preempted by the Bankruptcy Code; and various tort and consumer claimants objecting that their claims were not “interests in property” and that Chrysler’s assets could not, therefore, be sold free and clear of them pursuant to section 363(f)(5) of the Bankruptcy Code. Judge Gonzalez (i) distinguished a valid sale transaction under section 363 of the Bankruptcy Code (a “363 sale”) from a sub rosa plan, (ii) enforced contractual provisions that restrict a minority secured lender’s standing to object and (iii) ruled that tort claims are extinguished in a 363 sale.[4]

Court Denies that the Sale Transaction is a Sub Rosa Plan
The Indiana Funds argued that the Sale Transaction was an attempt to circumvent chapter 11 requirements for plan confirmation and, thus, was a sub rosa plan of reorganization. Judge Gonzalez, expanding on and clarifying prior case law,[5] ruled that it is not a sub rosa plan for “a debtor [to] sell substantially all of its assets as a going concern and later submit a plan of liquidation providing for the distribution of the proceeds of the sale,” if such proceeds both (i) exceed the value that could be received in a liquidation and (ii) go directly to the first priority lenders. Judge Gonzalez went on to state that the receipt of equity interests in New Chrysler by the VEBA, the U.S. Treasury, EDC and Fiat are the result of separately negotiated agreements with New Chrysler – including the unprecedented modifications to the collective bargaining agreement between the United Auto Workers and New Chrysler for the VEBA, the financing that the U.S. Treasury and EDC will provide to New Chrysler and the provision of small car technology by Fiat – and are not on account of any prepetition claims. As such, he ruled that there had not been an inappropriate attempt to divert sale proceeds away from the Indiana Funds or to affect anything other than a pro rata distribution of the proceeds to all first priority claimants.



Lenders Cannot Individually Exercise Rights if Contracted Away
In response to the objection of the Indiana Funds, Chrysler and other interested parties asserted that the Indiana Funds were party to a credit agreement (the “First Lien Credit Agreement”) whereby they had agreed to be bound by the action of a designated administrative agent (the “Administrative Agent”) on these issues. Moreover, the Court found that the liens were granted under a Collateral Trust Agreement that authorized the Administrative Agent to consent to the sale of Chrysler’s assets upon receiving the concurrence of a majority of the holders of the principal amount of loans under the First Lien Credit Agreement. That consent having been obtained, Judge Gonzalez ruled, again expanding on past precedent, [6] that the Indiana Funds had “contracted away their right to act inconsistently” with the actions of the Administrative Agent as directed by the requisite first-lien lenders.

Tort Claims are Extinguished in a 363 Sale
Judge Gonzalez drew on Third Circuit precedent [7] to rule that tort claims (e.g., environmental or asbestos liabilities) associated with assets sold in a 363 sale, including tort claims for future injuries, are interests in real property and, as such, are extinguished. He went on to clarify the issue further by ruling that even in personam claims, such as successor liability claims under state laws, are encompassed by section 363 of the Bankruptcy Code and are extinguished as well.

Future Implications
Judge Gonzalez’ rulings with respect to the various objections will likely have a significant impact on future 363 sales and plans of reorganization. This decision further undercuts sub rosa challenges, restricts individual secured lenders’ rights to object in bankruptcy and limits tort claimants’ rights to assert claims against the new owner of assets sold in a 363 sale.

This case may have additional far reaching implications, particularly in light of yesterday’s chapter 11 filing by General Motors. The extraordinary level of government involvement, from the announcement of the filing at a presidential press conference to the U.S. Treasury submitting a statement in support of the Sale Transaction, have set new standards for the U.S. government’s role in large bankruptcies. Such activity, particularly in paving the way for expedited approval of the Sale Transaction, may prompt other large companies teetering on the edge of insolvency to file in the hope that the government will step in to save them as well.

See a copy of Opinion Granting Debtors’ Motion Seeking Authority To Sell, Pursuant To 11 U.S.C. § 363, Substantially All of the Debtors’ Assets [Dkt. No. 3073], Chrysler LLC, et. al., Case No. 09-50002 (AJG), (Bankr. S.D.N.Y. Apr. 30, 2009), here.

See a copy of Order (I) Authorizing the Sale of Substantially All of the Debtors’ Assets Free and Clear of All Liens, Claims, Interests and Encumbrances, (II) Authorizing the Assumption and Assignment of Certain Executory Contracts and Unexpired Leases in Connection Therewith and Related Procedures and (III) Granting Related Relief [Dkt. No. 3232], Chrysler LLC, et. al., Case No. 09-50002 (AJG), (Bankr. S.D.N.Y. Apr. 30, 2009), here.

Footnotes:

[1] Generally, Chrysler LLC, et. al., Case No. 09-50002 (AJG) (Bankr. S.D.N.Y. Apr. 30, 2009). The debtors include Chrysler LLC and certain of its subsidiaries (collectively, “Chrysler”).
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[2] The effectiveness of the Sale Order has been stayed for five days until 12:00 noon E.S.T. on Friday, June 5, 2009. Chrysler has also filed a motion allowing for direct appeal of the Sale Order to the Second Circuit Court of Appeals.
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[3] Pursuant to the MTA, upon reaching certain milestones, Fiat’s interest will increase to 35% with the right to buy additional shares to bring its ownership interest to 51%.
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[4] Opinion Granting Debtors’ Motion Seeking Authority To Sell, Pursuant To 11 U.S.C. § 363, Substantially All of the Debtors’ Assets [Dkt. No. 3073], Chrysler LLC, et. al., Case No. 09-50002 (AJG), (Bankr. S.D.N.Y. Apr. 30, 2009).
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[5] See, e.g., In re Lehman Brothers Holdings Inc, et al., Case No. 08-13555 (JMP) (Bankr. S.D.N.Y. Sep. 15, 2008); In re BearingPoint, Inc., Case No. 09-10691 (REG) (Bankr. S.D.N.Y. Feb. 18, 2009).
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[6] See, e.g., Beal Sav. Bank v. Sommer, 8 N.Y.3d 318 (2007) (If, under the terms of a credit agreement, the administrative agent for a syndicate of lenders is given the power to enforce the rights and remedies of individual lenders, an individual lender in the syndicate lacks standing to enforce remedies.)
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[7] In re Trans World Airlines, Inc., 322 F.3d 283 (3d Cir. 2003).
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One Comment

  1. Eric Rasmusen
    Posted Thursday, June 11, 2009 at 10:03 am | Permalink

    I’m an economist thinking of writing an academic article on an issue in this case: whether the $2 billion price should have been allowed by the judge.

    This seems to me crucial. The judge answered “yes” under the reasoning that any price above the liquidation value of about $1 billion was reasonable. He didn’t cite any judicial opinions for that reasoning. Was this a case of first impression for that point?

    If we accept his reasoning, then whether the other creditors were pressured by the government is irrelevant, since the price they agreed to was reasonable.

    I don’t accept it. I don’t think the Indiana Pensioners were all that clear about it, but here is what their position ought to have been:

    1. The legal rule ought to be that a fair price in a 363 sale is a price that a Collateral Trustee acting faithfully to maximize creditor value would get.

    2. In a 363 sale, that price is never the liquidation value. If there is a competitive market, it is that market price. If there is just one potential buyer, it is the result of haggling between a Faithful CT and that buyer.

    3. The result of such haggling would ordinarily be somewhere about halfway between the liquidation value and the maximum amount the buyer would be willing to pay.

    4. In the Chrysler sale, such a price might be as high as $13 billion, halfway between the $1 billion liquidation value and the $25 billion book value of the assets.

    5. Since $2B is a lot less than $13B, the Collateral Trustee was not Faithful.

    6. The Collateral Trustee not being Faithful is good evidence that the 90%+ agreement by creditors was unpressured.

    Any thoughts on that? The “fair price” point would seem to be important to lots of bankruptcy cases.

One Trackback

  1. By ProfessorBainbridge.com on Wednesday, June 3, 2009 at 5:20 pm

    The Role of Bankruptcy Code 363 Sales in the Chrysler and GM Bailouts…

    A 363 sale played a key role in the speed of the Chrysler bankruptcy (to date) and is also about to be used in the GM bankruptcy: GM’s decision to also file for bankruptcy in New York was key because it allows the automaker to engage in a section 363 …

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