November 22, 2004

Pink Fallout: Some See Wider Threat in October Ruling

WILMINGTON, Del. (HedgeWorld.com)--Lawyers for the bank debtors in the Owens-Corning bankruptcy want to expedite the appeal of a recent U.S. District Court decision that went against the interests of their clients.

They have asked the 3rd U.S. Circuit Court of Appeals to hear oral arguments in early January 2005.

It is necessary for the appellate court to act quickly, said the bank debtors, through their law firm Weil, Gotshal & Manges LLP, in a court filing. Otherwise the District Court's decision for substantive consolidation of the estates of various corporate entities under the Owens-Corning umbrella will "have the effect of chilling the commercial finance market because the District Court's reasons for granting substantive consolidation here easily apply to most of corporate America."

On Oct. 5, 2000, Owens Corning, Toledo, Ohio, and 17 subsidiaries filed voluntary petitions for relief under Chapter 11 in the U.S. Bankruptcy Court in Wilmington, Del. A consortium of banks, led by Credit Suisse First Boston, strenuously opposed consolidation, on the basis of a 1997 credit agreement in which the parent and its subsidiaries cross-subsidized one another's loans. It argued that this gave some unsecured creditors a position superior to that of other unsecured creditors and that a consolidation would work an injustice.

On Oct. 5, Judge John P. Fullam of the U.S. District Court for the Eastern District, Pennsylvania, ruled for consolidation nonetheless (see ).

"Unless this decision is reversed on appeal, it will curtail unsecured credit, because lenders at virtually any major corporation could lose credit enhancements without any clear legal standards," said Martin Bienenstock, of Weil Gotshal, in a statement Oct. 13. Counsel for Owens-Corning, Saul Ewing LLP, Wilmington, referred a request for comment to the debtors' media relations office, which had none.

Jim Spiotto, head of the special litigation, bankruptcy and workout group at Chapman & Cutler LP, Chicago, a firm not involved in the Owens-Corning litigation, told HedgeWorld that agreed with some of the contentions of the appellants. "In the history of finance, people have developed a number of approaches, and cross-guaranties are among them," he said. The fact that the subsidiaries and parent cross-guarantied one another would not ordinarily be regarded as a good reason for consolidation of the estates.

Substantive consolidation is a very rare event. Courts are reluctant to grant it, "because it interferes with the expectations of the creditors, who dealt with separate entities as separate entities," Mr. Spiotto said.

The appellant group (which includes two hedge funds managed by Elliot Management Corp., New York) in its filing for the expedited appeal, made the same point in this statement: "Lenders who granted [US$2 billion] of credit in exchange for a repayment obligation from the parent corporation and guaranties from each subsidiary did not previously contemplate [that] a court would deprive them of their guaranties based on the court's satisfaction or dissatisfaction with the subjective reason the lenders requested the guaranties in the first place."

Mr. Spiotto was involved in the reorganization of Conseco Services LLC, Indianapolis, in 2002 and 2003, a process in which he represented the indentured trustees for more than a hundred securitizations. In order to stress how unusual a consolidation of estates is, he said that even in the complicated and protracted Conseco matter "it was an issue that people would raise from time to time, but it didn't go anywhere, because there was no factual basis for it."

Mr. Spiotto also spoke to the issue of the two-track process now processing the Owens-Corning restructuring. Some issues are being litigated in the U.S. Bankruptcy Court, others in the District Court. Mr. Spiotta called this unusual but said philosophically, "it happens." It is always better to try to do things in one place or the other, but the possibility of double-track proceedings has existed since the U.S. Supreme Court's decision in Northern Pipeline Co. vs. Marathon Pipe Line Co. (1982), which limited the authority that Congress can constitutionally assign to bankruptcy court judges, who don't have the same constitutional status as "Article III judges."

Contact Bob Keane with questions or comments at: bkeane@investmentadvisor.com.

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