How Washington blew GM’s bankruptcy

Michael Levine, in the FT, explains what would've happened to GM under an administration that respected the rule of law and allowed it to go bankrupt like every other mismanaged company in the US does (or did until about 6 months ago):

As General Motors finally filed for bankruptcy on Monday, some critics of the move have already made the case that Congress, not a White House task force, should have planned the bankruptcy. They are right about one thing: a White House task force should not have planned the bankruptcy. But they are 180 degrees wrong about what the government should have done. The bankruptcy needed much less “public policy” input, not more. If GM were going through a “normal” bankruptcy, here is what would have happened:

When it saw it was running out of cash last November, GM would have been forced to put together a plan that immediately stopped its financial haemorrhaging by selectively suspending its obligations and asked for protection from its creditors by filing under Chapter 11 of the bankruptcy code. To keep going through the process without liquidating, it would have had to get a debtor-in-possession loan (a high-priority loan secured by all the company’s assets). As a condition of providing the DIP loan, the government, like a private lender, might have insisted upfront on installing a management committed to a successful bankruptcy. Once in bankruptcy, GM management would have been required to propose a reorganisation plan with a reasonable chance of success. GM would have been able to determine which contracts to reject, giving it the chance to restructure its dealer networks, supply and long-term debt, secured and unsecured. Crucially, using Section 1113 of the bankruptcy code, it would have been able to reform its labour contracts to the extent necessary to achieve a successful reorganisation. If its proposals are rejected by the union without good cause, the court can impose it.

During bankruptcy, GM would have been able to sell off divisions, facilities and brands. Finally, if a plan of reorganisation that was likely to get a better outcome than liquidation was proposed, the court would approve it and a “new” GM would emerge.

What would have been the impediments to doing this? Management would not face the inevitable, so GM had (perhaps deliberately) placed itself in a position where it needed money to keep going long enough to file for bankruptcy. No private credit might have been available for a DIP loan under the conditions prevailing then and now. If the filing was done without prior negotiation with unions and creditors, the proceeding might have been so messy and protracted that it could have substantially reduced the possibility of a successful reorganisation. The plan might not succeed. Notice that I have not mentioned that the filing and the actions taken to protect GM from its creditors would cause great pain to workers, suppliers, dealers and cities. That is because that pain will occur anyway.

What would have been the role for government in this scenario? Providing bridge financing and a DIP loan, and setting a much shorter deadline for filing than was ultimately adopted. The deadline would have forced all parties to negotiate as much “prepackaging” as possible, because the unions and unsecured creditors would not have wanted to take their chances on a filing, and the secured creditors could not have been assured of a rapid liquidation in such an important bankruptcy. The loan could have been secured by GM’s assets and a claim on its revenues, and not involved the government in owning and managing the company. The billions of dollars the government would have saved by starting this process last winter could have been used to alleviate collateral damage through aid to state governments, unemployment insurance, etc. Both of those activities would have met genuine needs, commercial and social, without the government being forced to own and manage GM.

Instead, the Obama administration overtly played favourites to get the United Auto Workers protection it would not have received under Section 1113, probably elevating costs in a way that will damage prospects for a successful reorganisation. It made and imposed business judgments on GM about what cars to make and what plants to close (and perhaps about suppliers and distribution) that no one in the government or on the task force had the experience to make and for which no one would be financially accountable. Worst of all, despite Sunday’s desperate attempt to distance itself from GM’s future decisions, it left its fingerprints all over the new plan. Inevitably the White House will take political and hence financial responsibility for its success, relieving pressure on management and labour to succeed. Ultimately it elected to adopt an industrial policy toward the industry that failed utterly in the UK, and has worked out badly and expensively in France and Italy.

Finally, in the process, it disturbed the security of expectation that has made lenders willing to provide capital as secured credit, thus handicapping all US industry and undermining what has been, for all its flaws, one of the best financial reorganisation processes in the world, now emulated elsewhere.

The administration took a tragic situation and turned it into an expensive mess to pay a political debt. It wasted billions of dollars over many months delaying GM’s filing and then implicitly put itself on the hook for many billions more. The financial, political and social echoes of that decision will be with us for a long time. In short, they blew it.