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angusthermopylae (40.13)

Chrysler: The Long Con

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May 04, 2009 – Comments (6) | RELATED TICKERS: DAI

So, I was driving around on business last Thursday, and decided to pass the highway miles by listening to WLW 700 AM out of Cincinnati. 

(For those that don't know, WLW is a very Conservative radio station in a Conservative district.  One very smart man I know believes that WLW is also a Conservative testing ground, putting out Republican talking points to see how they play with the public.  Sort of like a weapons-testing ground, or a health monitor--if you want to know how the Republican leadership will be reacting on any particular issue, WLW is where you would stick the thermometer.)

By pure happenstance, the station was broadcasting President Obama's Chrysler bankruptcy speech live.  Immediately afterward, the talk show host had commentary, call-ins, and a surprising number of experts who were ready to refute various points in the President's speech.

Basically, the Conservative spleens were vented along basically three lines:

  1)  The President and the government were in violation of contract law because the government cannot interfere with valid legal obligations of a company...in this case, saying who should and shouldn't get paid out of the Chrysler bankruptcy.

  2)  Bondholders (those who directly lent Chrysler money) are the primary individuals who have standing to file suit against the government over this bankruptcy.  (The funny thing was, WLW's expert was very careful in his phrasing.  He didn't say, "Go out and sue the pants off the government."  He simply said, "If I were one of these bondholders, as soon as I found out that I was getting $500 for a $10,000 bond, I would head to court and sue."  I believe he was a former judge...)

  3)  This is going to take a lot longer than the President stated, because every individual person and company can demand and get a hearing in bankruptcy court on his issues.

I say "surprising number" of experts because it appeared they were ready.  To my poor layman's ears, it sounded a lot like a battle plan and the groundwork for an election-year issue...

...but I think they are wrong...

Wrong How?

Let's start with a very simplistic view of Chapter 11.  The company in question finds itself unable to pay its debts.  It files for bankruptcy, saying, "We can continue to operate, but we need relief from this mountain of debt...we can't pay all of our bills, but we can pay (some) of the important ones."

So, the court starts to either arrange negotiations or make judgements on who gets paid and how much.  Basically, they prioritize.  First in line may get something like 75% of what's owed, next in line may get 60% or less, the next group 30-40%, and so one. 

Of course, that means that whoever is last gets nothing.   Yes, they can argue, cajole, threaten, and so on, but once the bankruptcy plan is finalized, there's not much they can do.

Who does the negotiating?  It kind of depends.  From my understanding, the company is placed in receivership; that is, control is given to a party who can or should act in the best interests of all parties involved.  In fact, the owners of the company can even maintain control (debtor-in-possession), if the court approves...and other major parties agree...

So here's why I believe the first two Conservative points are wrong:  The US Government is an investor in/owner of/lender to the company.

Think about it...when the representatives of Chrysler are standing before the bankruptcy judge, who is going to be attending that court session with them?  First of all, it will be other "owners"...people who invested in the company.  And with over $6.9 billion in investment/loan/bailout, you can be absolutely positive that an attorney representing the US government will be there...and backing the play of the Chrysler representatives.

Next will be the lenders--those who are owed money by Chrysler.  Surprise!  The government has standing on this, too.

What about pensioners?  That's taken care of easily--since retirees were all union workers, the UAW can rightfully claim to represent them.  They can put their weight behind fighting off the legendary "hedge funds" who are trying to get paid the money they were owed.  After all, the UAW seems to be getting a 55% stake in the company if everything goes according to plan, right?

Thus, to directly refute the points brought up on Conservative radio (and repeated here), it's my belief that the following will happen:

  1)  When someone tries to raise the spector of "interference of contracts", the government, Chrysler, and the UAW will all say, "No, the Government is an investor, which makes them a direct party to all negotiations...and they obviously have the best interests of the country at heart."  How does a court go against that?

  2)  When direct lenders (bondholders and hedge funds) complain that they are getting unfairly screwed by the proceeding, the Fed's attorneys will point out that the US government is also a lender (an even bigger one than the complainers), and they think things are fair and equitable....

  3)  When a party tries to demand a hearing on their particular issues, you can bet a team of US attorneys will be looking over, and fighting, every issue that could severely delay the emergence from bankruptcy...because a quick emergence from bankruptcy in the interests of a couple of major investors and lenders, namely the UAW and the US Government.

So What's the "Long Con?"

russiangambit, a CAPS player I follow and greatly admire, gave me the biggest clue to this in February in this article.  To quote:

So, finally, the government realizes that the loans are not going to get repaid. Did anybody honestly think otherwise? And the government is behind the banks in line.

The same banks the government just also gave billions of dollars in loans.

This is from February 9 of this year...almost three full months ago.  Chrysler execs were publicly decrying how horrible a bankruptcy would be...yet at the same time, the road for a smooth bankruptcy was being laid.  In my points above, I said that it will be the US and its attorney's arguing in court; it could just as easily be Goldman Sachs (who got bailout money), Citigroup (who also got money), or JP Morgan (guess what they got?)  Yes, they are independent companies, but they have a lot in common--and I'm not the only Fool to think so...and it's funny how the government seems reluctant to get repaid the bailout money, no? 

Along those lines, what about the banks/lenders who aren't going along with the plan?

So, here's the "Long Con" I referred to:  Even though, publicly, auto execs were asking for bailouts to avoid bankruptcy, they were planning on using the fact of those loans to their benefit during bankruptcy proceedings.

How Does This Help?

It's entirely possible that I'm completely off base here...it wouldn't be the first time.  On the other hand, if any of this is true, then it severely changes the landscape for investors:

--No heads on a stick:  If, indeed, there were plans to make this happen all along, it's doubtful that there will be any regulatory bad news out of Chrysler...at least as long as "the deal" is unfolding.  Executives will either keep their jobs or get envious golden parachutes.  After making concessions, the UAW will probably have smooth sailing for their next set of contract negotiations.  The major lenders mentioned above will probably get glowing reviews from the stress tests...as long as they are helpful during the Chapter 11 proceedings. AIG, anyone?

--GM negotiations will "suddenly" make progress:  GM got an extended deadline to June 1 for a plan.  If the reorg of Chrysler runs fairly smoothly, expect GM to submit a plan early...which will probably get torn apart...and GM will end up filing for bankruptcy under pretty much the exact same terms (and proposed outcomes) as Chrysler.

--The major banks (GS, JPM, C) will get a "better than expected" payouts:  This will make the banks look good, and will reward investors in those banks...even though it's a one-time deal.  Unless that sky starts falling, expect lots of good news regarding banks and Chrysler in the next 30 days.  My tinfoil hat tells me that the banks need to ride a wave of good publicity for the next 2-4 months...by which time they believe they will have passed beyond the crisis.

And the Individual Investor?

For the little guy, it's a hard call:  Do you believe in a vast conspiracy amongst major institutions (and try to make plays to get bites from the table), or do you believe it's all circumstantial and random?

If there aren't deep, unpublicized undercurrents to the situation, you wait on the major financials to see how they come out.  The banks may rise, the banks may fall...they may even just move sideways, buffeted by various economic and earnings reports.

If, however, there is something more..."structured"...going on, then it's possible to jump ahead of the crowd...both in and out.  You'll be joining the dance with a lot of people who are bigger, stronger, and (arguably) meaner than you, but it's an opportunity that comes along very, very rarely...if you have the nerve.

As for me, I'm just going to sit back and watch the show; my weight class is way to small for this crowd.

6 Comments – Post Your Own

#1) On May 04, 2009 at 7:04 AM, moerequity (< 20) wrote:

You forgot one major point. There is a difference between secured and unsecured. Bond holders are secured and if the judge is doing his job, will take this into account.

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#2) On May 04, 2009 at 8:37 AM, rd80 (98.18) wrote:

I haven't been following this closely, but my understanding is the bond holders primary complaint is the offer for their senior claim is less than what some claims junior in the capital structure are being offered.

Using your simplistic bankruptcy example, in this case the first in line are being offered 35%, second in line 65%,...  Those numbers probably aren't correct. 

If the administration really wants to freeze up corporate credit markets, putting debt's position in the capital structure into question should do the trick.

Good post.

 

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#3) On May 04, 2009 at 3:21 PM, angusthermopylae (40.13) wrote:

rd80

I believe that you are correct (as moerequity also pointed out); the "plan" doesn't follow strict interpretations on who gets what percentage owed to them...

...but that's kinda my point--if negotiations included a reordering of payments (based on who will help the company, who will get a bigger chunk *cough*UAW*cough*), then all that's needed in court is for the backers of the plan to put up a united front..."for the common good."

I'm just a layman...I'm hoping that we have an attorney who might be interested in commenting...

...alstry, you around anywhere?

 

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#4) On May 04, 2009 at 7:50 PM, angusthermopylae (40.13) wrote:

Case in point:  The Judge Gonzalez made the decision to approve the $4.5 billion in bankruptcy financing...money which apparently was predicated upon the sale to Fiat...and placed the UAW and others over the "secured" lenders.

As I said, this is going to look easier than opponents are saying.  Why?  Because the entire bankruptcy has been pre-planned, much like a choreographed dance.

I'm neither endorsing nor blasting these proceedings and how they are going to play out...but it's the environment we are working in as investors.

I wonder if GM will find its investors suddenly bailing in the final days before they file for bankruptcy...(if they do)?

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#5) On May 04, 2009 at 8:38 PM, alstry (35.88) wrote:

I have commented on this situation in the past.....calling it masturbation negotiation.

The government funds chrysler......the government funds the creditors...the banks.  In the end, the government is negotiating with itself and  entering bankruptcy simply allows the government to extinguish contracts in a more politically acceptable environment.  It is just taking from one hand and giving to the other.......and both hand belong to the same person.....you the taxpayer.

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#6) On May 06, 2009 at 2:02 PM, catbert234 (91.62) wrote:

The most troubling thing about the Chrysler bankruptcy to me is the fact that the hedge funds that purchased were responsible for the largest new debt burden on Chrysler -- the straw that broke the camel's back.

I continue to question the value of LBOs to the economy in general.  As a stockholder, I would much rather hold stock in a viable company that pays me back in long term dividends and continuously appreciating value than take a short term windfall. The end result of an LBO is almost always one of the purchased company forced to service a mountain of debt, with a struggling balance sheet and need to "cut costs" -- not because they ran their business poorly, but because the new debt is the financial equivalent of cement overshoes.

Perhaps if the required ratio of debt to equity on buyouts were raised substantially (perhaps 60% equity on deals valued greater than $500 million), then we wouldn't see what we're seeing today.  If the end result is that there wouldn't be any LBOs, so much the better.

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