Commentaries

Now raising intellectual capital

CIT far from out of the woods

It looks like CIT has once again narrowly escaped falling over the edge after a group of bondholders agreed to extend $3 billion to the troubled lender in exchange for high-quality collateral and juicy interest rates. The thing is CIT still needs to sort out its failed business model based on borrowing in credit markets to provide financing to small and medium-sized businesses. But as we’ve seen again and again in this credit crisis, relying overwhelmingly on markets can sink even well established banks – think Northern Rock.

CIT’s alternatives, however, are few. Its deposit base is small, and as David Hendler notes via Bloomberg, building up it up isn’t easy or cheap.

“We still think it is a losing effort in the intermediate term although some bondholders may end up better than others with this structure,” said David Hendler, an analyst at CreditSights Inc. in New York. “The wholesale model is dead and creating a branch deposit system from scratch is too expensive for CIT and takes too long to build to help any time soon.”

For the bondholders, it looks like it’s a risk worth taking since the bridge financing at least gives them a claim on what the Wall Street Journal calls CIT’s “highest quality collateral” and an interest payment of 10 percentage points over Libor.

GM drives route 363, bondholders beware

     The rough justice meted out to General Motors bondholders may have short-circuited the bankruptcy process, but it has damaged the confidence that holders of other debt can have in their right to fair treatment.
    There will be a long-term cost, both to borrowers and lenders as a result. Key to this has been the use — by both GM and Chrysler – of section 363 of Chapter 11 of the U.S. bankruptcy code. By invoking the “emergency” need to restructure the companies, this section has allowed the automakers to speed through the sale of the viable parts of the businesses to new companies and leave the debt behind.
    While route 363 by-passes lengthy court hearings, its use to sell prime assets drives straight through the spirit of the code, which was meant to allow companies going through a Chapter 11 to jettison non-core assets quickly as part of a longer and wider reorganisation. It was not designed to cream off the best ones.
    Lawyers are already invoking the Chrysler and GM examples to try and get round long-established rules for reorganisations.
    The result would be to deprive bond investors of their rights in a company restructuring.
    GM bondholders who would normally have enjoyed preferred credit status in a Chapter 11 were railroaded by the Obama administration into giving the quick-fire sale the go-ahead, on the grounds that this was a one-off.
    From GM’s point of view, the process has worked well, allowing the business to emerge only 40 days after filing for bankruptcy. The cost of the turnaround has been $50 billion in emergency government financing. The longer-term cost in the much bigger market for corporate debt may be far larger.

  •