Delphi Deal Undone by Bankruptcy Judge

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A lot of energy and commentary has been focused on the government's intervention in the GM, and especially the Chrysler, bankruptcies.  Meanwhile, the government has apparently also been intervening in the case of Delphi, the GM parts supplier spinoff which has now been struggling with bankruptcy for years.  The plan called for the operations crucial to GM to be sold to the former parent, while everything else was sold off to Platinum Equity for $500 million worth of equity investment and loans.

The lenders argued that Platinum was a puppet of the government and GM, which needs Delphi to emerge from bankruptcy for its GM bailout to succeed. Platinum "is an entity funded principally by GM (and thus controlled by the Auto Task Force) in which GM's and the Auto Task Force's hand-picked private-equity buyout partner Platinum provides the appearance of an independent third-party in exchange for disproportionate economic returns," wrote lawyers for a group of lenders in court papers.

The lenders "believe that the GM-Platinum transaction will siphon an extraordinary amount of value from Delphi's stakeholders to Platinum by offering Platinum rewards incommensurate to its relatively modest investments," wrote separate lawyers for J.P. Morgan, the agent on a $4.5 billion loan provided to Delphi in 2007 so it could continue to operate under Chapter 11.

The plan calls for some DIP lenders, including the most senior creditors owed about $2.5 billion, to receive 20 cents on the dollar for their loans. These lenders argue that Delphi's plan overstates the amount they would receive. A Delphi reorganization plan that collapsed in April 2008 called for DIP lenders to receive full payment.

If true, this is an even more heavy-handed intervention than Chrysler, and considerably more disturbing.  Debtor-in-Possession financing, or DIP, is the financing that allows companies to reorganize in bankruptcy.  It's senior to everything else because if it weren't, no one would be willing to lend money to companies that definitionally have a high probability of failure. Stiffing those creditors in order to make GM, or even Delphi, better off, is incredibly short-sighted. 

It also has some potentially scary implications for our political economy.  The quasi-legitimate argument in favor of the government's interventions in favor of the UAW was that Uncle Sam was the only available debtor-in-possession financier, and therefore had a right to call the tune. Screwing over the DIP providers would, of course, make it harder for other companies to get DIP.  What new rights could the government discover in those bankruptcies?

In this case, however, the bankruptcy judge wasn't buying.  He ordered Delphi to put its assets up for auction.  Now we get to test the theory that the government is acting in ways that actually make all the creditors getting cramdowns better off.  If the government has indeed been acting in everyone's best interest, the auction will be a dismal failure.  Either way, however, the judge has gone a long way to limiting the scope of the damage from the previous automaker interventions, by demonstrating that the courts are willing to put real limits on the ability of administrations to rearrange economic transactions at will. 

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Megan McArdle is a columnist at Bloomberg View and a former senior editor at The Atlantic. Her new book is The Up Side of Down.

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