Fred N. David, Interpreting the Supreme Court's Treatment of the Chrysler Bankruptcy and Its Impact on Future Business Reorganizations

• Publication year: 2011

INTERPRETING THE SUPREME COURT'S TREATMENT OF THE CHRYSLER BANKRUPTCY AND ITS IMPACT ON FUTURE BUSINESS REORGANIZATIONS

Fred N. David^*

INTRODUCTION ................................................................................................ 27

I. BACKGROUND TO THE SUPREME COURT'S DECISION: FINANCIAL TROUBLE, RESTRUCTURING EFFORTS, AND BANKRUPTCY PROCEEDINGS ....................................................................................... 28

A. Chrysler's Road to Bankruptcy .................................................... 28

B. Chrysler's Capital Structure ........................................................ 31

C. Chrysler's Restructuring Plan ...................................................... 31

D. Chrysler's Bankruptcy Proceedings ............................................. 32

1. The Bankruptcy Court's Opinion ........................................... 33

2. The Second Circuit's Opinion ................................................ 36

3. Justice Ginsburg Orders Temporary Stay, Supreme Court

Vacates ................................................................................... 38

II. THE SUPREME COURT'S DECEMBER 14 OPINION ................................. 39

III. POSSIBLE EXPLANATIONS FOR THE COURT'S OPINION ......................... 40

A. Dismissing the Indiana Funds' Appeal for Mootness ................... 40

B. Rejecting the Second Circuit's Holding ....................................... 41

1. The Indiana Funds' Lack of Standing to Challenge the U.S. Treasury's Use of TARP Funds to Finance Chrysler's Asset Sale .............................................................. 43

2. The Misapplication of Sec. 363(b) and Its Requirements .......... 45

a. The Section 363(b) and Its Requirements ........................ 45 b. The Second Circuit's Application of Sec. 363(b) ................. 48 c. Analyzing the Second Circuit's Decision ........................ 50 i. Chrysler versus Braniff ............................................. 50

ii. Critiquing the Second Circuit's Application of the

Sub Rosa Plan Prohibition in Chrysler .................... 53

d. The Source of Disagreement Identified ........................... 59

IV. WHY DID THE COURT WAIT SIX MONTHS TO VACATE THE COURT

OF APPEALS? ........................................................................................ 59

A. Special Times Require Special Laws ............................................ 60

B. Avoiding Confrontation with the Political Branches .................... 62

V. THE SUPREME COURT AND SECOND CIRCUIT OPINIONS: PRECEDENT AND EFFECT ...................................................................... 64

A. Impact of the Second Circuit Opinion .......................................... 64

1. The Second Circuit Opinion as Precedent ............................. 65

2. The Second Circuit Opinion's Effect on Capital Markets ...... 65

B. The Impact of the Supreme Court's December 14 Ruling ............ 67

CONCLUSION .................................................................................................... 69

INTRODUCTION

On June 9, 2009, the Supreme Court terminated its stay of Chrysler LLC's ("Chrysler") sale of substantially all of its assets to a new entity, dubbed "New Chrysler," with the backing of European automaker Fiat S.p.A ("Fiat").¹The effect of that ruling was to permit the sale to close the next day, as well as bring an end to a chaotic period that determined Chrysler's future. Critics of the sale to Fiat, however, argued that the Supreme Court's ruling would also have a detrimental effect on secured credit and would further undermine the creditor protections normally afforded by chapter 11.²According to critics, the structure of the sale that the Supreme Court allowed-one that both the bankruptcy court for the Southern District of New York and the Second Circuit Court of Appeals expressly approved-permitted the debtors to subvert the absolute priority rule of Sec. 1129³and threatened to swallow the entirety of chapter 11.⁴The Supreme Court's refusal to prevent the sale served as a tacit endorsement of the legality of this sale structure.⁵

But the Supreme Court was not finished with the Chrysler case. In December 2009, the Court issued a brief and somewhat cryptic ruling vacating the Second Circuit's opinion upholding the bankruptcy court's approval of the sale to Fiat and ordering the court of appeals to dismiss the dissenting secured creditor's appeal as moot.⁶

What did the Court's December decision mean? What are its ramifications going forward? These are the questions this Article will answer. Ultimately, I conclude that the Court's December decision was an expression of its disagreement with the Second Circuit's interpretation of the requirements of

Sec. 363(b).⁷Thus, the Court rendered its decision to prevent the Second Circuit's opinion from having precedential effect in future bankruptcies.⁸Determining why the Court waited until six months after the Chrysler sale to deliver its decision is a more difficult question.

This Article is divided into five parts. Part I discusses the chain of events that led to Chrysler's sale and the Supreme Court's December decision. Parts II and III examine that decision and its possible interpretations. Part IV offers possible explanations for why the Court waited until the dust had settled in the automakers' restructurings before announcing its decision. Finally, Part V considers the effect of the Court's December decision on bankruptcy law and business reorganizations going forward.

I. BACKGROUND TO THE SUPREME COURT'S DECISION: FINANCIAL TROUBLE, RESTRUCTURING EFFORTS, AND BANKRUPTCY PROCEEDINGS

A. Chrysler's Road to Bankruptcy

The struggles of the U.S. auto industry came to a head in early 2009 amidst a global recession and the resulting tightening of both consumer and commercial credit markets. The lack of available funding significantly contributed to the U.S. auto industry's struggles.⁹Two of the largest American automakers, General Motors Corp. ("GM") and Chrysler, found themselves unable to obtain financing from private lenders.¹⁰They were only able to continue operating in late 2008 and early 2009 thanks to an infusion of billions of dollars from the U.S. government.¹¹For Chrysler, that funding came in the form of a $4 billion loan from the Treasury Department as part of the Troubled

Asset Relief Program ("TARP") announced December 20, 2008.¹²Conditions to that loan required Chrysler to submit a detailed restructuring plan to the U.S. Treasury, renegotiate its contracts with employee labor unions, and reduce its debt load.¹³Less than a month later, on January 16, 2009, the Treasury announced its decision to loan an additional $1.5 billion to Chrysler's financial services subsidiary, Chrysler Financial.¹⁴

For two years prior to filing for bankruptcy, Chrysler's management-and its majority owner, Cerberus Capital Management, L.P. ("Cerberus")-had been seeking a buyer interested in acquiring the company.¹⁵In the fall of 2008, GM expressed interest but was unable to obtain the necessary financing.¹⁶By

January 2009, Italian automaker Fiat emerged as the leading candidate.¹⁷Fiat and Chrysler tentatively agreed to form an alliance.¹⁸Subject to approval by the U.S. Treasury, the agreement provided that Fiat would receive a 35% equity interest in Chrysler and access to its dealership network.¹⁹In return, Chrysler would receive access to Fiat technology-specifically regarding fuel- efficiency-and its distribution network outside of the U.S.²⁰However, Chrysler's debt load, totaling over $19 billion, posed a substantial barrier to any effort to make the new combined company viable.²¹

On February 17, 2009, Chrysler submitted its restructuring plan, which included the proposed alliance with Fiat, to be reviewed by Treasury Secretary Timothy Geithner and President Barack Obama's Auto Task Force.²²On March 30, the Administration determined that Chrysler's restructuring plan was not viable and ordered the company to submit an alternative plan within thirty days or face a cutoff of any future financing from the government.²³The Administration admitted that an alliance with Fiat could be part of a successful plan, but ultimately concluded that Chrysler had not taken sufficient steps to renegotiate its labor contracts or reduce its debt burden to ensure the company's long-term viability.²⁴The Administration also suggested that bankruptcy might provide the best opportunity for the automaker.²⁵

Throughout April 2009, Chrysler and the Treasury Department attempted to arrange the acquisition, as well as negotiate an agreement among the company's forty-six secured creditors to reduce the amount of the automaker's debt.²⁶On April 30, Fiat and Chrysler announced their finalized plan in time to meet the Administration's timeline.²⁷The plan created an alliance between the two companies designed to make Chrysler a viable entity.²⁸That same day, in order to help implement the plan, Chrysler filed its chapter 11 petition with the

United States Bankruptcy Court for the Southern District of New York.²⁹

B. Chrysler's Capital Structure

At the time of Chrysler's bankruptcy filing, the company's equity was privately held.³⁰Cerberus and its affiliates owned 80.1% of the company's shares, while Daimler AG ("Daimler") and its affiliates held the remaining

19.9%.³¹Chrysler also had a vast amount of debt, which contributed to the company's struggles: $6.9 billion in senior debt secured by substantially all of Chrysler's assets; $2 billion in second-lien secured debt owed to affiliates of Daimler and Cerberus; $4.27 billion in TARP loans owed to the U.S. Treasury secured by a lien on unencumbered assets and a junior lien on encumbered assets; and approximately $5.34 billion owed to trade creditors.³²

C. Chrysler's Restructuring Plan

Under its agreement with Fiat, Chrysler would file for chapter 11 and then sell almost all of its assets to a newly created shell...