Dead Man's Curve

Some market participants have been voicing the opinion that no securities laws were violated and it was in the best interest of the country that Chrysler secured lenders accepted a settlement of 29 cents on the dollar. These same market participants believe that a 10% ownership stake is fair compensation for GM senior bond holders. Although it is true that no laws were circumvented in the Chrysler cramdown, creditors (most of which were TARP banks) were strong-armed by the Obama Auto Task Force. The GM bondholders are determined not to be bullied and the have the weaponry to keep the wolves at bay.


In today's Wall Street Journal, Scott Sperling co-president of private equity firm THL Partners states that he believes that GM bond holders to not deserve more than 10% of GM as compensation. He correctly notes that the government's loans rank senior to outstanding senior unsecured bonds. The problem is that no one is disputing this fact. The problem lies with the governments beneficial treatment of the UAW.

What is sticking in the collective craw of GM bond investors is that the UAW, which has a VERY subordinate equity-level claim on GM assets, has been elevated above senior bondholders. The current reorganization plan give the UAW a 38% ownership stake in GM while the bondholders get a 10% stake. Where is the justice in that? The Obama administration was hoping to strong-arm GM bondholders into accepting meager compensation. The problem is that there are very few TARP-receiving investors among GM bondholders and they have a method in which they can be very handsomely compensated (in dollar terms) should GM file for bankruptcy protection.

The vast majority of GM bondholders (and all of whom are members of the defacto bondholders steering committee) are institutions. Unlike individuals, institutions are able to hedge and adept at doing so. You can bet your bottom dollar that GM bondholders have purchased protection in the credit default swaps market. If GM files for bankruptcy protection, bondholder who have purchased protection (many of whom had done at a much earlier date) will receive par (100 cents on the dollar) for their bonds. GM bondholders have nothing to lose and many have much to gain by taking GM to bankruptcy.

Some pro-UAW and pro-administration pundits have criticized the bondholders counter proposal in which bondholders would get a 58% ownership stake in GM. Pundits point out that the government has a senior claim and is entitled to the largest portion of compensation for its loans. What the pundits conveniently ignore is that the bondholders plan pays back the government in full.

The plan proposed by the bondholders would give themselves 58% of GM, the UAW 40% and the government loans would be paid in full. In "normal" times this plan would garner much consideration by the government. Typically in a bankruptcy, the government wants to be financially compensated. It does not wish to own and run a company. However, these are not normal times. The government wants to ensure that "green" cars are built and the UAW is building them. One only needs to look at the UAW receiving a 55% ownership stake in Chrysler while have a VERY subordinate claim.

My colleagues and I cannot believe that the Automotive Task Force has not considered that institutional bondholders are hedged with CDS. However, judging by the previous missteps by team Rattner, it appears as they were outmaneuvered by the pros. This is why GM executives (past and present) unloaded large quantities of GM equity. Unless a proposal is put forth in which the bond holders acquire a controlling interest in GM, bankruptcy here we come.

Tomorrow we will discuss the slow growth ahead.