Zero Hedge recently highlighted the TPG raid on CDOs. This action puts into focus the alarming trend of the undermining of creditor rights. When even the Courts are in on the gang bang, what hope do we have?
The battlefield: CDOs, mortgages, corporate debt
The players: hedge funds, management teams, elected officials, lobbyists, unions
The weapons: loopholes, new precedents, bankruptcy court, political pressure
The Chrysler debacle was stink enough, but the trend of collateral tampering is an outright stench today. Property rights have allowed the U.S. to flourish. They are bedrock of our economy. They allow facilitate the spread of credit and economic growth that some other countries cannot match.
In Chrysler we saw legal precedent created where a *secured creditor* received less on its contracted collateral than unsecured creditors. In one fell swoop, we saw fiduciaries abscond, “disinterested” advisors incented to rubber-stamp, and the Courts join in on the rubber stamping party (more on this later). Most importantly, we witnessed a government that not only sanctioned this egregious behavior but astonishingly pushed for it. The Government actually labeled those who filed objections to the deal as “terrorists” (you can’t make this up). The Government actually vetoed Chrysler's offer to give secured creditors additional consideration. Our lawmakers were so involved that Chrysler's own attorneys tried to block discovery of their communications with Washington (the attorney’s clients were Chrysler, not Washington). We must never forget Obama’s alleged threat of using the “White House Press Core” to weaken what little opposition remained (who exactly were the terrorists?).
Chrysler is not the only company to pervert Chapter 11 for the purpose of disenfranchising creditors. The briefs filed in Charter Communications are full of shenanigans. The DIP roll-up drive-bys of 2009 rewarded handsomely those with the means to literally 'stick up' a Court. Case in point: Lyondell. Ask yourself, does a company with $27BN of assets really only realize at the last minute it must file for bankruptcy? Lyondell was amazingly such a company. And immediately after filing, Lyondell's equity owners, cavorting with a select group of creditors, proposed a DIP Roll-up as the only means of survival. A DIP Roll-up allows stakeholders to provide critical new money financing -- in exchange for I) great terms on that financing, and II) swapping their existing claims for new super-priority claims. What the equity owners of Lyondell did, however, was to only allow a club of creditors participate (those invited to the party). Creditors not party to the deal get smooshed (their claims become subordinated to the new claims which they previously were equal to). Creditors not only couldn’t participate in the financing, they barely had a chance to object to it – that is quickly the shakedown went down. The original stakeholders clamor, “Mr. Judge, approve this financing, or be the Judge to liquidate the Company and terminate thousands of American jobs!” They might as well have worn t-shirts emblazoned “Stick'em up".
The stakeholders not invited to the party were supposed to have their own gun. Their gun was supposed to be the Judge. The Judge, who could have said, "wait a second”, “can you breakdown in detail where the all the money is going”, “can you explain in detail why this money can’t go out at the end of the week”, or ideally “can you try to structure this so more creditors can participate in this deal?”. Unfortunately, these stakeholders were duped… their gun was a squirt gun. Their gun was the Southern District of NY.
Is there any secret why a majority of Chapter 11 cases are filed in the Southern District of NY? Equity owners and management choose their jurisdiction to be advantageous to them, and the Southern District has a track record of landing the big cases. Courts compete for the big cases. Chryslers own lawyers expressed concern at how quickly their Chrysler deal was proceeding in the Southern District of NY. Creditors are lost in the shuffle. If the Courts are not focused on protecting creditor rights, who is actually looking out for them? We know it is not Washington.
That a mortgage "cram down" bill was even considered in D.C. is another clear attack on property rights by lawmakers. Optimists may say the bill did not past. Cynics would it was a narrow vote. Realists should say even 1 vote for the bill is too much (we had 45!). I can only imagine a world where you lent your friend $10 to buy a six-pack of beer and a Senator reduces it to $5 and then grabs a beer with my friend. 45 Senators look forward to that day.
The recent news of TPG's efforts to strip CDO collateral is just another data point in this alarming trend. TPG was involved in DIP roll-up discussions of its own in the Aleris bankruptcy. This is not to single out TPG as many hedge funds have invited themselves to the party (e.g. Apollo has been a major player in the Apollo and Lyondell bankruptcies).
Who will put an end to this trend? The Courts are compromised. Hedge funds are capitalizing on the trend. Lawmakers are legitimizing the trend (strengthening their political base in the process). The populace still expects to get its money back in Chrysler.
There is one upcoming case that must be closely watched. The Supreme Court has yet to receive all briefs related to the Chrysler shamsaction. They previously declined in granting a stay of the deal, but an actual review is still possible. Let us pray they have the wherewithal to grant a comprehensive review of the transaction. A review would not only address the integrity of the transaction but the integrity of the court system itself.
Let us also pray that future creditors of the U.S. don’t become wise to creditor gang bang. On second thought, screw’em!