On April 1, 2010, Judge Kevin J. Carey , Chief Judge of the United States Bankruptcy Court for the District of Delaware issued an opinion (the "Opinion") in the Spansion bankruptcy rejecting the Debtor's proposed plan of reorganization. This post will look at the requirements provided for under the Bankruptcy Code in order for a Court to confirm a plan of reorganization. Further, the post will look briefly at why the Court in Spansion declined to confirm the Debtor's proposed plan.
As stated in the Opinion, Spansion manufacturers and sells semiconductor products ("flash memory") used in cell phones and other consumer and industrial electronics. In 2008, half of Spansion's sales consisted of flash memory used in wireless products or "embedded applications" such as electronic games and DVD players. Spansion filed for bankruptcy hoping to restructure its business so that it could focus on the more profitable embedded products, shifting resources from the less profitable wireless business.
Bankruptcy and the Proposed Plan
Spansion filed for bankruptcy in Delaware on March 1, 2009. By October of 2009, the Debtor, the Official Committee of Unsecured Creditors (the "Committee") and certain secured noteholders agreed to a consensual plan of reorganization. By November, however, the Committee withdrew its support for the plan and the parties continued with negotiations. In late December, Spansion filed a Second Amended Joint Plan (the "Plan"), and the Bankruptcy Court thereafter approved the Disclosure Statement and scheduled a plan confirmation hearing.
In considering the various objections to the Plan, the Court began its analysis by recognizing that in order for the Plan to be confirmed, it must comply with section 1129 of the Bankruptcy Code. Citing the Court's decision in Exide Technologies, Judge Carey observed:
The plan proponent bears the burden of establishing the plan's compliance with each of the requirements set forth in section 1129(a), while the objecting parties bear the burden of producing evidence to support their objections. In a case such as this one, in which an impaired class does not vote to accept the plan, the plan proponent must also show that the plan meets the additional requirements of section 1129(b), including the requirements that the plan does not unfairly discriminate against dissenting classes and the treatment of the dissenting classes is fair and equitable. In re Exide Tech., 303 B.R. 48, 58 (Bankr.. D. Del. 2003)(internal citations omitted.
One of the issues presented to the Court concerned whether the Debtor had under-valued its business under the Plan, to the detriment of unsecured creditors. During the confirmation hearing, the Court heard testimony from three different expert witnesses on value (one expert for the Debtor and two experts for other interested parties). In calculating their values of the company, the Court found that each expert used "customary valuation methodologies: discounted cash flow analysis, publicly traded company analysis and comparable M&A transaction analysis." Opinion at *24.
After considering the testimony of each expert, the Court found that the valuation offered by the senior noteholders, not the Debtor's expert, "was appropriately weighted and rested on assumptions that, of the three [expert] reports, were the most sound for determining the Debtors' worth at this time and in this industry." Opinion at *33. The Court preferred the noteholders' valuation over the Debtor's because it found the valuation "more transparent" and "more in line with common valuation practices." Id.
The Court next looked at whether the "Equity Incentive Plan" offered in the Plan was reasonable and proposed in good faith. Here the Court noted that the "point of inquiry" to determine whether a plan is offered in good faith under section 1129(a)(3) is "whether such a plan will fairly achieve a result consistent with the objectives and purposes of the Bankruptcy Code." Opinion at *35, citing In re PWS Holding Corp., 228 F.3d 224, 242 (3d Cir. 2000).
Hearing arguments for and against the Incentive Plan, and weighing the Debtor's testimony in support of the Incentive Plan, the Court found that the record did not "demonstrate sufficiently that the Equity Incentive Plan is usual or reasonable for this market at this time." Opinion at *38. In order for Spansion's Plan to be confirmed, the Court concluded that Spansion must "devise an incentive scheme the garners uniform support from its constituencies or is demonstrably reasonable and within the market." Id.
Why did the Court reject Spansion's proposed Incentive Plan? The parties opposing the Plan argued that the Incentive Plan was too generous and was offered to benefit management at the expense of unsecured creditors. The Debtor, on the other hand, argued that the Incentive Plan allowed the company to attract and retain key employees. Looking to the evidence presented at the confirmation hearing, the Court noted that peer groups of comparable companies (used as a comparison for the Incentive Plan) was selected by the Debtor's board instead of a compensation expert. Further, the companies used for the benchmark comparison were those that emerged from chapter 11 bankruptcy between 2003 and 2006. This comparison, the Court found, did not reflect the dramatic and adverse effects the economy and employee compensation experienced during the last two years. Opinion at *37.
Although this post highlights what the Court found was wrong with the Spansion Plan, it is important to note that many of the objections to the Plan were overruled. For example, the Court found that certain (but not all) of the releases contained within the Plan represented a valid exercise of Spansion's business judgment. Further, the Spansion Plan included a reserve for administrative claims which the Court viewed as a "reasonable compromise of competing concerns" between the administrative claimants and the Debtor. Opinion at*50. The Spansion Opinion, therefore, is helpful in that it shows some of the hurdles a debtor must overcome in order to achieve plan confirmation.