Saturday, May 02, 2009
Why I celebrate Chrysler's petition for Chapter 11 reorganization
Count me as one person entirely unsurprised to read that representatives of the Obama Administration were making outrageous and improper threats to the Chrysler bondholders whose refusal to capitulate ended up in Chrysler's Chapter 11 filing. White & Case bankruptcy lawyer Tom Lauria gave a radio interview to Detroit talk radio host Frank Beckman, portions of which are transcribed here, in which he said:
One of my clients was directly threatened by the White House and in essence compelled to withdraw its opposition to the deal under the threat that the full force of the White House Press Corps would destroy its reputation if it continued to fight. That’s how hard it is to stand on this side of the fence.
Beckman: Was that Perella Weinberg?
Lauria: That was Perella Weinberg.
And Obama himself actively participated in the shakedown:
Peter A. Weinberg and Joseph R. Perella are part of a band of Wall Street renegades — “a small group of speculators,” President Obama called them Thursday — who helped bankrupt Chrysler.
That, anyway, is the Washington line.
In fact, Mr. Weinberg and Mr. Perella, with sparkling Wall Street pedigrees, are the epitome of white-shoe investment bankers. And their boutique investment bank, a latecomer to Chrysler, played only a small role in the slow-motion wreck of the Detroit carmaker.
But now the two men, along with a handful of other financiers, are being blamed for precipitating the bankruptcy of an American icon. As Chrysler’s fate hung in the balance Wednesday night, this group refused to bend to the Obama administration and accept steep losses on their investments while more junior investors, including the United Automobile Workers union, were offered favorable terms.
In a rare flash of anger, the president scolded the group Thursday as Chrysler, its options exhausted, filed for bankruptcy protection. “I don’t stand with those who held out when everyone else is making sacrifices,” Mr. Obama said.
Chastened, and under intense pressure from the White House, the investment firm run by Mr. Weinberg and Mr. Perella, Perella Weinberg Partners, abruptly reversed course. In a terse statement issued shortly before 6 p.m. Thursday, Perella Weinberg Partners announced it would accept the government’s terms.
It was too late.
What made Perella Weinberg ultimately give in, when others like Oppenheimer Funds refused? One word: Vulnerability (emphasis mine):
Representatives for Perella Weinberg, which is advising the government on a wide range of banking issues, initially defended the firm’s decision to rebuff the government’s offer.
(Recall that I blogged on March 26 of this year about the odd fact that Obama's chief of staff, Rahm Emanuel, had earned somewhere between $16-$20 million in something between two and three years as an investment banker at Wasserstein Perella & Co. when the Clinton Administration went into exile in 2001, even though Emanuel had zero education, training, or experience as an investment banker or any sort of businessman. And yes — that's the same Perella; he'd moved on to Morgan Stanley by the time Emanuel was at Wasserstein Perella & Co., but it's such a small world, isn't it?)
Glenn Reynolds and Ed Morrissey note the White House press corps' silence — which might be read to imply acquiescence — about being used as part of this threat. And I agree that that's an interesting facet of the story.
The bigger story, however, is that the Obama administration is engaged in a colossal abuse of power whose magnitude far exceeds a mere subversion of the White House press corps. Barack Obama has become Guido, the thug who everyone knows has not only a nasty habit of, but a nasty taste for, breaking kneecaps. And the beneficiary of his current shakedowns are the United Auto Workers.
Obama is counting on the fact that many, probably most, Americans don't know or care about basic principles of corporate finance. But the fact is that all investments — stocks, bonds, notes, commercial paper, CDs, demand deposits, mutual fund shares, whatever — are legal contracts whose very nature is defined by the way they structure and allocate risk of default and prospect for profit.
On the simplest level, for example, in general, people who buy equity in a business, typically by purchasing shares of its common stock, have the greatest potential upside if the business is profitable because they're buying a percentage interest in it, and if the pie keeps getting larger, so too will their slice of the pie. Someone who instead merely loans money to that business — by buying, for example, notes or bonds or debentures that are, at bottom, fancy IOUs — generally forgoes that upside potential, and instead takes only a promise for repayment plus some specified and limited amount of interest. But in general, those who invest by loaning money to businesses also have less risk, because in bankruptcy proceedings — again, speaking on the broadest of terms, and as a general rule — creditors who are owed money by the bankrupt company's estate are ranked, and then paid or otherwise accommodated, before any equity owners (shareholders) get anything. And as a consequence, it's very typical for creditors to get pennies on the dollar, perhaps plus some shares of equity in a reorganized "new" post-bankruptcy company, while the shareholders have been wiped out completely.
And among creditors, there are also rankings. Those who've insisted upon and gotten collateral for their loans — making them "secured creditors" — generally forewent higher interest rates in exchange for the pledge of that collateral. Those who have no collateral, but merely a general, unsecured claim for repayment, are "unsecured creditors." They relied only on the company's general credit-worthiness and, to a lesser extent, the better treatment that even general unsecured creditors get in bankruptcy as compared to equity holders.
I repeat, this is all basic to the entire system of business investments. If these core principles are disturbed, there will be no more capital markets — no ability to buy shares of stock or corporate bonds, no way for growing companies to expand by selling equity or taking on debt.
What the Obama Administration has been trying to do, however, has been to cajole or — it's now becoming more clear — threaten people who carefully bargained for less risk, and who thereby had to settle for lower rewards all along, into voluntarily forfeiting the protections they bought and paid for in the event of the underlying business' insolvency. Primarily through Chrysler's pension and retiree health-care obligations, the UAW is a creditor of Chrysler, but one whose position is less favored by the bankruptcy laws than the investors (debt holders) represented by companies like Oppenheimer Funds or Perella Weinburg. Unlike the UAW, their clients negotiated, bought, and paid for the rights not to have to have to make the same "sacrifices" that equity holders or general unsecured creditors would be compelled to make under the bankruptcy laws. But Obama insists — on pain of presidential demonization and worse — that these so-called "renegades" and "speculators" (who've actually been guilty of nothing other than greater prudence) make those sacrifices anyway, and that they do so specifically in order to benefit the UAW!
This goes beyond populism or pro-unionism. Barack Obama is engaged in an assault on not just the entire system of business in the free world, but on the American rule of law upon which it is founded. And that, gentle readers, is why I celebrated Chrysler's Chapter 11 filing. Instead of backroom deals made through strong-arm tactics, whatever happens now will take place under the disinfecting sunlight of the United States Courts. And that will, in turn, help frustrate Barack Obama's scheme.
Oh, I fully expect that even in bankruptcy court, the Obama Administration will continue to work hard to tilt the playing field to favor the UAW and to disfavor everyone else. It will continue to at least try to call most of the shots as Chrysler struggles toward a reorganization plan. And it's not inconceivable to me that Obama will try to enlist Congress' cooperation — custom "tweaks" of the Bankruptcy Code — in an effort to do so.
But it's going to be harder for the Obama Administration to continue making these unconscionable threats now that there is at least some due process structure that must be followed. And while the federal government is frequently involved in one way or another in bankruptcy proceedings, I can confirm to you from personal experience that it doesn't always get its way there. (But that's a long story I'll save for another day.)
UPDATE (Sat May 2 @ 8:00pm): As has often been disclosed elsewhere on this blog and on my professional website, although bankruptcy court litigation has been only an occasional part of my practice, I was a litigation partner at Weil, Gotshal & Manges from 1989-1991. WG&M has long represented General Motors; I did trivial amounts of work for GM when I was at WG&M; and WG&M will likely be its bankruptcy counsel when and if GM also files for Chapter 11 protection. Oppenhemier & Co. was also a WG&M client when I was there, and I represented it from time to time on non-bankruptcy related matters. But I don't currently represent anyone with an actual or potential interest in either the Chrysler or (potential) GM bankruptcies, and my current practice mainly focuses on representing small businesses — some of whom are debtors and some of whom are creditors, but all of whom respect and abide by the rule of law that Barack Obama is trying to undermine.
UPDATE (Sat May 2 @ 8:45pm): Count the usually sane Steven Pearlstein of the WaPo as one of those blood-thirsty fans who are cheering Guido the Kneecapper from the galleries (emphasis mine):
The creditors are right when they say that Obama offered a sweetheart deal to Chrysler's employees and retirees, who as unsecured creditors would have stood in line behind banks and hedge funds in a liquidation and would probably have received nothing. It's also true, as the unhappy creditors point out, that it was the above-market wages and benefits negotiated by the United Auto Workers that helped to bring Chrysler to the brink of bankruptcy in the first place.
But those arguments are really beside the point. If the U.S. government wants to lend billions of dollars to help save the jobs, pensions and health benefits of hundreds of thousands of workers, that is certainly its prerogative. And it doesn't have to extend the benefits of that bailout in equal measure to the banks and hedge funds that stupidly lent $6.9 billion to finance a highly leveraged buyout of a long-troubled automaker.
Shorter version: Screw the law, screw your contracts, screw what's fair and who's to blame we won. Now Pappy Obama is gonna give and give to the UAW, using a combination of tax dollars (just a bit), deficit spending (quite a bit), and money that, by law and all the rules upon which our business system was built, should go to people who loaned money to Chrysler when no one else would, but on terms that were supposed to protect them from this kind of thuggery.
Disgusting. And tragic.
[W]hen did it become the government's job to intervene in the bankruptcy process to move junior creditors who belong to favored political constituencies to the front of the line? Leave aside the moral point that these people lent money under a given set of rules, and now the government wants to intervene in our extremely well-functioning (and generous) bankruptcy regime solely in order to save a favored Democratic interest group. [That's exactly the moral point Pearlstein, quoted above, honestly but eagerly discarded and then defecated upon. Beldar]
No, leave that aside for the nonce, and let's pretend that the most important thing in the world, far more interesting than stupid concepts like the rule of law, is saving unions. What do you think this is going to do to the supply of credit for industries with powerful unions? My liberal readers who ardently desire a return to the days of potent private unions should ask themselves what might happen to the labor movement in this country if any shop that unionizes suddenly has to pay through the nose for credit. Ask yourself, indeed, what this might do to Chrysler, since this is unlikely to be the last time in the life of the firm that they need credit. Though it may well be the last time they get it, on anything other than usurious terms.
The reason I think they might be simply naïve is that unless the Obama Administration's desires and efforts are indeed checked by the disinfecting sunlight of the bankruptcy court and the rule of law, not even someone permitted (contrary to law) to lend money to Chrysler on usurious terms will do so. If the federal government can get away with stripping your creditors of all of their contractual protections collateral-smatteral! hah! to effect a massive transfer of wealth from them to the government's current favorites, then it doesn't matter if you're paying 50% or 150% interest per annum: No one will lend any money on any terms.
I'm wondering if Ms. McArdle (who I adore as a fine writer and a fine thinker, a libertarian economist of the first rank) is still laboring under the delusion that the Obama Administration gives a rat's patoot over the "long term" or the "integrity of the marketplace" or the "rule of law." Her point is entirely valid, just as it would have been entirely valid to lecture John Dillinger on how he and his loved ones would ultimately be better off living in a society whose would-be bank robbers restrained their inclinations and instead worked hard and invested for the long term. But valid doesn't mean effective, and that argument wouldn't have worked on Dillinger. It won't work on
Guido the Kneecapper Obama either, because there are still massive amounts of loot yet to be redistributed from those who've earned it to those who merely want it (and can be relied upon to vote a straight Democratic ticket).
Doesn't Ms. McArdle understand? Obama won. If he and his friends at the UAW had any care for the long term and the national good, they wouldn't have methodically killed the golden goose that was supposed to fund all those pension and health care obligations in the first place.
Other weblog posts, if any, whose authors have linked to Why I celebrate Chrysler's petition for Chapter 11 reorganization and sent a trackback ping are listed here:
» Chrysler Bankruptcy the Rule ofLaw from Bejohngalt's Blog
Tracked on May 4, 2009 5:26:39 PM
(1) DRJ made the following comment | May 2, 2009 5:51:54 PM | Permalink
Who would have imagined that a bankruptcy attorney would be on the front lines of protecting the rule of law? It's a good example of why every lawyer, just like every person, matters.
(2) DRJ made the following comment | May 2, 2009 5:52:30 PM | Permalink
And thank for your taking the time to explain why this matters, Beldar. Well said.
(3) JM Hanes made the following comment | May 2, 2009 9:47:29 PM | Permalink
I haven't seen the Emanuel/Perella connection mentioned anywhere in the press! I put it in a comment over at Jake Tapper's Political Punch blog, along with a reference to your site. He's one of the people who would actually pose the questions that need to be asked. I couldn't find an actual email for him anywhere, but there are members of the press who do not belong to the enchantment club and will challenge the White House if they've got the ammunition. Every piece of the puzzle is incredibly important. I share your immense concern about this assault on both enterprise and law.
(4) Michael J. Myers made the following comment | May 2, 2009 11:04:11 PM | Permalink
The "banks and hedge funds that stupidly lent $6.9 billion to finance a highly leveraged bailout of a long troubled automaker" won't make that mistake again--ever.
I know that banks and hedge funds have been successfully demonized. But lenders and sources of credit are important in keeping the economy moving. And right now Team Obama has made it quite clear that they don't much care about contracts, or allowing them to be enforced. Now Team Obama may like that result in that the government will become not only the "lender" of last resort, but the only lender.
This is dangerous stuff; and it may well be that Obama would like to see himself as the new Peron. He's certainly taking care of the labor unions, has a virtually captive press etc--and will destroy the economy of the USA to get his way, just as Peron destroyed the economy of Argentina. In the meantime, we'll all become descamisados.
Props from a fellow Houstonian, and a UH finance prof. I give your post full marks. Obama's personal attempt to subvert contractual rights and due process in an attempt to favor a political constituency is unconscionable. And, it will have the perverse effect of raising the cost of capital, especially to firms deemed to be politically vulnerable, with the effect of depressing growth--and wages.
I've written a post with a similar, and complementary, analysis at Streetwise Professor blog. The Chronicle linked to this piece.
PS. You might want to check out my oped on another controversial subject--concealed carry on campus--in today's
That would be . . . in today's Chronicle.
(7) Aubrey made the following comment | May 3, 2009 10:29:25 AM | Permalink
You are forgetting who owns the banks.
I must register a partial dissent on two points:
1. [minor]: Miss McArdle is not an economist, but a journalist who specializes in commentary on finance and economics. She has two degrees, one in English literature and one in business administration. Her actual course work in economics was likely less than that of at least one of your regulars. No, I am not an 'economist' and would correct anyone who would call me such a thing; yes, I am often distressed at Miss McArdle's refusal to assiduously examine even ordinary descriptive statistics which speak to (and sometimes discredit) points she is making. She is charming, in her way, however.
2. [major]: Debt for equity swaps and pre-packaged bankruptcy have been promoted by responsible parties (Dr. Luigi Zingales and Dr. Gregory Mankiw, to name two) as a ready means of recapitalizing the troubled financial concerns and the auto industry as well while avoiding full socialization of the costs of same as well as the spectre of a sovereign debt default. (My major complaint about both the administration and the opposition is their apparent refusal to consider statutory legislation that would prepare for debt-for-equity conversion).
Chrysler and General Motors are insolvent and the bondholders are not going to get all of their money back and they just have to deal and the bond market will have to incorporate its sense of the probability of these 'credit events' in its pricing no matter what occurs. Presuming the company has a negative book value, the current equity holders could be properly dispossessed and ownership of the company transferred to its creditors. Question, provided that legislation was prepared which made provision for this, what would be your objection to re-conceptualizing Chrysler's permanent employees, pensioners, and insurance beneficiaries as 'creditors' of a sort. You would have an imposition of wage reductions, pension reductions, and deductables imposed on same. The discounted present value of the reductions would be compared to that of the debt service obligations on the companies bonds and long-term bank loans. You distribute shares in the re-organized concern accordingly. Do you object to debt-for-equity swaps, or just to the privileges Barney Frank et al in the Democratic Party wish to confer on the United Auto Workers?
Aubrey (#7): Point taken. If the Obama administration compels banks to make loans they otherwise wouldn't, though, we should find some new term to describe that, since it's certainly not a normal economic transaction. Maybe some word that starts with the letter "F" ....
Art Deco (#8): I don't oppose either debt for equity swaps or pre-packaged bankruptcies as a general proposition. I don't oppose hard-nosed negotiating either. I'm not a workout specialist by profession, but I've certainly been involved in lots and lots of big-ticket litigation that has arisen out of workouts, as well as litigation that has itself threatened to put a litigant into bankruptcy and therefore triggered workout negotiations as part of a litigation settlement.
And I believe, in general, in expending time and effort on attempts to structure a voluntary workout, outside the bankruptcy court. Once the petition is filed, certain options disappear, and transactional costs necessarily skyrocket. It's entirely appropriate for all the stakeholders -- and in this situation, because of the bailouts, the federal government has made itself a stakeholder -- to have a seat at the pre-petition negotiating table. It's fine to tweak the structures of a proposed workout to try to bring objectors on board; it's fine to argue hard to try to persuade them that a proposed workout is better than the bankruptcy alternatives, and that everyone's best interests will be served by agreeing to the compromises under discussion. When those compromises rationally relate to the various parties' potential risks and strengths were a bankruptcy to be filed, that metaphorical arm-twisting can be very persuasive. Something like that may still be worked out for GM to keep it out of bankruptcy (although I doubt it).
But I oppose representatives of the POTUS abusing their power by making improper threats or promising improper inducements. Threatening to destroy the reputation of other negotiators through manipulation of the White House press corps is illegitimate -- and only a step away from threatening those other negotiators with, say, IRS audits or arrest on trumped-up drug charges.
And I oppose Barack Obama attempting to deliberately mislead the American public by demonizing and falsely portraying anyone who's had the gumption to refuse to knuckle under to his threats. I oppose the subversion of the rule of law and the sanctity of the contractual principles upon which the capital markets are built, especially when it's to benefit a favored set of voters/contributors at the expense of both other participants in the negotiations and the federal fisc.
I frankly doubt that Chrysler can be, or should be, reorganized, and I suspect that it should instead undergo as orderly a liquidation as is possible. But perhaps my doubts and suspicions are wrong and someone can come up with a workable plan to reorganize its business within the framework of the existing law and without Barack Obama's thumb on the scales. They deserve a chance to try.
Chrysler's past and present employees don't need to be "reconceptualized"; they already are creditors to the extent Chrysler is contractually bound to make future pension and health-care payments. But they're unsecured creditors, down near the bottom of the ranks of the debt-holders when all claims are categorized and ranked. It's conceivable that, without any changes in the law, they'll still get something (pennies from a partial liquidation, perhaps junior equity in a post-11 entity) for their unsecured claims -- in contrast to equity-holders, who are indeed effectively wiped out already. And if a plan can be crafted and confirmed, then in their capacity as employees, they may find some continued employment (although almost certainly on dramatically less attractive terms and in fewer numbers). I'm not categorically against any of that, either, despite my doubts as to its feasibility.
Secured creditors should do better in any reorganization, though, just as they'd do better in a liquidation. They bought and paid for the right to that better treatment when they made their investments. And that doesn't make them wicked, it doesn't make them renegades, and it doesn't make them unpatriotic. They're not going to be made whole, or even very close to whole, under any scenario. But they deserve to be treated under the rule of law, and they deserve not to be threatened with improper collateral consequences from abuse of political power.
(10) Gregory Koster made the following comment | May 3, 2009 9:37:27 PM | Permalink
Dear Mr. Dyer: Is The One a) wicked or b) stupid? You've plumped for a) but I still maintain there's plenty of space for b) to be true. The One has had an easy journey through adult life, and has never really had to question his own notions. He'd wave off Megan McCardle's question as inconsequential and irrelevant. When the blowup comes, reflexively he'll blame it on his enemies, keeping himself blameless. This isn't the action of intelligence. This is a dummy keeping his own shields up while consigning anyone who trusts him to the alligator pit. Those who bawled hosannahs to The One last fall (and still do ) are in for some expensive lessons. They are in a majority, however, so all the rest of us can do is laugh loudly. The alternative is too painful to consider, not to mention futile.
As for the "rule of law" it's been kicked around until it doesn't mean much. See: Stevens, Ted, a scoundrel if ever there was one, who nonetheless was railroaded by the Bush Department of Justice. Where are the railroaders now? Not in jail, I can assure you. Will they ever end up there, where, next to hell, they belong? Maybe. Want to forecast on when the cell doors clang shut behind them?
On the larger point, what sort of "rule of law" is the TARP program? Note that TARP was galvanized to life by that Frankenstein, Geo. W. Bush. Or all the other bailouts? What sort of rule of law does Hank Paulson or Tim Geithner stand for? Think they'll end up in the klink for all their shenanigans? The question answers itself. In a way, this will be a good lesson for all of us, showing the basic malevolence of government, no matter what party controls it. Is government necessary? Likely so. But evil? Oh yes. This lesson is easily forgotten. The One will teach it to a new generation. The tuition will be appalling.
(11) Aubrey made the following comment | May 4, 2009 12:24:13 AM | Permalink
BTW, I forgot earlier to thank you for the primer in corporate finance. My course in this was about 40 years ago and I needed the refresher.
There is a lot of "He who has the gold makes the rules" in this. The reality is that the gold is borrowed, primarily from the Saudis, the Chinese and the Japanese. Japan is a competitor and I think the Chinese would like to be. The Saudis supply at least some of our fuel (less than most people think, but enough so they have an interest in our auto industry). I would be surprised that if the companies survive this crisis but begin to suck up lots of additional money they don’t become very interested. In the case of Japan and potentially China, we would be asking them to subsidize a competitor. In the case of Japan, maybe we are already.
(12) Aubrey made the following comment | May 4, 2009 1:14:43 AM | Permalink
The gold I refer to above is the government's gold.
(13) Aubrey made the following comment | May 4, 2009 6:47:12 AM | Permalink
Could the Administration’s casual attitude toward the rights of bondholders have an impact on the cost of borrowing for the United States? Bond purchasers are surely already concerned about potential inflation, now they have to be worried about indifference to the T&C’s of the bonds themselves.
(14) Whitehall made the following comment | May 4, 2009 4:34:06 PM | Permalink
Partly to blame is that fuzzy concept - "stakeholder."
It's been floating about politicized businesses for decades now and usually means political intervention potential as is the Sierra Club being a stakeholder in a utility's decision process for wooden power poles.
Here, the employees' union is a stakeholder with little sense of responsibility but lots of political intervention capacity.
(15) Mark L made the following comment | May 4, 2009 8:29:45 PM | Permalink
What is really scary about this is the probable consequence if Obama succeeds in looting the secured creditors. It will make it significantly more difficult to start or expand a major corporation.
These secured creditors are one of the major sources of capital. Bonds (secured credit) and stocks are how you get the money for expansion. The stock market is in the toilet, and will stay in the toilet until the economy improves. That leaves secure credit as the major way to get capital in today's economy. But what type of numskull will put money into bonds for an at-risk corporation, when the lien does not matter, and you have to settle for pennies on the dollar, if the company goes south.
I'll give everyone a clue -- not the type of person with the money to invest or the smarts to manage investing that kind of money. You are better off putting it in passbook savings, broken down to FDIC limits. And there are plenty of other, safer places for your money. That means job growth among major corporations will be stagnant -- or even negative, as badly-run companies shed workers while solid companies cannot find capital with which to expand.
Throw in that small businesses -- especially sole-proprietorships, where earnings are taxed as personal income -- are dialing back due to tax policies. If a small businessman can get almost the same net income by working 40 hours a week as by working 70 hours (because of confiscatory taxes above $150K or $250K) what incentive do they have to keep the business open longer hours. Especially since by reducing hours they reduce the employees they need, which reduces paperwork and overhead. Small businesses are the engine of the economy.
What does that give you? It's that '70s show -- stagflation and high unemployment. Or worse -- we will be back to 1936.
Well folks, It may not be the change you wanted, but this is the change you voted for.
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