The unprecedented government intervention into the bankruptcies of General Motors Corp. and Chrysler may have been necessary in light of the struggling economy, but it must not set a standard for future bankruptcy cases, Douglas Baird told a subcommittee of Congress in July.
Baird, the Harry A. Bigelow Distinguished Service Professor at the Law School, was testifying on the ramifications of the auto industry bankruptcies in front of the U.S. House of Representatives Subcommittee on Commercial and Administrative Law Committee on the Judiciary.
“These cases show the good that modern bankruptcy judges and lawyers are able to do, especially in troubled economic times. Bankruptcy law, however, provides no panacea, only a fighting chance,” said Baird. Upon exiting bankruptcy, GM and Chrysler still face the reality of low automobile consumption and ineffective corporate cultures.
One particular limitation of bankruptcy is that it cannot help bankrupt companies pay all of their debts. Many worthy stakeholders, particularly tort victims but also unpaid suppliers, pension funds, dealers, and workers, will not be paid in full. To keep things fair, Baird said, any sale of the companies must ensure top dollar to all stakeholders.
If bankruptcy judges dictate that the winning bidder must distribute its assets to specified stakeholders, all bidders will lower their offers to compensate for this restriction. That would leave other stakeholders with even smaller payouts than they would have otherwise received.
“A buyer who takes a $10 company free and clear will bid $10 for it. But a buyer of the same company who is required to assume $6 in obligations will bid only $4,” Baird added. “If the $6 goes to a different stakeholder, then the process not merely converts the assets into cash, but also dictates how the cash is distributed. It becomes both a sale and a sub rosa plan. Those who lose out (those forced to share in proceeds of $4 instead of $10) enjoy none of the protections of the Chapter 11 plan process.”
The restrictive terms imposed on the sales of GM and Chrysler were tolerated because the courts did not expect any bidder would be willing to assume the burdens the government was willing to assume, although more could probably have been done to protect the stakeholders.
“The judges could have done more to test the waters, and there would have been little cost in opening up the process more, as the judge in Delphi has been willing to do,” Baird said, referring to the automotive parts manufacturer that filed for bankruptcy in 2005. “When process is neglected, rights of stakeholders are inevitably compromised, as is their ability to a sit at the negotiating table and be heard.”
The GM and Chrysler bankruptcies presented a special case in which political needs seemed to require setting aside some normal processes, Baird said. For that reason, the practical lessons from these cases will be limited. “The depth of the government intervention, the speed of the bankruptcy process, and the special treatment of car dealerships should not set a precedent for other bankruptcy cases,” Baird said.
“One can fault the particulars, and one must ensure that the infirmities that existed in these cases, principally the procedures used in conducting the Section 363 sale, are not replicated elsewhere,” Baird said of the bankruptcy code used in most Chapter 11 cases. “At the same time, however, it should be recognized that the large role that the government played was the result of its perception—correct in my view—that only aggressive use of the bankruptcy process on its part would allow either of these companies to survive in a form that would minimize the cost to the U.S. taxpayer of keeping them alive.”
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