Posted by: David Welch on May 27, 2009
General Motors is on a collision course for bankruptcy. The company said this morning that it didn’t get 90% of its bondholders, who collectively hold $27.2 billion in GM debt to take stock for their bonds. Since the Treasury Department has required GM to get 90% of that debt converted to stock to merit more tax dollars and avoid bankruptcy, a court filing seems inevitable. The only thing that would stop it is if GM sweetens an offer to those creditors and gets 90% of them to take the deal in the next two days. That’s very unlikely.
GM (GM) may have some leeway to do it. News broke yesterday that the United Auto Workers healthcare trust will take a smaller-than-expected stake in General Motors. The trust, called a Voluntary Employee Benefits Association, or VEBA, will get 17.5% of stock in a new GM plus warrants that would be worth another 2.5%. The union will use the assets in that trust to pay out benefits the way a pension fund does. Since GM’s original plan would have given the UAW’s trust 39% of the company, 50% to the government and 10% to bondholders, GM now has more equity to offer bondholders if the company wants to avoid bankruptcy.
But there are several reasons why GM may not even want to do that. First, the company has borrowed $19.4 billion from Treasury and will no doubt borrow more until car sales rebound. Add up just current borrowings and GM would emerge from bankruptcy or an out-of-court restructuring with easily $40 billion in debt. That’s better than the $63 billion GM had when the big restructuring started last year, but still way too much to really be competitive. The only way to reduce the debt held by the new GM would be forgiveness by the government. The Obama Administration is keen to do that, but to protect taxpayers Treasury would likely take more equity, perhaps 70%. That way if the new GM succeeds they have more stock to sell and recoup the money already loaned out.
It’s obviously a big gamble by Treasury. But as we have seen in the case of GM and Chrysler lenders, holding debt in troubled carmakers isn’t exactly a safe bet, either. So the government may as well reduce GM’s debt and give the company a fighting chance at survival.
The other big issue is GM’s plan to sell or dump Hummer, Pontiac, Saab and Saturn. Pontiac is going away. The other three are for sale. At a minimum, GM needs to break franchise agreements with Pontiac dealers. If GM can’t find a buyer for any of the other three, GM would need to buy out those dealers or face costly lawsuits. But as we have seen in Chrysler’s bankruptcy, it’s far easier to break franchise agreements in bankruptcy court. That’s another benefit of filing for Chapter 11 protection. Once there, GM puts the four bad brands and some factories in the old GM and the new one emerges with Chevrolet, Cadillac, Buick and GMC. About 1,600 dealers go away and so does a big chunk of debt.
Given those benefits, it’s hard to see why GM would want to avoid bankruptcy at this point. Giving more equity to bondholders means less for the government, which might translate to more debt to the feds on the balance sheet later on. Plus, you’d have the very thorny issue of getting rid of dealers. In short, bankruptcy gives GM a chance at a fresh start that they would have a much tougher time achieving out of court.