On December 10, 2008, the House of Representatives passed a bailout bill for the auto industry titled the Auto Industry Financing and Restructuring Act (the “Bill”). The Senate is considering the Bill, and the press has reported that the Senate may propose alternatives or amendments to the current plan. This memorandum summarizes the Bill, and we will continue to provide updated information as the legislation develops.
To restore liquidity and stability to the automobile industry in the United States.
The President is to designate one or more officers from the Executive Branch (the “Car Czar”) to carry out the Act with a view to effecting restructurings necessary to achieve the long-term financial viability of the domestic automobile manufacturing industry.
Funding will be appropriated as is necessary to provide funds to support up to $14 billion in loans under the Act. The Car Czar has authority to make bridge loans or to enter into commitments for lines of credit to each automobile manufacturer that submitted a plan to Congress on December 2, 2008 and submitted a request for a loan or commitment (each, an “Eligible Manufacturer”). Each of Chrysler, Ford and GM submitted a plan and requested a loan, although Ford’s request for a “stand-by line of credit” in the amount of $9 billion is not in the form of bridge financing. Chrysler and GM have requested bridge loans in the amount of $7 billion and $12 billion, respectively. The amount of bridge loans or commitments for lines of credit to each Eligible Manufacturer is determined by the Car Czar and is intended to “facilitate continued operations . . . and to prevent the failure” of the entity, subject to available funds. The bridge financing matures on March 31, 2009, when restructuring plans are due.
The Car Czar will seek to facilitate agreement on a restructuring plan for each Eligible Manufacturer among its interested parties, which includes all persons who have a “direct financial interest” in a particular automobile manufacturer, including employees, retirees, unions, creditors, suppliers, automobile dealers and shareholders. Presumably, the change from the Discussion Draft of the Bill to “direct financial interests” would eliminate holders of derivative instruments from participation in negotiations.
Each Eligible Manufacturer must submit a viable restructuring plan to the Car Czar no later than March 31, 2009. Among other criteria, the plan must demonstrate the achievement of a positive net present value, using reasonable assumptions and taking into account projected costs. The plan must also propose a restructuring of existing debt, including debt to equity conversions, where appropriate.
Upon approval of a restructuring plan, the Car Czar may provide financial assistance to implement the plan. If the Car Czar has not approved the restructuring plan by March 31, 2009, the Car Czar will call the loan or cancel the commitment within thirty (30) days, unless a restructuring plan is approved within that period. There is no description in the Bill of the form or amount of long-term assistance. As a result, the “financial assistance” that may be provided is limited to extensions of the $14 billion, absent new legislation.
Terms of Loans
Loans will be for seven (7) years, or longer if determined by the Car Czar.
Interest on loans will be five percent (5%) for the first five (5) years of the loan and nine percent (9%) thereafter. Payments of interest will be made semiannually.
Loans will not have prepayment penalties.
As a condition to receiving the loans, an Eligible Manufacturer must provide the Car Czar access to all relevant books and records, including those of any subsidiary, affiliate or owner of fifty percent (50%) or more of the manufacturer. While any loan extended under the Act remains outstanding, an Eligible Manufacturer must promptly inform the Car Czar of any proposed transactions having a value in excess of $100 million and any other material change in the financial condition of the Eligible Manufacturer. The Car Czar may prohibit an Eligible Manufacturer from consummating proposed transactions of which it is given notice if the Car Czar “determines that consummation of such transaction would be inconsistent with or detrimental to the long-term viability” of the Eligible Manufacturer.
Loans may be accelerated and any other financial assistance may be cancelled by the Car Czar (i) prior to March 31, 2009, if the Eligible Manufacturer fails to make adequate progress towards the development of a restructuring plan, (ii) after March 31, 2009, if the Eligible Manufacturer fails to submit an acceptable restructuring plan or fails to comply with any condition or requirement under the Act or applicable fuel efficiency and emissions requirement, or (iii) after the approval of the restructuring plan, if the Eligible Manufacturer fails to effectively implement the plan, as determined by the Car Czar.
Any Eligible Manufacturer participating in the program is required to provide the Car Czar with warrants to receive non-voting common stock and preferred stock having a “value” equal to twenty percent (20%) of the aggregate amount of all loans provided. For publicly traded Eligible Manufacturers, the warrants will be issued by the Eligible Manufacturer, and for non-publicly traded Eligible Manufacturers, the warrants will be issued by the holding company or the entity controlling a majority stake in the Eligible Manufacturer, as determined by the Car Czar.
The warrants will entitle the Car Czar to purchase:
(i) nonvoting common stock, up to a maximum amount of twenty percent (20%) of the issued and outstanding stock (x) for publicly traded Eligible Manufacturers, of the Eligible Manufacturer or (y) for non-publicly traded Eligible Manufacturers, of the holding company or the entity controlling a majority stake in the Eligible Manufacturer (the “warrant common”); and
(ii) preferred stock having an aggregate liquidation preference equal to twenty percent (20%) of the aggregate loan amount, minus the value of common stock available for purchase under the warrant common (the “warrant preferred”).
For publicly traded Eligible Manufacturers, the exercise price of the warrant common is the fifteen-day moving average, as of December 2, 2008, of the market price of the Eligible Manufacturer’s common stock. For non-publicly traded Eligible Manufacturers, the exercise price of the warrant common is the economic equivalent of the fifteen-day moving average market price described above for publicly traded Eligible Manufacturers, as determined by the Car Czar.
For both publicly and non-publicly traded Eligible Manufacturers, the initial exercise price of the warrant preferred is $0.01 per share. The warrant preferred may be redeemed at one hundred percent (100%) of its issue price, plus any accrued and unpaid dividends, at any time after such warrant is exercised. The dividend rate on the preferred stock is not provided in the Bill. However, the Car Czar may determine terms and conditions of the warrant preferred to protect the interest of taxpayers.
Executive Compensation and Corporate Governance
While financial assistance under the Act remains outstanding, the Eligible Manufacturer is subject to Section 162(m)(5) of the Internal Revenue Code, which would prevent an Eligible Manufacturer from deducting, for tax purposes, executive compensation or deferred executive compensation in excess of $500,000 for each senior executive officer (the top five (5) most highly paid executives of a publicly or non-publicly traded Eligible Manufacturer).
The Car Czar will also require the Eligible Manufacturers to meet “appropriate standards for executive compensation and corporate governance.” The standards include:
- limits on compensation that exclude incentives for senior executive officers to take “unnecessary and excessive risks that threaten the value” of the Eligible Manufacturer;
- a provision for recovery by the Eligible Manufacturer of bonuses based on inaccurate financials;
- a prohibition on golden parachute payments to senior executive officers;
- a prohibition on paying or accruing bonuses or incentive compensation to the 25 most highly-compensated employees; and
- a prohibition on compensation that would encourage manipulation of earnings.
Eligible Manufacturers must divest their ownership interests in private aircrafts.
Except with respect to legal obligations owed to any nonaffiliated party or under any existing contract with any nonaffiliated party in effect as of December 2, 2008, dividends may not be paid while the financial assistance is outstanding.
Subordination of Other Interests
To the extent permitted by the terms of any obligation, liability or debt of the Eligible Manufacturer in effect as of December 2, 2008, all obligations of the Eligible Manufacturer must be subordinate to any loan received under the Act and such loan must be senior and prior to all obligations, liabilities and debts of the Eligible Manufacturer. For non-publicly traded Eligible Manufacturers, the loan received under the Act will be treated as a loan to any holding company of, or company that controls a majority stake in, the Eligible Manufacturer and such loan must be senior and prior to all obligations, liabilities and debts of any such holding company or company that controls a majority stake in the Eligible Manufacturer. Each Eligible Manufacturer must provide to the government all available security and collateral against which the loan under the Act is to be secured. The mechanics of the subordination are not provided in the Bill.
A discharge under Chapter 11 of the Bankruptcy Code will not discharge an Eligible Manufacturer, or any of its successors in interest, from any loans received under the Act. Furthermore, any loans received under the Act will be exempt from the automatic stay established by Section 362 of Chapter 11 of the Bankruptcy Code.
Net Operating Loss Carryforwards and Certain Built-In Losses
Under Section 382 of the Internal Revenue Code, acquiring companies are subject to limitations on the utilization of net operating losses and “built-in losses” of the acquired company to offset post-acquisition taxable income of the combined group. The Bill provides an exemption from Section 382 to all companies who purchase an Eligible Manufacturer and allows the acquiring companies to utilize the net operating losses and certain built-in losses of the Eligible Manufacturer to offset the post-acquisition taxable income of the combined group. A similar principle applies to banks under a Notice issued by the Internal Revenue Service, but that Notice has generated significant controversy, as well as opposition in Congress.