News Release: Faculty Experts, Finance and Economics, Law

May 1,  2009

Chapter 11 Best Solution for Chrysler, Says Bankruptcy Expert

Going into Chapter 11 bankruptcy has the potential to be a good solution in a bad situation for Big Three automakers Chrysler and GM, says bankruptcy expert Frederick Tung of Emory University School of Law.

 At this point, bankruptcy may be the only way these crippled carmakers can move forward, since bondholders seem unable to come to any agreement.

 "It makes perfect sense that the [Chrysler] bondholders were not going to come to a deal outside of bankruptcy," says Tung. "But for the government's involvement, none of the fully secured bondholders would give an inch, and they wouldn't have to in bankruptcy either. The only difference is the big debt holders are all getting squeezed by the government, which has invested lots of money in these big banks."

So with the so-called little banks, which aren't getting government money, unwilling to give up anything, "bankruptcy has the potential to be a good solution," says Tung.

In bankruptcy, it might be possible to put bondholders in different creditor classes, Tung explains. Creditors are classified in bankruptcy based on their substantial similarity.  Creditors in a class vote together and are paid the same consideration under a reorganization plan.

 "Arguably, the big bondholders who are getting government money are in a different position than the small bondholders because the big bondholders are to some extent beholden to the government," he says.

"If you separately classify bondholders, you can pay them differently," says Tung, meaning that small bondholders can be in a class that gets 95 or 100 cents on the dollar, and big bondholders can be in another class that will get the lower cents-on-the-dollar ratio they were willing to take before bankruptcy.

"You couldn't do that outside of bankruptcy," says Tung, "but with a filing that's a possibility." 

Fiat merger

Chrysler's entry into Chapter 11 won't necessarily stall its merger with Fiat, Tung adds. "There are lots of conditions on the merger, and one of them is that Chrysler has got to fix its capital structure." So going into bankruptcy might actually hasten the process of Chrysler reducing its debt and meeting the conditions for the Fiat merger.

GM going for "prepackaged bankruptcy"?

GM may have a similar bondholder consent issue as well, says Tung. "They're trying to get all of their bondholders to take less than 100 cents on the dollar. But getting the 90 percent approval from bondholders that's typically required outside of bankruptcy is a pretty hard trick. In bankruptcy, that fraction goes down to two-thirds, because it's a different voting rule. One reason a lot of companies go into Chapter 11 is that bondholder consent is easier to obtain in bankruptcy than out of bankruptcy.

If GM's bondholders are the last holdout in its effort to achieve a global settlement, and if GM can get two-thirds in dollar amount and a simple majority of its bondholders to agree to conditions beforehand, it can undergo a prepackaged bankruptcy, says Tung, which means it could go in and out of bankruptcy in only a couple of months.

Tung teaches and writes in the areas of corporate and securities law and bankruptcy, both domestic and international. He has served as a lecturer in law at Peking University, and has practiced corporate and bankruptcy law with Gibson, Dunn & Crutcher in Los Angeles and San Francisco


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