RESTRUCTURING VISTEON
Team Members Oren Livne Josh Simpson
Bankruptcy & Reorganization Professor Altman April 10, 2012
Table of Contents
Section Page
Executive Summary 3
I. Introduction 5 II. Auto Parts Industry Overview 6 III. Visteon's History 8 IV. The Decline in Visteon's Financial Condition 9 V. Visteon's Bankruptcy 19 A. Acquiring DIP Financing 19 B. Initial Negotiations 20 C. Relationship with Ford 22 1. Lessons on Spinoff Relationships 22 2. Busted Spinoffs 25 3. Analysis of Parent/SpinCo Relationships 29 D. Employment, Pension, and OPEB Litigation 31 E. Performance in Bankruptcy 32 F. Negotiating Visteon's Plan of Reorganization 36 VI. Post-Bankruptcy Operations 42 VII. Demonstrating the Sensitivity of Valuations in 48 Bankruptcy VIII. Fairness of Plan Valuation to Security Holders 55 IX. Conclusion 58
Appendix 60
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Executive Summary
The auto parts industry faces substantial cost pressures, with the ability to serve multiple markets, utilize the latest technology, and provide timely delivery being highly valued.
Visteon was spun off from Ford in 2000 in an effort by Ford to reduce legacy liability costs, to enhance Visteon's ability to sell to other producers, and to allow Ford to obtain better pricing on parts. As should be done, Ford executed several agreements pre-spinoff to manage its post-spinoff relationship with Visteon. To avoid the potential for later fraudulent conveyance claims, parents must consider a subsidiary's ability to pay debts in reasonable downside scenarios post-spinoff, and not overly favor the parent in the asset/liability allocation.
A sharp decline in auto sales in 2008 precipitated reduced stock prices for auto parts manufacturers and a decline in the industry's bond equivalent ratings. Visteon's overburdened capital structure weakened the firm while its recurring losses, which caused declines in the firm's Z-score, led to its bankruptcy filing in Delaware on May 28, 2009.
After failing to secure DIP financing from the government and its customers, Visteon was able to secure a $150mm loan from its term lenders. The company then entered several agreements with its customers, providing it with additional cash for agreements to continue providing parts.
Visteon sought to eliminate certain employee benefits in bankruptcy, but a Third Circuit decision refused to allow Visteon to unilaterally terminate benefits in bankruptcy that it could outside of bankruptcy. Visteon also faced pension claims in Germany and the U.K.
Ford had a special relationship with Visteon, having previously been Visteon's parent, the purchaser of non-performing facilities in 2005, and a major customer. Ford also purchased Visteon's ABL Credit Facility claims when the firm neared bankruptcy. To manage the risk of a fraudulent conveyance claim and ensure continuity of supply, Ford agreed to make several significant concessions to Visteon in bankruptcy. Ford's Z-score was a useful predictor of Visteon's at the 99% level and, as expected, the firms' Z-scores closely followed their Z" scores, although the relationship was substantially less strong in a joint regression.
Visteon's management was able to resist early pressures from the firm's term lenders to sell the company in pieces so that the lenders could realize a quick profit. Visteon's first plan of reorganization did not provide its noteholders with any recovery, feeding contentious valuation discussions. By being unwilling to share any recovery with noteholders early, Visteon's term lenders lost their opportunity to obtain Visteon's equity at what was later shown to be a substantial undervaluation. Eventually, a plan was developed for Visteon's noteholders to either take out Visteon's term loans through a rights offering or obtain a low recovery, providing an incentive for the noteholders to agree to commit additional capital. This sped up the bankruptcy process, minimizing the damage to Visteon's business from operating in bankruptcy. Visteon's pre-filing shareholders also successfully negotiated a
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recovery after a bid was made for some of Visteon's businesses, but hedge funds buying Visteon's unsecured trade claims were unsuccessful in gaining access to the rights offering. Visteon's final plan was confirmed on August 31, 2010, and Visteon emerged from bankruptcy on October 1.
The auto parts industry had strong performance in 2010 and 2011, with a substantial increase in investment grade bond equivalent ratings. This helped Visteon to outperform expectations in bankruptcy and upon emergence, leading to improvements in the firm's Z-score. Visteon's securities have performed well in the markets, given its substantially de-leveraged capital structure.
Valuation in bankruptcy is very sensitive to the inputs selected, and Visteon's valuation provides a perfect example. We examined the sensitivity of Visteon's predicted value to beta, growth rate, EBIT margin, management projections, and comparable selection.
Rothschild significantly undervalued Visteon's equity, resulting in noteholders receiving a median estimated recovery of 192% and overcompensation of $804mm. Thus, Visteon's pre- bankruptcy shareholders could assert that they were treated unfairly under the plan; but, as discussed, valuation is far from a perfect science.
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I. INTRODUCTION
The bankruptcy of Visteon Corporation ("Visteon") demonstrates the complexity and innovative solutions that are inescapable in substantial modern bankruptcies. Visteon is an auto parts manufacturer that was spun off from Ford Motor Company ("Ford") in 2000. After several years of losses, Visteon had to file for bankruptcy in 2009 following a substantial drop in auto sales in 2008. Given the auto industry's disfavor, the firm had to search for a debtor-in- possession ("DIP") loan from an interested party. Visteon was able to secure a loan from its term lenders, after failed attempts to obtain financing from the government and its customers.
However, Visteon was able to use the threat of supply disruption to obtain valuable support from its customers. In the courtroom, Visteon's case set precedent that a bankrupt company cannot unilaterally terminate certain employee benefits even if it may do so out of court. The firm was reorganized successfully under a creative toggle plan that used the threat of a switch to a suboptimal plan for the firm's noteholders to induce a favorable outcome. Since bankruptcy, the firm's performance has exceeded expectations.
We examined a few interesting issues surrounding Visteon's reorganization. First,
Visteon had a special relationship with Ford that provides useful insight into how spinoffs should be structured to avoid the risk of a busted spinoff. We analyzed the relationship between Ford and Visteon's Z-scores in this context. Second, we considered the sensitivity of valuation in bankruptcy given Visteon's example. Finally, we provided an ex post analysis of the valuation assumed in Visteon's plan of reorganization and the resulting treatment of Visteon's pre- bankruptcy security holders.
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II. AUTO PARTS INDUSTRY OVERVIEW
Automotive parts suppliers provide a variety of systems, modules, and components for use by vehicle manufacturers and after-market parts suppliers.1 Initially, vehicle manufacturers operated their own internal parts divisions to produce a wide range of components.2 Parts manufacturing is very capital and labor intensive, and is sensitive to overall economic conditions.3 Thus, in an effort to reduce costs, the automotive industry shifted to competitive sourcing of parts from independent suppliers.4 Car manufacturers began to spinoff their internal parts divisions, creating Delphi, which spun out of General Motors ("GM"), and Visteon, which spun out of Ford. Other independent players in the industry include Clarion, Continental AG,
Delphi, DENSO, Faurecia Group, Hyundai Mobis, Johnson Controls, Koito Manufacturing,
Magna International, Nippon Seiki, Panasonic, Robert Bosch GmbH, and Valéo S.A.5
Vehicle manufacturers have globalized their operations and supply chains in an effort to further reduce costs and access new markets.6 Component manufacturers that can “serve multiple markets, support a global vehicle platform and maintain a local presence” are therefore more desirable.7 Vehicle manufacturers based outside of the United States have continued to increase their market share, creating difficulty for domestic parts suppliers.8 Domestic suppliers also face significant legacy liabilities and high unionized labor costs, providing foreign
1 Visteon Corp., FORM 10-K at 9 (Mar. 31, 2009). 2 Id. at 3. 3 Id. 4 Id. 5 Id. at 9; Rothschild, VISTEON PRELIMINARY VALUATION ANALYSIS 18 (2010). 6 Visteon Corp., FORM 10-K at 3 (Mar. 31, 2009). 7 Id. 8 Id. at 4.
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producers with an advantage.9 As a result, domestic suppliers generally focus on technologically intensive components.10
Parts suppliers work in close conjunction with customer auto manufacturers, at times using joint development teams.11 Supply contracts are often long-term, particularly for specialized parts.12 Contracts with vehicle manufacturers are dominated by larger parts suppliers who can provide high-volume, low-cost products that are delivered in a very timely fashion.13
Thus, smaller parts producers may compete to supply products to the larger parts producers.14
In 2011, U.S. auto parts makers generated $47.8bn in revenue, with a compounded annual growth rate ("CAGR") of -0.3% over the previous five years.15 As shown in the chart below, nearly 20% of revenues were from General Motors, 17% from Toyota, and 16% from
Ford.16 The largest parts suppliers were Magna International (15.2% market share), Delphi
(10.4%), and DENSO (9.1%).17
9 Antonio Danova, IBISWORLD INDUSTRY REPORT 33639: AUTO PARTS MANUFACTURING IN THE US 20–21 (Dec. 2011). 10 Id. at 22. 11 Id. 12 See id. 13 Id. 14 Id. 15 Id. at 4. 16 Id. at 15. 17 Id. at 24.
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III. VISTEON'S HISTORY
Visteon is a global supplier of systems and components to vehicle manufacturers.18
Visteon was incorporated in January 2000 to house Ford’s automotive systems and components businesses.19 In June of 2000, Visteon’s common stock was distributed to Ford’s shareholders in a spinoff, making Visteon a stand-alone company.20 The year prior to the spinoff, 88% of
Visteon’s $19.4bn in revenue came from Ford.21 Visteon was spun off in an attempt by Ford to reduce its legacy liability costs and working capital requirements, to increase shareholder value by allowing Visteon to sell to other producers, and to allow Ford to obtain better pricing on its supplies.22 This latter element made Visteon's transition to independence more difficult, as the significance of Ford's purchases allowed Ford to extract price concessions.23 This encouraged
Visteon to diversify its customer base.24
In 2005, in the face of high labor costs and five years of losses, Visteon transferred 23 of its worst performing North American facilities to Ford in exchange for $300mm and the forgiveness of certain post-retirement obligations to employees.25 As a result, Visteon was able to dramatically reduce its labor costs, cutting the average hourly wage from $38 to $18.26 From
January 2006 to August 2008, an additional 30 non-core and underperforming facilities and businesses were restructured, resulting in 14 closures and 7 divestitures.27 In addition, Visteon
18 Visteon Corp., FORM 10-K at 1 (Mar. 31, 2009). 19 Id. 20 Id. 21 Mark Clothier, Visteon Exits Bankruptcy Protection After 16 Months, BLOOMBERG, Oct. 1, 2010, available at http://www.bloomberg.com/news/2010-10-01/visteon-exits-federal-bankruptcy-court-s-protection-16-months-after- filing.html. 22 Interview with Todd Snyder & Mark Keiselstein, Co-Head of North America Debt Advisory and Restructuring, Rothschild, Partner, Kirkland & Ellis, in New York, N.Y. (Mar. 19, 2012). 23 Id. 24 Id. 25 Clothier, supra note 21. 26 Id. 27 Id.
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was able to achieve substantial administrative and engineering cost reductions and reduced its headcount by over 15,000 employees.28
By 2007, Visteon had significantly reduced its reliance on Ford. As shown below, sales to Ford declined from 84% of its revenue in 2000 to 38% of its $11.3bn in revenue in 2007.29 By
2007, Visteon had also diversified in its product offerings and geographically, with North
America, Europe, and Asia each contributing over a quarter of sales.
IV. THE DECLINE IN VISTEON'S FINANCIAL CONDITION
Over a long time horizon, auto sales, as shown by the Seasonally Adjusted Annual Rate
("SAAR") of auto sales in the chart below, had exhibited an upward trend.30
28 Decl. of William G. Quigley, III, Chief Financial Officer and Executive Vice President of Visteon Corp., In Support of First Day Pleadings ¶ 5, 2009. 29 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 11 (2010). 30 Id. at 5.
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However, a confluence of factors caused a collapse in U.S. auto sales of approximately 40% in
2008. This was a global phenomenon, with double-digit declines in year-over-year sales in the fourth quarter of 2008 in North America, Europe, China, South Korea, and South America.31
The global recession caused a spike in unemployment that reduced consumers' incomes and willingness to purchase durable goods, as these purchases can be postponed.32 In addition, the credit crunch led to a decrease in the availability of consumer auto financing.33 The subprime crisis compounded matters by decreasing borrowers' net worth, creditworthiness, and willingness
31 Visteon Corp., FORM 10-K at 1 (Mar. 31, 2009). 32 See David P Bianco, Durable Goods, ENCYCLOPEDIA FOR BUSINESS (2d ed., last visited Apr. 3, 2012), http://www.referenceforbusiness.com/encyclopedia/Dev-Eco/Durable-Goods.html. 33 GMAC Financial Services limited financing to those with credit scores below 700, required higher down payments, and increased the rate it charged dealers for providing "non-incentivized consumer auto financing." Press Release, GMAC Financial Services, GMAC Financial Services Statement on Automotive Finance Purchase Policy (Oct. 13, 2008), available at http://media.gmacfs.com/index.php?s=43&item=280.
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to spend.34 Finally, gas prices quickly rebounded in 2009, decreasing the prices that consumers were willing to pay for automobiles.35
The decrease in auto sales quickly made its impact felt on auto parts manufacturers.
Reduced auto production, contemplated in the restructurings of the "Big 3" U.S. producers, led to expectations of declining revenues at auto parts manufacturers, as shown below.36
The reduction in parts manufacturer revenues led the market to anticipate significant restructurings, liquidations, and consolidations. In large part, these expectations were caused by the substantial levels of operating leverage built into parts manufacturers, with high fixed costs.37
Parts manufacturers' plants could not be easily abandoned or sold once revenues declined, and it was difficult to escape union contracts. Thus, substantial levels of price competition could be expected. These factors led market participants to question the valuation of parts manufacturers, leading to significant declines in stock prices, as shown by the chart below.38
34 See Timothy R. Homan, U.S. Household Net Worth Had Record Decline in Fourth Quarter, BLOOMBERG, Mar. 13, 2009, http://www.bloomberg.com/apps/news?pid=newsarchive&sid=aaRlfL4VyFwU&refer=news. 35 Historical Price Charts, GASBUDDY.COM (last visited Apr. 3, 2012), available at http://gasbuddy.com/gb_retail_price_chart.aspx; see Reuters, April Auto Sales Hurt by Higher Gas Prices, FOXNEWS.COM, May 02, 2006, http://www.foxnews.com/story/0%2C2933%2C194036%2C00.html. 36 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 6 (2010). 37 Snyder & Keiselstein, supra note 22. 38 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 7 (2010).
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The bond rating equivalents in the auto parts industry also demonstrated the general decline in the industry's financial state. As shown in the chart below, 56.5% of auto parts manufacturers had investment grade ratings in 2007, compared to 30.8% of firms in 2008.39
Note that the D category may be more substantial than indicated, as no rating can be calculated for bankrupt firms that stop trading.
Bond Rating Equivalents in Auto Parts Industry 100%
80%
60%
40%
20% PercentageofFirms
0% 2001 2002 2003 2004 2005 2006 2007 2008 Year AAA AA A BBB BB B CCC/CC D
39 Data on 29 auto parts manufacturers operating in the U.S. with market capitalizations greater than $100mm from S&P Capital IQ.
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Given this environment, Visteon faced a daunting challenge in trying to keep itself afloat.
However, undermining the company's efforts was its debt laden capital structure, shown below.
Still, the company maintained sizeable cash balances.
Visteon's Pre-Bankruptcy Capital Structure 4,000 3,500 3,000 MVE 2,500 2,000 Book debt ($mm) 1,500 1,000 Cash and equivalents 500 0 2000 2001 2002 2003 2004 2005 2006 2007 2008 Year
As illustrated by the chart below,40 Visteon’s many efforts to restructure did not yield long-term improvements in share price and were unable to combat the economic crisis.
40 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 10 (2010).
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Between 2007 and 2009, Visteon saw its revenues decline 40.1%. In response, management sought to reduce the firm's operating costs but was unable to keep up with the massive declines in sales.41 With declining share prices and levels of earnings before interest, taxes, depreciation, and amortization ("EBITDA"), Visteon saw its credit quality deteriorate under the financial metrics shown below. Thus, when it completed a borrowing in June of 2008, it had to agree to pay an interest rate of 12.25%.42
41 Visteon Corp., FORM 10-K at 1 (Mar. 31, 2009); see Quigley, supra note 28, at ¶ 5–6. 42 Visteon Corp., FORM 10-K at 94 (Mar. 31, 2009).
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Pre-Bankruptcy Financial Metrics
10.0 100%
7.5 80% Interest 5.0 60% coverage ratio Book debt to 2.5 40% EBITDA Market debt 0.0 20% ratio
(2.5) 0%
2000 2001 2002 2004 2005 2006 2007 2003 2008 Year
The Z-score is an appropriate tool for analyzing Visteon as it is a manufacturing firm with its primary operations in the U.S. Below, we have decomposed Visteon's Z-score into its component parts. Visteon's declining Z-score resulted primarily from recurring losses reducing retained earnings, but was also impacted by smaller effects from the other Z-score components.
Visteon's Z-Score Pre-Bankruptcy 3.0 2.5 WC / TA 2.0 RE / TA 1.5 1.0 EBIT /
TA Score
- 0.5 MVE / Z 0.0 BV Liab. Sales / (0.5) TA (1.0) Z-Score (1.5) 2001 2002 2003 2004 2005 2006 2007 2008 Year
Based on Visteon's Z-score, we computed the firm's bond equivalent rating. While the Z- score led the rating agencies in placing Visteon with B and D ratings, the rating agencies first placed Visteon with B- and CCC+ ratings during the firm's slide towards default. As Visteon
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had both senior secured term loans and senior unsecured notes (including all three note issuances for which there are ratings), we provided loss given default rates for both categories.43
2001 2002 2003 2004 2005 2006 2007 2008 Z-Score Bond Rating Equivalent Rating B B B B B B CCC D Cumulative 5yr 28.7% 28.7% 28.7% 28.7% 28.7% 28.7% 47.9% 100.0% Mortality Rate Cumulative 5yr Loss 20.2% 20.2% 20.2% 20.2% 20.2% 20.2% 36.3% Sr. Secured Loans 32.5% Sr. Unsecured Bonds 64.2% Bond Ratings 8.25% Notes BBB BBB BB+ BB+ B- CCC+ CCC+ CCC+ 7.00% Notes BB+ B- CCC+ CCC+ CCC+ 12.25% Notes CCC+
Visteon's increasing levels of distress are shown by the heightened expectation for its default and investor losses, as determined using Visteon's bond equivalent ratings. These increasingly poor expectations for the company caused a spike in the firm's CDS spreads.44
43 Loss given default is derived from Edward I. Altman & Edith Hotchkiss, CORPORATE FINANCIAL DISTRESS AND BANKRUPTCY 323 (3rd ed. 2006). 44 Chart from Bloomberg.
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Similarly, the firm's debt and equity prices dropped sharply, with the firm's stock eventually trading at less than $1 and its notes being traded below 5% of face value.45
45 Chart from Bloomberg.
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In response to its decreased note prices, Visteon attempted to restructure by issuing
12.25% notes and repurchasing its 8.25% notes during June of 2008. Unfortunately, these actions were inadequate, causing Visteon’s 2008 annual report to include a statement by the company’s accounting firm that there were substantial doubts about Visteon’s ability to continue as a going concern.46 This going concern opinion triggered a default under Visteon’s debt covenants.47 The company was able to negotiate waivers from its creditors,48 buying the firm some time to try to avoid a bankruptcy filing, but faced an impending liquidity crisis, as shown below.49
At the end of 2008, Visteon retained legal and financial advisors to assist the company with its liquidity issues.50 Discussions with lenders and major customers were commenced in an effort to
46 Quigley, supra note 28, at ¶ 7. 47 Id. 48 Id. 49 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 13 (2010). 50 Visteon Corp., FORM 10-K at 2 (Mar. 31, 2009). Unlike many bankruptcies, Visteon's advisors felt like they were brought in at the appropriate time, not too late in the process. Snyder & Keiselstein, supra note 22.
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avoid the need to seek protection under Chapter 11;51 however, there were simply too many constituents and too few people to talk to in order to effectuate an out of court restructuring.52
Visteon filed for bankruptcy protection on May 28, 2009.
V. VISTEON'S BANKRUPTCY
Visteon filed for bankruptcy in Delaware for several reasons. First, the firm was incorporated in Delaware (like most other large, publicly traded companies), so it was legally permitted to file in Delaware.53 Second, Delaware offered a sophisticated judiciary capable of dealing with complex issues.54 Third, Delaware generally offers judges and substantive laws that are friendly to corporate needs.55 However, the judge that heard the Visteon case was not as friendly as most Delaware judges.56 Finally, a Delaware filing, away from Visteon's primary operations in Michigan, reduced the chance that employees and other disaffected locals would show up to court to air their grievances with the company.57
A. Acquiring DIP Financing
After Visteon's bankruptcy filing, the firm directed its efforts to finding DIP financing.58
This was a difficult period to obtain DIP financing, as hedge funds were already overexposed to the auto industry and it was in disfavor among traditional lenders.59 Visteon first tried to obtain a
DIP loan from the government, in the wake of other auto bailouts, with its efforts being unsuccessful.60 The company then targeted its large North American customers (Ford, GM,
51 See Visteon Corp., FORM 10-K at 2 (Mar. 31, 2009). 52 Snyder & Keiselstein, supra note 22. 53 Id. 54 Id. 55 Id. 56 Id. 57 Id. 58 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 17 (2010). 59 Snyder & Keiselstein, supra note 22. 60 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 17 (2010).
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Chrysler, and Nissan), but those efforts also failed.61 Visteon then turned to its term lenders and, in November 2009, a $150mm DIP financing from the term lenders was approved.62 Under the terms of the DIP credit agreement, Visteon borrowed $75mm during 2009 and was able to borrow the remainder under certain conditions if needed (but ultimately Visteon did not do so).63
The DIP loan was “issued at a 2.75% discount . . . with interest at variable rates equal to
(i) 6.50% (or 8.50% in the event a default), plus (ii) a Eurodollar rate (subject to a floor of 3.00% per annum)."64 Visteon also paid monthly a 1% annual fee on the unused portion of the
$150mm.65 The DIP credit agreement was set to expire at the earliest of May 18, 2010, on the effective date of Visteon’s plan of reorganization, or upon the sale of all or substantially all of
Visteon’s assets.66
B. Initial Negotiations
Following Visteon’s bankruptcy filing, the company had a series of negotiations with its stakeholders. Accommodation and support agreements were entered into with customers to generate added liquidity by accelerating payment terms, arranging for certain asset sales, providing payments for research and engineering, and generating cash surcharge payments.67 In exchange for the benefits underlying the accommodation agreements, Visteon agreed to continue producing and delivering products, to assist with shifting certain production to other suppliers, to allow customers to purchase tooling specific to their parts, and to gave security interests in assets needed for producing specific parts.68
61 Id. Visteon went so far as filing an emergency motion to shut down its plants making parts for Nissan to encourage Nissan to participate in the DIP facility. Snyder & Keiselstein, supra note 22. 62 Visteon Corp., FORM 10-K at 42 (Feb. 26, 2010). 63 Id. 64 Id. 65 Id. 66 Id. 67 Id. at 27. 68 Id. at 29.
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The accommodation agreement with Ford, with whom Visteon had a special relationship as discussed further below, included an exit fee of $8mm and the purchase of inventory associated with the transition of certain production lines to new locations.69 In addition to the accommodation agreement, Ford purchased all of Visteon's outstanding loans under its ABL
Credit Agreement, with a balance of $127mm owed to Ford at the end of 2009.70 This was an important tactical move, as it allowed Ford to block other stakeholders from dictating the course of the restructuring through the ABL facility.71 In May of 2009, the court allowed Visteon to provide Ford, as the secured lender under the ABL Credit Agreement, certain protections in exchange for the use of Ford’s cash collateral.72 The customer accommodation agreement with
GM provided $8mm in cash surcharge payments above the initial order price, reimbursement of
$10mm for consolidating certain facilities, reimbursement of $4mm in engineering and related costs, accelerated payments, and reimbursement of certain other costs.73 The accommodation agreement with Chrysler included surcharge payments of $13mm, $5mm for the purchase of certain Chrysler-specific tooling used at Visteon facilities, reimbursement of certain costs for winding down Chrysler production lines, accelerated payments, and payment of certain other costs.74 A similar agreement was entered into with Nissan.75 These customer accommodation agreements, with Visteon's DIP, shored up the firm's liquidity position.
Retirees were another important stakeholder that Visteon needed to address. In
December 2009, Visteon announced that it planned to eliminate certain other post-retirement
69 Id. 70 Id. at 63. 71 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 16 (2010). 72 Visteon Corp., FORM 10-K at 42 (Feb. 26, 2010). 73 Id. at 28. 74 Id. 75 Id.
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employee benefits (“OPEB”).76 These included health and life insurance benefits for current and future retirees. 77 Visteon’s plans were heavily contested and the company was ultimately forced to negotiate the issue due to a legal decision discussed further in Part V(D).
At the outset of Visteon's bankruptcy, some of Visteon's secured term lenders advocated that Visteon should be split up and sold piecemeal so that they could realize a 30% recovery when Visteon's debt was trading well below 20% of face value.78 They argued that trading prices demonstrated that Visteon's senior securities were in fact the fulcrum security, and that senior management had a fiduciary duty to act in their best interests.79 However, management resisted these pressures and took the time to perform a proper valuation, which showed Visteon's debt to be substantially undervalued.80 With a favorable valuation and the initial exclusivity period for filing a plan of reorganization, Visteon's management was able to avoid a quick move into a liquidation or sale process.
C. Relationship with Ford
1. Lessons on Spinoff Relationships.81
Visteon had a complicated relationship with Ford during its bankruptcy process, in large part because it was previously spun off from Ford. A spinoff involves a publicly traded corporate parent distributing shares in its subsidiary ("SpinCo") to its shareholders, often in the form of a pro rata dividend, creating a new and separate public company. Spun off entities commonly do not long precede the spinoff. Often, prior to a spinoff, business units, assets, and liabilities are moved between the corporate parent and SpinCo to meet the parent's goals for the
76 Id. at 29. 77 Id. 78 Snyder & Keiselstein, supra note 22. 79 Id. 80 Id. 81 Substantial portions of this section are derived from Todd R Snyder & Vik Jindal, THE BUSTED SPINOFF: LESSONS FOR DIRECTORS, available at www.rothschild.com/WorkArea/DownloadAsset.aspx?id=2147485043.
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spinoff. Corporate goals with these transactions include creating pure play securities, corporate refocusing, complying with adverse regulatory rulings, separating businesses from unrelated risks, enhancing shareholder value, and providing investors with liquidity. As discussed in Part
III, Ford had several of these goals in mind when it spun off Visteon. The process of allocating assets and liabilities between the parent and SpinCo can involve significant internal politics, as those officers and directors who will work for SpinCo begin to be treated as outsiders within the parent.
Before a spinoff occurs, a rigorous analysis of operational, governance, and corporate finance objectives should be conducted. Constraints must be considered in this process, such as the likely negotiating position of key constituents like unions, and post-spinoff relations between the parent and SpinCo should be analyzed and defined. For instance, the negotiating leverage between the parent and SpinCo post-spinoff should be scrutinized when the firms will have ongoing business interactions. Both Ford and GM remained highly dependent on their spun off parts manufacturers, Visteon and Delphi, and vice versa. This dependence benefitted Ford and
GM post-spinoff, as they could use their purchasing power to extract price discounts, encouraging the parts suppliers to diversify customers. However, once the parts manufacturers became distressed the balance of power reversed, as Ford and GM faced the risk of substantial business disruption.82 Monsanto's spinoff of Solutia offers a counter-example. When Solutia became distressed after its 1997 spinoff, its prior parent Monsanto was Solutia's supplier in key markets, providing Monsanto with substantial leverage.83 However, pre-bankruptcy Monsanto did make an advance payment for future deliveries and provided support to Solutia for
82 The parts manufacturers could shut down their lines servicing Ford or GM products, providing them with substantial negotiating leverage. Ford Motor Co., FORM 10-K at 25 (Feb. 26, 2009); see Visteon Corp., FORM 10-K at 1 (Mar. 16, 2006). This would typically be a unforgivable sin for an auto parts supplier, although this happened multiple times to Chrysler. Snyder & Keiselstein, supra note 22. 83 Monsanto eventually provided some capital to support a successful restructuring.
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contingent liabilities. Thus, comprehensive planning for ongoing business interactions post- bankruptcy is key. This can be done by establishing pre-spinoff long-term governing principles and operating procedures for the relationship, taking care to consider how these will work in cases of financial distress.
Ford entered into several agreements with Visteon pre-spinoff to manage the companies' relationship post-spinoff.84 The companies had sought to transfer all assets and liabilities relevant to Visteon's businesses to it pre-spinoff, but those assets and liabilities that could not be timely transferred were to be transferred as soon as possible with Visteon bearing the economic costs and benefits of these assets and liabilities in the interim. Ford assumed any product warranty or recall liabilities for Visteon parts made for model year 1996 or earlier Ford vehicles.
Visteon would accept all environmental claims for properties transferred to it, while Ford would accept any intellectual property claims for parts sold to Ford before July 31, 1999. Ford and
Visteon also entered into a pricing agreement that would largely treat Visteon like other Tier 1 suppliers, entitling Visteon to a right of last refusal to meet competitors' quotes for parts. Ford would provide Visteon with transitional services through December 31, 2001 at Ford's fully accounted cost, plus a reasonable overhead allocation. Visteon would be allowed to use tooling owned by Ford to produce components to sell to other parties in return for a fee. One of the more interesting areas of structuring was regarding employee assignment. The United Auto
Workers ("UAW") negotiated for Visteon's 23,580 hourly employees to indefinitely remain employees of Ford, with the costs being passed through to Visteon, including bonuses based on
Ford's performance and postretirement benefits. Ford did agree to assume pre-existing pension obligations for some Visteon workers who had already retired or were close to being eligible for
84 This paragraph is derived from Visteon Corp., FORM S-1A at 74–83 (Jun. 6, 2000).
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retirement. Regarding intellectual property, the parties agreed to a cross-license at no charge for technologies developed prior to August 1, 1999.
Once the spinoff occurs, SpinCo operates on a standalone basis run by its own board and officers, who owe duties to SpinCo's shareholders. At this time, SpinCo's new managers will have to confront the new challenges of running a public company, managing creditor and other investor relationships, and operating in a competitive marketplace as an independent company.
As the parent had likely selected SpinCo's initial board and officers from its own workforce, and those individuals can be expected to maintain communication with others at the parent, the separation of the two companies is often gradual. Of Visteon's top six post-spinoff managers, only one had not previously worked at Ford, and of Visteon's seven directors after the spinoff, only three had no prior experience with Ford.85 Thus, independent directors should be particularly vigilant post-spinoff regarding proposed transactions with the parent. Today, none of Visteon's top nine executives and fifteen board members have prior work experience at Ford.86
2. Busted Spinoffs.87
During the spinoff asset and liability allocation process, spun off entities may become overburdened as the parent company decides to shed problematic liabilities without losing valuable assets and businesses. The asset/liability allocation may be negotiated with branded
SpinCo officers and directors, but these agreements are far from arms-length as these individuals have reporting lines and responsibilities to the parent, will likely not have independent legal and financial advisors, and face professional and social pressures to accede to the parent's desires
85 Id. at 84–86. 86 Visteon Corp., SCHEDULE 14A at 4–5 (Apr. 30, 2009); Visteon Corp., SCHEDULE 14A at 4–6 (Apr. 27, 2011). 87 Substantial portions of this section are derived from Snyder & Jindal, supra note 81.
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until the spinoff occurs.88 As a result of such structuring in conjunction with market conditions,
SpinCos may later find that it is necessary to restructure (a "busted spinoff"), possibly through the use of the bankruptcy process. During SpinCo restructurings, parent/SpinCo relationships can be strained by SpinCo's failure to perform under contracts with the parent, and by lawsuits by SpinCo or its investors against the parent seeking remuneration. After Delphi filed for bankruptcy, it and GM sought to maintain a positive relationship due to their ongoing business and shared histories despite negotiations where GM eventually agreed to terms valued by Delphi at $10.6bn.89 However, after Tronox, a 2005 Kerr-McGee spinoff, became distressed, the
Tronox/Kerr-McGee relationship was very tense as the companies had no ongoing business relationship.
Parents must be concerned with the possibility that during a SpinCo restructuring, a claim may be made under 11 U.S.C. §544(b) or § 548 that the parent committed fraudulent conveyance by seeking to improperly benefit to the detriment of SpinCo.90 On these grounds, Kerr-McGee was sued for $15.5bn for dumping substantial environmental liabilities in Tronox to facilitate a sale of Kerr-McGee to Anadarko Petroleum. This litigation is still ongoing.91 Similarly,
Monsanto agreed to cover hundreds of millions of Solutia's liabilities after it was spun off and subsequently filed for bankruptcy.92 To avoid the potential for successful litigation following a busted spinoff, the parent's board must satisfy its fiduciary duties of "good faith, loyalty and due
88 It may also be hard for an employee of the parent to ask for more after being told that they will become the Chief Executive Officer of a new public company. 89 Press Release, Delphi Corp., Delphi and General Motors Enter Into Modified Settlement and Restructuring Agreements; GM to Provide Additional Support (Sept. 12, 2008), available at http://www.reuters.com/article/2008/09/12/idUS219840+12-Sep-2008+MW20080912. 90 For instance, 11 U.S.C. § 548(a)(1)(A) allows a bankruptcy trustee to avoid transfers made within two years before filing for bankruptcy "with actual intent to hinder, delay, or defraud any entity to which the debtor was or became." Section 544(b) allows transfers to be avoided by trustees using powers provided under state law. 91 See Tronox Inc. v. Anadarko Petroleum Corp., 464 B.R. 606 (Bankr. S.D.N.Y. 2012). 92 See Thaddeus Herrick & Scott Kilman, Solutia, Monsanto Agree to Pay $600 Million to Settle PCB Claims, WALL ST. J., Aug. 21, 2003, available at http://www.mindfully.org/Industry/2003/Monsanto-Solutia-Pay-%24600M- 21aug03.htm.
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care in designing and effectuating the transaction."93 Pre-spinoff consideration must be given to
SpinCo's ability to pay its debts post-spinoff under reasonable downside scenarios, and to ensuring that the asset/liability allocation does not unduly favor the parent over SpinCo. This requires careful thought, as a parent guarantee to pay for unexpected contingent losses can backfire, putting the parent in jeopardy. This happened when XL Capital spun off Security
Capital Assurance, making guarantees that would eventually cost it $2bn. On the other hand, a pre-spinoff agreement to provide SpinCo below market pricing may be terminable if SpinCo defaults, providing the parent with negotiating leverage. After a spinoff is completed, "case law suggests that [a parent] . . . generally do[es] not owe any fiduciary duties to the prospective shareholders of SpinCo."94
While Visteon was under distress, its relationship with Ford came under pressure. As discussed above in Part III, Visteon was already under financial pressure in 2005, and had begun a restructuring process. Given fears of fraudulent conveyance litigation in bankruptcy, Ford agreed to pay $300mm, forgive $2.4bn in employee related liabilities, and assume other liabilities for the worst businesses transferred to Visteon during the spinoff.95 As part of the transaction, Visteon provided Ford with warrants to purchase 25mm shares at an exercise price of $6.90 per share, and Ford provided $400mm for Visteon to use in its restructuring.96
Regarding these transactions, Ford incurred a pre-tax loss of $468mm.97
As Visteon neared its bankruptcy filing on May 28, 2009, Ford was worried about a fraudulent conveyance claim98 and its production being shut down by Visteon's actions.99
93 Snyder & Jindal, supra note 81, at 7. 94 Id. at 6–7. 95 Snyder & Keiselstein, supra note 22; Visteon Corp., FORM 10-K at 40 (Mar. 16, 2006). 96 Visteon Corp., FORM 10-K at 1–2 (Mar. 16, 2006). 97 Ford Motor Co., FORM 10-K at 25 (Feb. 26, 2009). 98 A creditor committee motion "requested the release of documents relating to Ford’s 2000 spin-off of [Visteon], and financial transactions between the two firms since then . . . . hoping to show that Ford forced losses onto the
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Visteon made approximately $3.1bn in sales to Ford during FY2008. Thus, as discussed in Part
V(B), pre-bankruptcy Ford "assumed and took an assignment of all of the outstanding loans, obligations and other interests" under Visteon's revolver.100 As of December 31, 2009, Visteon owed Ford $127mm under this facility.101 Post-filing, in return for a release from any potential liability and an agreement to ensure Ford continuity of supply, Visteon got Ford to reimburse it for up to $29mm in restructuring costs, release certain employee related obligations, release
$163mm in bankruptcy claims, and agree to place $600mm of new and replacement business with Visteon through 2013.102 This latter concession by Ford was particularly important, as auto manufacturers are very hesitant to contract with overleveraged parts manufacturers on new models, as a supplier bankruptcy could delay the new model or substantially increase costs.103
Thus, Ford regularly assessed its suppliers creditworthiness and had been keeping Visteon out of its future plans.104 In addition, Ford had previously agreed to release Visteon from certain OPEB obligations, resulting in a $9mm gain.105
Ultimately, Ford's experience with Visteon's spinoff demonstrates the risk that a parent runs of a busted spinoff, opening the gateway for legal liability, the renegotiation of contracts,
supplier, possibly securing better claims for creditors." Edward Niedermeyer, Visteon Creditors Blame Ford For Bankruptcy, THE TRUTH ABOUT CARS (Dec. 17, 2009), http://www.thetruthaboutcars.com/2009/12/visteon- creditors-blame-ford-for-bankruptcy/. 99 Visteon actually saw maintaining timely delivery with Ford as critical to its survival, as Ford provided Visteon with many benefits. Snyder & Keiselstein, supra note 22. Thus, Visteon felt that it needed to continue delivering on money losing contracts in some countries to maintain business in other countries, even though it could reject these contracts in bankruptcy court. Id. 100 Visteon Corp., FORM 10-K at 63 (Feb. 26, 2010). 101 Id. 102 Visteon Corp., FORM 10-K at 69 (Mar. 9, 2011). According to Visteon's advisors, these negotiations were actually quite amicable, as Visteon's advisors were sure that Ford would not be found liable for fraudulent conveyance and viewed Ford's relationship as critical. Snyder & Keiselstein, supra note 22. Thus, at one point, Visteon's lead counsel spent days walking Ford's General Counsel through its legal analysis that Ford faced no legal liability. Id. 103 Id. Ford was also working with Visteon on parts for 8 new models, and it would be costly to bring in another supplier. Id. 104 Id. 105 Visteon Corp., FORM 10-K at 69 (Mar. 9, 2011).
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and the operational risk from losing a key supplier. It also demonstrates the necessity of good pre-spinoff planning, and that planning may not be enough to avoid the risk of a busted spinoff.
3. Analysis of Parent/SpinCo Relationships.
One would expect the Z-scores of parent companies to have a high correlation to those of
SpinCos. As expected, Ford's Z-Score is a useful predictor of Visteon's. The relationship is significant at the 99% level, with the variation in Ford's Z-score explaining 72.5% of the variation in Visteon's Z-score. As Visteon is smaller and underwent a restructuring, its Z-score was much more volatile than Ford's, with the regression equation being Visteon = - 1.86 + 3.29
Ford. The Z-scores for Ford and Visteon are shown below.106 Unexpectedly, Ford's Z-score is not consistently higher than that of Visteon, which one would expect if Ford was overburdening
Visteon with liabilities prior to the spinoff.
Z-Scores of Ford and Visteon 3.50 1.75 3.00 1.60 2.50 1.45
2.00 1.30
Score
- Score 1.50 1.15 - Visteon
1.00 1.00 Ford Ford Z Ford
Visteon Z Visteon 0.50 0.85 0.00 0.70
(0.50) 0.55
2001 2002 2003 2004 2005 2007 2009 2010 2011 2006 2008 Year
In the other busted spinoff for which we have several observations, Monsanto's spinoff of
Solutia, we also see a positive relationship in Z'' scores between the parent and SpinCo. This relationship is significant at the 95% confidence level, explaining 42.4% of the variation in
106 Ford data from S&P Capital IQ.
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Solutia's Z'' scores. The equation is Solutia = - 6.63 + 1.70 Monsanto. The Z'' scores are shown in the chart below.107 As one might expect, Solutia's Z-score is consistently below Monsanto's.
Z'' Score of Monsanto and Solutia 5.0 2.0
4.5 1.0
4.0 0.0 Monsanto
3.5 (1.0)
Solutia Solutia Z''SolutiaScore MonsantoZ'' Score 3.0 (2.0)
2.5 (3.0)
2001 2002 2004 2005 2007 2008 2010 2011 2003 2006 2009 Year
Using data from Ford and Visteon, both manufacturers, it was possible to consider how close the relationship was between the Z- and Z'' scores. We would expect a strong relationship, given that the two scores share a majority of components. As expected, we observed statistically significant correlations at the 99% level between the Z- and Z'' scores for both Ford and Visteon.
With Ford, the Z-score explained 67.4% of the variation in the Z" score, and the Z-score explained 80.7% of the variation in the Z" score for Visteon. We would also expect the relationship between Z- and Z'' scores to be consistent among firms, as both scores are matched up to bond ratings. However, this is not the case, as the relationship in Ford's case is Z" = 0.415
+ 1.22 Z while the relationship in Visteon's case is Z" = - 3.77 + 2.33 Z. When a joint regression is run, the relationship between Z- and Z'' scores is not significant at the 99% level, with an R- squared of only 27.2%. We hypothesize that this may be due to nonlinearity in the scaling of Z-
107 Data from S&P Capital IQ.
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and Z'' scores to bond ratings, and to companies operating at different bond rating equivalents.
The Z- and Z'' scores of Ford and Visteon are shown below.108
Z and Z'' Scores of Ford and Visteon 4.0 3.0 2.0 1.0 Ford Z 0.0 (1.0) Ford Z'' Score (2.0) Visteon Z (3.0) (4.0) Visteon Z'' (5.0)
(6.0)
2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Year
D. Employment, Pension, and OPEB Litigation
In December 2009, Visteon was granted the right to terminate certain post-retirement health and life insurance benefits of employees by the bankruptcy court.109 This decision was appealed by multiple unions and affirmed by the district court.110 On July 13, 2010, the Third
Circuit reversed, issuing an unexpected ruling that Visteon could not unilaterally terminate health and life insurance benefits for its retirees during Chapter 11 even if it could have done so outside of bankruptcy.111 The court held that once Visteon had initiated the bankruptcy process,
Visteon was obligated to follow the specific requirements of the bankruptcy code.112 Retiree benefits could only be terminated if “the debtor negotiates in good faith with the retiree representative, the representative fails to consensually agree to the needed modifications and the
108 Ford data from S&P Capital IQ. 109 Visteon Corp., FORM 10-K at 130 (Mar. 9, 2011). 110 Id. 111 Douglas S. Mintz & Jonathan D. Canfield, Third Circuit Prohibits Visteon from Terminating Benefits Plan in Bankruptcy, RESTRUCTURING REVIEW (Oct. 25, 2010), available at http://www.cadwalader.com/list_newsletters.php?newsletter_type_id=7&newsletter_id=47. 112 Id.
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debtor demonstrates that the termination during the bankruptcy is necessary for the debtors' reorganization and treats all parties fairly.”113 On remand, the district court required Visteon to restore benefits to both its appealing and non-appealing retirees.114 Visteon appealed and subsequently reached a settlement where it would not have to extend benefits to non-appealing retirees.115 However, the UAW sued Visteon to stop it from terminating benefits for its members and hearings will not be held until May 2012.116
Visteon also faced retirement-related issues in other jurisdictions. In April 2010, a
German court ruled in favor of employees seeking additional pension benefits, leading more than
600 employees to seek additional benefits.117 Visteon reserved $8 million for additional claims.118 In addition, in June 2009 a U.K. regulator indicated that it was considering intervening in the bankruptcy of Visteon's U.K. subsidiary over potential pension plan funding deficiencies.119 On May 11, 2010, the pension trustees, creditors’ committee, and debtors entered into an agreement and the claims were withdrawn.120 The U.K. regulator indicated that it would not seek financial support from any related entities outside of the U.K.121
E. Performance in Bankruptcy
Visteon was not the only casualty of the poor auto industry conditions during 2008 and
2009. Appendix Exhibit 1 demonstrates how a wave of restructurings hit the auto industry following the subprime crisis and ensuing recession. The need for restructuring did not stop with parts manufacturers, but also struck car manufacturers and auto finance companies. However, as
113 Id. 114 Visteon Corp., FORM 10-K at 14 (Feb. 27, 2012). 115 Id. 116 Id. 117 Id. at 15. 118 Id. 119 Id. at 14–15. 120 Id. at 15. 121 Id.
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time passed during Visteon's bankruptcy, industry conditions improved. The fate of Visteon's customers became clearer with Ford surviving; GM exiting bankruptcy on July 10, 2009;122 and
Chrysler being sold to Fiat on June 10, 2010.123 In addition, the decline in U.S. light vehicle sales stopped around the time of Visteon's bankruptcy filing and subsequently began to reverse, as shown by the chart below.124 In part, sales may have been stimulated by the "Cash for
Clunkers" program, which ran from July 1, 2009 to August 24, 2009.125 Ford accounted for
14.4% of sales under the program.126 However, some have argued that "Cash for Clunkers" simply resulted in some consumers moving forward anticipated car purchases, resulting in little economic impact.127
122 Gary Hoffman, GM's Exit From Bankruptcy 101, AOL AUTOS (Jul. 10, 2009), http://autos.aol.com/article/gm- bankruptcy-questions/. 123 Chrysler Chapter 11 Reorganization, WIKIPEDIA (last visited Apr. 3, 2012), http://en.wikipedia.org/wiki/Chrysler_bankruptcy#Sale_to_.22New_Chrysler.22. 124 CALCULATED RISK: FINANCE & ECONOMICS (last visited Apr. 3, 2012), http://www.calculatedriskblog.com/. 125 Car Allowance Rebate System, WIKIPEDIA (last visited Apr. 3, 2012), http://en.wikipedia.org/wiki/Cash_for_Clunkers#Program_results. 126 Id. 127 Atif R. Mian & Amir Sufi, The Effects of Fiscal Stimulus: Evidence from the 2009 ‘Cash for Clunkers’ Program, SSRN (Sept. 1, 2010), available at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1670759.
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In response to the improved industry conditions, Visteon's Z-score improved in 2009.
This was the result of beneficial changes in the firm's working capital and earnings before interest and taxes ("EBIT") to total assets. The firm's improved EBIT was attributed to "cost reduction and restructuring programs," as Visteon realized a $290mm (or 30%) decrease in fixed costs from 2008 levels during its restructuring.128 In part, these fixed cost reductions were from
Visteon's efforts to negotiate with customers to exit unprofitable operations, allowing the firm to address 12 underperforming facilities.129 However, Visteon's increase in working capital was primarily from reclassifying its defaulted debt from current liabilities to long-term liabilities.130
128 Visteon Corp., FORM 10-K at 32 (Feb. 26, 2010); Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 34 (2010). 129 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 34 (2010). 130 Visteon Corp., FORM 10-K at 59 (Feb. 26, 2010).
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From a D bond equivalent rating in 2008, Visteon's Z-score recovered to a CCC bond rating equivalent in 2009. This rating is consistent with a 5-year cumulative loss of 36.29%.
Visteon's Z-Score in Bankruptcy 3.0 2.5 WC / TA 2.0 RE / TA 1.5 1.0 EBIT /
TA Score
- 0.5 MVE / Z 0.0 BV Liab. Sales / (0.5) TA (1.0) Z-Score (1.5) 2005 2006 2007 2008 2009 Year
Due to the improvement in Visteon's performance and market conditions, Visteon's note prices rallied, as is illustrated by the chart below.131 As would be expected, the pricing of the firm's term loans rallied sooner than the pricing of the firm's note issues, as the term loans were secured and the notes unsecured.
131 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 22 (2010).
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F. Negotiating Visteon's Plan of Reorganization
The rally in Visteon's note prices and increased valuations of Visteon resulted in
Visteon's secured creditors believing that they may achieve a full recovery.132 However,
Visteon's unsecured noteholders also realized that they may obtain a sizeable recovery.133
Visteon's secured lenders argued for a low valuation, claiming that they should receive full ownership of Visteon.134 Visteon's unsecured creditors disputed this assertion, leading to delay as negotiations occurred.135 As time passed, Visteon's performance improved further, making clear that Visteon's unsecured creditors would achieve a substantial recovery, and denying secured creditors their opportunity to obtain most of Visteon's equity at what would subsequently be shown to be a bargain.
132 Snyder & Keiselstein, supra note 22. 133 Id. 134 Id. 135 Id.
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As noted in Part V(C)(2), car manufacturers are hesitant to contract with parts manufacturers whose future is in doubt on new models, as a parts manufacturer failure could cause production delays and require using another parts manufacturer, at additional expense.136
With Visteon's bankruptcy dragging on in contentious valuation discussions, Visteon's business began to suffer as Visteon won less business.137 In an effort to increase the speed at which an agreement was reached, Visteon filed its first Plan of Reorganization even though the plan was viewed as not confirmable given the noteholders' valuation position.138 This plan sought the termination of the company's defined benefit pension plans, creating claims by the Pension
Benefit Guarantee Corporation ("PBGC").139 Thus, it would have provided secured term loan creditors with 96.2% of Visteon's common stock and a 100% estimated recovery, the PBGC with
3.8% of Visteon's stock and an estimated 12% recovery, and no recovery for unsecured creditors.140
Visteon's noteholders argued that the valuation of Visteon was too low, and that they should see a recovery. As market note prices rose and industry conditions improved, an amended plan was submitted with a change in the treatment of Visteon's pension plans allowing the unsecured creditors to realize a recovery.141 This reorganization plan contemplated a
$300mm exit financing and was expected to provide term lenders with a 100% recovery and
85% of Visteon's equity, holders of Visteon's 12.25% notes with a 55% recovery and 6.2% of firm equity, and general unsecured claims a 20% recovery and 8.8% of equity.142
136 Id. 137 Id. 138 Id. 139 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 18 (2010). 140 Id. 141 Id. at 20. 142 Id. It is surprising that the 12.25% notes were to be provided with a higher recovery, as they ranked "equally with the Company’s existing and future unsecured term debt," including the other notes. Visteon Corp., FORM 10-K at 96 (Mar. 31, 2009).
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Following the filing of Visteon's first amended plan, a significant group of noteholders formed an Ad Hoc Noteholder Committee to pursue options to pay off the secured term loans in cash.143 The committee supported a plan to raise $1.25bn in cash through direct purchases and rights offerings to take out the term loans.144 However, not all of the noteholders could be counted on to put an additional investment into Visteon, and some noteholders refused to put in more than a pro rata portion of the funds needed to take out the term loans, making the plan's success contingent on having a substantial portion of noteholders agree to the plan.145 Thus, the toggle plan was developed in Visteon's Second Amended Plan of Reorganization to avoid the business disruption associated with a plan's failure, resulting in a substantial destruction of value.146 To repay Visteon's term loans in full, including post-petition interest, the plan's Rights
Offering Sub Plan would use an exit facility with a $400mm term loan and raise $1.25bn in exchange for 95% of Visteon's equity, of which $950mm would be raised in a rights offering and
$300mm would be raised through direct purchase commitments.147 The remaining 5% of
Visteon's equity would be provided to noteholders based on pre-petition claims, with general unsecured claims receiving the lesser of a pro rata share of $141mm or a 50% recovery.148 If the
Rights Offering Sub Plan was unsuccessful in raising sufficient capital, the plan would toggle to the Claims Conversion Sub Plan.149 This sub plan would follow the form of the First Amended
Plan of Reorganization, with term loan holders obtaining approximately 85% of Visteon's equity and noteholders receiving 15%, while providing general unsecured claims the same treatment as
143 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 23 (2010). 144 Id. 145 Snyder & Keiselstein, supra note 22. 146 Id. 147 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 24, 25 (2010). The $950mm rights offering was backstopped by the investors with direct purchase commitments. Id. at 24. 148 Id. 149 Id.
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under the Rights Offering Sub Plan.150 Unlike the Rights Offering Sub Plan, the Claims
Conversion Sub Plan would consider the term loan facility claims to be impaired, allowing term loan creditors to approve the plan, facilitating a judicial cramdown over the noteholders' objections.151 Because Visteon's situation had markedly improved since the first amended plan, with higher debt trading prices, Visteon's noteholders had an economic incentive to ensure that the Rights Offering Sub Plan worked, as it could be expected to provide a higher recovery. This incentive structure allowed the toggle plan to alleviate the risk of plan failure and value destruction.
Members of Visteon's Ad Hoc Noteholder Committee were provided access to confidential information about Visteon, such as management forecasts, if they agreed to restrict their trading of Visteon securities.152 This information was provided in part so that these creditors could intelligently assess the Rights Offering Sub Plan, given the unwillingness of investors to provide capital without full information, and convince other creditors to approve the plan.153
On May 7, 2010, Johnson Controls ("JCI"), a competitor, offered to buy Visteon's electronics and interiors businesses for $1.25bn in cash.154 The offer was subject to due diligence.155 JCI had previously abandoned an acquisition of Visteon's electronics business.156
The offer failed as Rothschild advised that it undervalued the businesses and provided significant
150 Id. 151 Visteon Corp., FIFTH AMENDED JOINT PLAN OF REORGANIZATION OF VISTEON CORPORATION AND ITS DEBTOR AFFILIATES PURSUANT TO CHAPTER 11 OF THE UNITED STATES BANKRUPTCY CODE 21 (Sept. 7, 2010); 11 U.S.C. § 1129(b). 152 Snyder & Keiselstein, supra note 22. 153 Id. 154 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 27 (2010). 155 Id. 156 Id.
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execution risk.157 Amidst the offer and Visteon's continuing recovery, Visteon's stock prices traded up sharply, as shown below.158
Hedge funds had purchased substantial portions of stock and formed an Ad Hoc Equity
Committee.159 They argued that Visteon's high bond trading prices and JCI's bid showed that all of Visteon's bonds could be refinanced by the existing creditors of the firm.160 Eventually, a settlement was reached whereby the shareholders would receive stock and warrants in Visteon equity under the plan, and $4mm in legal advisor fees.161
While some hedge funds sought advantage through Visteon's equity, others purchased unsecured trade claims and sought a participation in the rights offering alongside Visteon's
157 Id. 158 Id. at 29. 159 Id. at 28. 160 Snyder & Keiselstein, supra note 22. 161 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 28 (2010).
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noteholders.162 No agreement was reached with these funds, and confirmation objections were
eventually overruled by the bankruptcy court.163
Incorporating the results of these negotiations, Visteon's Fifth Amended Plan of
Reorganization was filed on Sept. 7, 2010 and confirmed on August 31, 2010.164 The plan
envisioned a $700mm exit financing, including a $500mm term loan and $200mm revolver.165
From three commitment proposals, Morgan Stanley's was selected as the best option, offering
interest at LIBOR + 6.25%, with a 1.75% LIBOR floor.166 A summary of the plan's sources of
cash and treatment of claims under the Rights Offering Sub Plan is shown below.167
(in millions except per share data)
Sources of Cash Equity Rights Offering 950 Direct Equity Purchases 300 Noteholder Capital Raise (for 1,250 45mm shares) Exit Financing Term Loan 500 Exit Financing Revolver 200 Cash & Equivalents (9/30/2010) 1,113 Total Sources of Cash 3,063
162 Id. at 30. 163 Id. 164 Id. at 31. 165 Visteon Corp., FORM 10-K at 95, 96 (Mar. 9, 2011). 166 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 32 (2010). 167 Visteon Corp., FIFTH AMENDED JOINT PLAN OF REORGANIZATION OF VISTEON CORPORATION AND ITS DEBTOR AFFILIATES PURSUANT TO CHAPTER 11 OF THE UNITED STATES BANKRUPTCY CODE (Sept. 7, 2010); Visteon Corp., FORM 10-K at 75, 76 (Mar. 9, 2011); Rothschild, VISTEON PRELIMINARY VALUATION ANALYSIS 9, 11, 13, 15 (2010).
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Average Treatment of Claims under the Rights Offering Sub Plan Forecasted Shares of Subscription Class Claim Cash Warrants Recovery Common Stock Rights ABL Credit Facility (Ford) 127 100.0% 127 Term Loan Facility Claims 1,629 100.0% 1,629 7.00% and 8.25% Senior Notes 668 8.5% 1.9mm shares Yes For 2.4mm shares at 12.25% Senior Notes 202 32.5% 0.6mm shares Yes $9.66 strike price General Unsecured Claims 203 50.0% 101 For 1.6mm shares at Equity 1mm shares $58.80 strike price 1.7mm restricted Management Incentive Plan shares Total 2,829 1,858
Visteon successfully emerged from bankruptcy on October 1, 2010 under the Rights Offering
Sub Plan.168 This significantly deleveraged capital structure placed Visteon in a competitive
position in the auto parts industry.169
VI. POST-BANKRUPTCY OPERATIONS
As discussed in Part V(E), the auto parts industry began to recover while Visteon was in
bankruptcy. This recovery continued after Visteon emerged. The chart below shows the
improvement in auto parts industry conditions from 2009 to 2011, with a substantial increase in
the number of investment grade firms using bond rating equivalents (from 33.3% to 52.2%), and
a substantial decrease in the number of firms rated at CCC, CC, or D (from 18.5% to 4.3%).170
168 Visteon Corp., FORM 10-K at 26 (Mar. 9, 2011). 169 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 34 (2010). 170 Data on 29 auto parts manufacturers operating in the U.S. with market capitalizations greater than $100mm from S&P Capital IQ.
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Bond Rating Equivalents in Auto Parts Industry 100%
80%
60%
40%
20% PercentageofFirms
0% 2008 2009 2010 2011 Year AAA AA A BBB BB B CCC/CC D
In part due to these improving industry conditions, Visteon substantially outperformed expectations. In 2011, Visteon's first full year after emergence, the firm generated sales of
$8.0bn, well above 2009 and 2010 sales of $6.7bn and $7.5bn, respectively.
Visteon's Sales 12,000
10,000
8,000
6,000 ($mm) 4,000
2,000
0 2007 2008 2009 2010 2011
Fiscal Year
As shown below, Visteon achieved these improvements by increasing sales in Asia while its sales were declining in North America. 171
171 Visteon Corp., FORM 10-K at 107 (Feb. 27, 2012).
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Visteon also substantially changed its product mix. As shown below, Visteon’s climate product group contributed a significantly higher percentage of sales in 2011 than pre-bankruptcy in 2008, while electronics provided a lower portion of sales. 172
2008 Sales by 2011 Sales by Product Product Lighting Lighting 5% 6%
Climate Interiors 32% Interiors 29% 28% Climate 49%
Elec- Elec- tronics tronics 34% 17%
Ford's special relationship may be waning with Visteon as by 2011 Ford was no longer Visteon’s largest customer. As shown below, Hyundai had replaced Ford, making up 31% of Visteon's
2011 sales.173
172 Visteon Corp., FORM 10-K at 127 (Mar. 31, 2009); Visteon Corp., FORM 10-K at 105 (Feb. 27, 2012).
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2008 Sales by 2011 Sales by Customer Customer
Ford / Hyundai Other Mazda 31% 35% 34% Other 42%
Hyundai Ford / Kia Nissan / 27% Renault 22% 9% ,
Visteon's strong post-bankruptcy performance is also demonstrated by its performance relative to expectations. In both 2010 and 2011, the company substantially outperformed management projections for both Revenue and EBITDA.
Revenue EBITDA 2010 2011 2010 2011 Actual 7,323 8,047 745 658 Projected by Management 6,435 6,550 394 521
Post-bankruptcy, Visteon also benefitted from a substantially de-levered capital structure.
As shown below, Visteon's debt to equity ratio had substantially improved post-bankruptcy.
173 Visteon Corp., FORM 10-K at 8 (Mar. 31, 2009); Visteon Corp., FORM 10-K at 4 (Feb. 27, 2012).
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Visteon's Post-Bankruptcy Capital Structure 5,000 4,500 4,000 3,500 MVE 3,000 2,500 Book debt
($mm) 2,000 1,500 Cash and 1,000 equivalents 500 0 2008 2009 2010 2011 Year
Visteon's strong performance and decreased leverage improved its credit ratios, providing the firm with substantially higher interest coverage ratios and much lower book debt to EBITDA and market debt ratios.
Post-Bankruptcy Financial Metrics
25 100%
20 80% Interest coverage ratio 15 60% Book debt to 10 40% EBITDA
Market debt 5 20% ratio
0 0% 2008 2009 2010 2011 Year
Thus, Visteon's Z-score improved to a bond rating equivalent of BBB in 2010 and BB in 2011, in comparison to rating equivalents of D in 2008 and CCC in 2009. These rating equivalents can also be compared to Visteon's B+ rating on a new 6.75% notes issuance in 2011. Visteon's 2010 and 2011 bond rating equivalents are consistent with 5.75% and 10.96% 5-year cumulative
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mortality rates, respectively, and 5-year average cumulative losses of 3.81% and 6.57%.
Visteon's Z-score decomposition, provided below, shows that the improvement in Visteon's Z- score was due to improved performance in nearly all of the Z-score component factors.
Visteon's Z-Score Post-Bankruptcy 3.5 3.0 WC / TA 2.5 RE / TA 2.0 1.5 EBIT /
1.0 TA Score - MVE / Z 0.5 0.0 BV Liab. Sales / (0.5) TA (1.0) Z-Score (1.5) 2008 2009 2010 2011 Year
In conjunction with Visteon's improved financial ratios, discussed above, Visteon's improved Z- scores show a low likelihood that a Chapter 22 filing will be necessary any time in the near future.
Given Visteon's strong performance, deleveraged capital structure, reduced risk of distress, and improved macroeconomic conditions, Visteon's stock and 6.75% notes have performed well in the markets. Visteon's beta has dropped from above 3.5 pre-filing to approximately 1.5 today.174 As can be seen below, the market also perceives a low risk of a
Chapter 22 filing any time soon, as Visteon's 6.75% notes have traded very close to par.175
These notes do not include any affirmative financial covenants.176
174 Betas calculated using weekly returns on Bloomberg from June 1, 2007 to May 22, 2009, and from October 1, 2010 to March 23, 2012. 175 Chart from Bloomberg. 176 Visteon Corp. & Bank of N.Y. Mellon Trust Co., INDENTURE FOR 6.75% SENIOR NOTES DUE 2019 (Apr. 6, 2011).
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VII. DEMONSTRATION OF THE SENSITIVITY OF VALUATIONS IN BANKRUPTCY
Visteon's valuation provides an excellent opportunity to demonstrate the sensitivity of valuation in bankruptcy. To facilitate this demonstration, we created a discounted cash flow
("DCF") model to value Visteon as of December 31, 2009, using only the information available at that time. This is the information that would have been available to Visteon's advisors as they negotiated Visteon's plan of reorganization. As we were seeking to value Visteon's equity post- bankruptcy, we had to make several pro forma adjustments to correctly value Visteon. We anticipated how Visteon's capital structure would change under the last plan of reorganization with the rights offering, payoff of debt, conversion of debt to equity, and use of exit financing.
We adjusted Visteon's beta for the change in capital structure, unlevering and relevering it. We also took the interest rate on Visteon's exit financing, executed at arms-length with a new lender, to be indicative of Visteon's post-bankruptcy cost of debt. We found Visteon's marginal tax rate
April 10, 2012 Restructuring Visteon Page 48 of 62
based on the countries in which it operates.177 Finally, using the 30-year treasury yield and historical equity risk premium, we were able to calculate Visteon's post-bankruptcy weighted average cost of capital.178
To estimate future cash flows, we calculated recurring EBIT. Next, we found it necessary to normalize depreciation and amortization, capital expenditures, and investments in working capital. We expected depreciation and amortization to drop in coming years (as it had in the past several years) due to the substantial declines in Visteon's revenues and capital assets.
As could be expected, Visteon was minimizing its capital expenditures when in financial distress. To estimate future free cash flows to equity ("FCFE"), we adjusted Visteon's interest expense based on its changed capital structure and assumed no proceeds from new debt issues.
Management projected Visteon's revenues and EBITDA to grow at 3.3% and 18.9%, respectively, over the next four years. However, Visteon had shrunk dramatically since its spinoff and would continue to operate in a very competitive industry. Thus, we used a 10% four- year growth rate and a 2% terminal growth rate in our base case analysis. This resulted in an estimated equity value of $2,215mm, or $44.12 per share. This is within Rothschild's valuation range for Visteon, from $1,575mm to 2,565mm.179 To demonstrate the sensitivity of our DCF model, we considered the sensitivity of our model to different betas, growth rates, and EBIT margins, also analyzing the accuracy of the management projections underlying DCF valuations in bankruptcy.
177 Marginal tax rates by country are available at Aswath Damodaran, DAMODARAN ONLINE (last visited Apr. 1, 2012), http://pages.stern.nyu.edu/~adamodar/ (click "Updated Data" and then "Marginal tax rate by country"). 178 The historical risk premium is available at Aswath Damodaran, DAMODARAN ONLINE (last visited Apr. 1, 2012), http://pages.stern.nyu.edu/~adamodar/ (click "Updated Data" and then " Historical Returns on Stocks, Bonds and Bills - United States"). 179 Rothschild, VISTEON PRELIMINARY VALUATION ANALYSIS 9, 11, 13, 15 (2010).
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There is substantial discretion for choosing different betas. With historical betas, subjectivity is present in the selection of the index used in the calculation (S&P 500 or an international index), time period considered (2 years or longer), and how often returns are calculated (weekly or monthly). Historical betas must be adjusted for the expected change in a bankrupt company's capital structure. Given the issues with historical betas,180 industry betas and bottom-up betas can be used. Given these alternatives, the low beta was 0.88 and the high beta was 3.53, as can be seen in Appendix Exhibit 3.181 The chart below provides a histogram of the betas of auto parts manufacturers, with the median 5-year beta being 1.94 and the median 2- year beta being 1.55.182
Betas of Auto Parts Manufacturers 9 8 7 6 5 5 Year 4 Beta 3 2 2 Year Number Number Firmsof 1 Beta 0
Beta
The following chart demonstrates the considerable effect that beta choice can have on our model, with calculated equity values ranging from $3,158mm to $1,250mm for betas ranging from .75 to 2.50.
180 Aswath Damodaran, APPLIED CORPORATE FINANCE 139 (3rd ed. 2011). 181 Rothschild used an unlevered beta of 0.7 to 0.8, with an assumed 30% debt ratio. Rothschild, VISTEON PRELIMINARY VALUATION ANALYSIS 26 (2010). However, beyond the equity risk premium, they added size and industry risk premiums in deriving a cost of equity. Id. 182 Data from S&P Capital IQ.
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Sensitivity of Equity Value to Beta 3,500
3,000
2,500
2,000
($mm) 1,500
1,000
500
0 0.75 1.00 1.25 1.50 1.75 2.00 2.25 2.50 Beta
We next considered the various possibilities for growth rates. Visteon's revenue had steadily declined since the firm's spinoff, with a CAGR of -11.2%. Over the same time period,
Visteon saw declines in FCFE from its highs. As discussed above, management projected
Visteon's revenues and EBITDA to grow over four years at 3.3% and 18.9%, respectively.183
Finally, the industry's growth rate is expected to be 11.46% over five years,184 with a median firm growth rate of 18%. Shown below is a histogram of auto parts manufacturers' forecasted long-term earnings per share growth rates.185
183 Rothschild used management projections in its valuation, with a terminal growth rate of 0% to 2%. Rothschild, VISTEON PRELIMINARY VALUATION ANALYSIS 25 (2010). 184 Yahoo Finance. 185 Data from S&P Capital IQ.
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Long-Term EPS Growth Rates for Auto Parts Manufacturers 7 6 5 4 3 2 Number Number Firmsof 1 0 <5% 5-10% 10-15% 15-20% 20-25% 25-30% >30% Long-Term EPS Growth Rate
The chart below shows that Visteon's calculated equity value ranges from $1,382mm to
$2,510mm for growth rates between 0% and 5%.
Sensitivity of Equity Value to Growth Rate 3,000
2,500
2,000
1,500 ($mm) 1,000
500
0 0.00% 1.00% 2.00% 3.00% 4.00% 5.00% Growth Rate
EBIT margin is another key input in a DCF valuation. Visteon's EBIT margin was 4.34% in 2009, with its recurring EBIT margin being 4.64%. The firm's average recurring EBIT margin
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from 2004 to 2009 was 3.59%, while the median industry EBIT margin was .01% in 2009. The histogram below shows industry EBIT margins in 2009.186
EBIT Margin of Auto Parts Manufacturers 14 12 10 8 6 4
Number Number Firmsof 2
0
-
-
5%
-
0%
10%
15%
-
-
0
(5%)
(5%)
>15%
5
(10%)
<(10%) 10 EBIT Margin
As a DCF values a firm based on future cash flows, it is appropriate to use a recurring EBIT margin in DCF valuations. The chart below shows the substantial effect that small changes in
EBIT margin expectations have on Visteon's valuation, with the calculated equity value extending from $614mm to $3,042mm for EBIT margins of 2% to 6%, respectively.
Sensitivity of Equity Value to EBIT Margin 3,500 3,000 2,500 2,000
($mm) 1,500 1,000 500 0 2.00% 3.00% 4.00% 5.00% 6.00% EBIT Margin
186 Data from S&P Capital IQ.
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Management projections, which may be instrumental in forecasting EBIT margins,187 are also subject to selective judgment. This is particularly important given the potential incentives for management to undervalue or overvalue a firm operating in bankruptcy. An overvaluation may help management to avoid a liquidation and subsequent job loss, while an undervaluation sets low expectations and places management in a position to profit on incentive compensation. A comparison of Visteon's management projections to actual results is shown below. This demonstrates that management can make substantial errors in their estimates in bankruptcy, even failing to predict the directional change in such key numbers as revenue and EBITDA. Thus, poor management forecasts may decrease the accuracy of DCF valuations, by influencing operating assumptions such as the EBIT margin used.
Revenue EBITDA 2010 2011 2010 2011 Actual 7,323 8,047 745 658 Projected by Management 6,435 6,550 394 521 Difference (% of projected) 14% 23% 89% 26% Difference (% of expected change) -355% 1302% -131% 108%
Given the importance of the variables discussed above and the difficulty of selecting an appropriate value, a non-expert bankruptcy judge can be expected to face difficulty in selecting an appropriate DCF valuation model.
Judges are in little better position with relative valuations, however, as these valuations are subjective in the selection of comparable firms and multiples. The chart below shows the enterprise value to EBITDA multiple for auto parts manufacturers as of year-end 2009.188 The significant left and right tails are likely a byproduct of the significant effect that the recession had
187 Rothschild based its DCF valuation of Visteon on management projections. Rothschild, VISTEON PRELIMINARY VALUATION ANALYSIS 25 (2010). 188 Data from S&P Capital IQ. Visteon had recurring 2009 EBITDA of $662mm.
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on auto parts manufacturers, causing many firms to have negative or very low levels of
EBITDA.
EV/EBITDA Multiple for Auto Parts Manufacturers 18 16 14 12 10 8 6 4 Number Number Firmsof 2 0
EV/EBITDA Multiple
As Appendix Exhibit 4 demonstrates, many different enterprise and equity values for Visteon can be generated using different multiples and sets of comparable firms. Thus, relative valuations also provide substantial room for disagreement, leaving room for valuation fights and substantial litigation costs in bankruptcy.
VIII. FAIRNESS OF PLAN VALUATION TO SECURITY HOLDERS
A goal of the bankruptcy process is to be "fair and equitable" to security holders.189
Given that goal, it is common for bankruptcy judges and security holders to rely on valuations provided by financial experts. Rothschild valued Visteon in bankruptcy using the three standard valuation methodologies of DCF valuation, comparable trading multiples, and transaction multiples.190 Rothschild evenly weighted results under the three methodologies, recognizing the
189 11 U.S.C. § 1129(b). 190 Rothschild, VISTEON PRELIMINARY VALUATION ANALYSIS 3 (2010).
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limitations of each valuation technique.191 Rothschild's valuation, which resulted in the success of the Fifth Amended Plan of Reorganization, valued Visteon's equity at between $1,575mm and
2,565mm.192 As provided in Part V(F), this valuation was expected to result in average recoveries of 8.5% on Visteon's 7.00% and 8.25% notes, 32.5% on Visteon's 12.25% notes, and
50.0% on Visteon's general unsecured claims. Rothschild's valuation is important, as it influenced the allocation of value among Visteon's claimants. For instance, if Rothschild's valuation was too high, noteholders may have overpaid for Visteon's equity in the rights offering.
If the valuation was too low, Visteon's original shareholders may have not been provided the fair value of their shares through the plan, resulting in the overcompensation of the noteholders.
Based on Visteon's stock price history, it is possible to analyze both the equity value of
Visteon and the effective recovery of Visteon's security holders under the plan of reorganization.
The chart below shows that Rothschild underestimated Visteon's post-reorganization equity value, or market capitalization, with its valuation.193
191 Id. at 4. For instance, many underlying assumptions in valuation are predicated on assuming efficient markets, and there may be a lack of truly comparable trading companies and relevant transactions. Snyder & Keiselstein, supra note 22. 192 Rothschild, VISTEON PRELIMINARY VALUATION ANALYSIS 9, 11, 13, 15 (2010). 193 Data from Yahoo Finance.
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Visteon's Market Capitalization 4,000 3,500 Market 3,000 Cap 2,500
Rothschild ($mm) 2,000 High 1,500 Rothschild
1,000 Low
2012
2012
2011
2011
2011
2011
2011
2011
2010
2010
-
-
-
-
-
-
-
-
-
-
Jan
Jun
Oct
Feb
Sep
Apr
Dec
-
Mar
Aug
Nov
-
-
-
-
-
-
-
-
-
2
5
2
3
4
1
28
30
28 29 Date
As a consequence of this, Visteon's noteholders obtained a substantial amount of overcompensation through the plan of reorganization.194 Noteholder recoveries based on
Visteon's share price would range from 70% to 282%, with a median of 192%, depending on when noteholders sold their shares and exercised their warrants post-bankruptcy. Actual recoveries are likely to be higher, as distressed investors, such as hedge funds, likely bought
Visteon's notes at distressed prices. The calculated recoveries equate to undercompensation of
$261mm to overcompensation of $1,586mm, with a median of $804mm in overcompensation. It is likely that many of Visteon's noteholders sold their shares within several months of Visteon's successful emergence from bankruptcy, locking in higher recoveries than would be available by selling today. The calculated noteholder recoveries and overcompensation are shown below.195
194 Note that we assumed that the rights offering would be priced at fair value and generate a return equal to Visteon's post-bankruptcy cost of equity. Thus, we considered all noteholder recoveries above the $871mm in claims and $1.25bn raised through the rights offering grossed up at the cost of equity to be overcompensation. 195 Data from Yahoo Finance.
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Average Noteholder Recovery 2,100 300% 1,750 250% 1,400 200% 1,050 150% ($mm) 700 100% 350 50%
0 0%
2012
2011
2011
2012
2010
2010
2011
2011
2011
2011
-
-
-
-
-
-
-
-
-
-
Jan
Jun
Oct
Sep
Feb
Apr
Dec
-
-
Mar
Aug
-
Nov
-
-
-
-
-
-
-
2
5
2
3
4
1
28
30 28 Date 29 Noteholder Overcompensation Avg. Noteholder Recovery
Shareholders could argue that they were not treated fairly under the plan, as the overcompensation of Visteon's noteholders comes directly from the pockets of Visteon's pre- bankruptcy shareholders. However, during bankruptcy proceedings there is a high level of business, financial, and industry uncertainty, compounding the difficulties of valuation. In addition, it is rare for shareholders to receive any post-reorganization equity after a Chapter 11 proceeding. However, given the low predicted recoveries calculated by Rothschild, the recoveries observed in the Visteon case were very high, even for the strong performance of the distressed markets in 2009 and 2010.196
IX. CONCLUSION
Visteon's bankruptcy demonstrates the multi-faceted field of modern reorganization and offers several lessons. The firm was spun off from Ford and became increasingly distressed, as shown by a declining Z-score, due to recurring losses. Visteon was forced into bankruptcy by the sharp decline in auto sales during the financial crisis. Visteon's bankruptcy demonstrates the
196 In 2009 and 2010, high yield bond returns averaged 55.2% and 14.3%, respectively. Edward I. Altman & Brenda J. Kuehne, DEFAULTS AND RETURNS IN THE HIGH-YIELD BOND AND DISTRESSED DEBT MARKET: THE YEAR 2011 IN REVIEW AND OUTLOOK 32 (2012).
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power of companies to extract concessions from counterparties in bankruptcy. When Visteon filed, there was little outside availability for a DIP loan, so it sought DIP financing from the government, its customers, or its term lenders, and eventually obtained a lender financed DIP loan. Visteon extracted concessions from its customers with the threat of supply disruption, and from Ford with the possibility of a fraudulent conveyance claim. To avoid such claims, parents must carefully structure spinoffs, ensuring that the spun off subsidiary should be able to survive in reasonable downside scenarios. Visteon also sought to unilaterally terminate employee benefits in bankruptcy, making precedent when it was not allowed to do so even when it could outside of bankruptcy.
The Visteon bankruptcy also illustrates the downside of taking overly aggressive negotiating positions. Visteon's term lenders would have likely succeeded in an early plan of reorganization if they provided noteholders with a minimal recovery. However, by taking the extreme position that noteholders should get no recovery, they allowed time for Visteon's business and security prices to recover, leading them to be taken out under the innovative toggle plan that provided an incentive for noteholders to commit capital through the risk that a less favorable plan might be approved. Visteon's bankruptcy demonstrates the flaw in taking extreme positions given the sensitivity of valuation in bankruptcy, leading term lenders to only receive a full recovery while noteholders received substantial overcompensation to the detriment of
Visteon's pre-bankruptcy shareholders. Since plan confirmation, Visteon's performance has exceeded expectations and the company demonstrates a low risk of a Chapter 22 filing. Thus,
Visteon's bankruptcy exemplifies the creativity and intense negotiations that occur in modern bankruptcies, providing lessons for future spinoffs and other troubled firms.
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Appendix
Exhibit 1. Wave of Auto Industry Restructurings Following Recession.197
197 Rothschild, OVERVIEW OF THE VISTEON CORPORATION RESTRUCTURING 9 (2010).
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Exhibit 2. Timeline.
o 2000: Spun off from Ford.
o 2005: Transferred 23 North American facilities back to Ford.
o 2006 – 2008: Evaluated 30 facilities for restructuring, closed 14 and divested 7.
o December 2008: Retained financial advisors.
o Early 2009: Evaluated strategic alternatives.
o May 2009: Chapter 11 filing.
o June – November 2009: Secured DIP financing.
o December 2009: Filed Plan of Reorganization.
o Early 2010: Developed Toggle Plan and filed Amended Plans of Reorganization.
o June 2010: JCI offer.
o August 2010: Confirmed Plan of Reorganization.
o October 2010: Emerged from Chapter 11.
Exhibit 3. Betas Considered.198
Bloomberg Betas Betas: Using S&P 500 Unadjusted Weekly Monthly Adjusted Weekly Monthly 5-year 3.437 3.436 5-year 2.625 2.624 2-year 3.530 3.289 2-year 2.687 2.526 Betas: MXEA Index Unadjusted Weekly Monthly Adjusted Weekly Monthly 5-year 2.879 3.436 5-year 2.253 2.624 2-year 3.124 2.466 2-year 2.416 1.977 3-year Beta Unlevered and Relevered 1.158 Damodaran Betas Avg. Levered Auto Parts Beta 1.700 Avg. Unlevered Industry Beta Adjusted for Cash and Relevered 0.883
198 Damodaran betas were from Aswath Damodaran, DAMODARAN ONLINE (last visited Apr. 1, 2012), http://pages.stern.nyu.edu/~adamodar/ (click "Updated Data" and then "Levered and Unlevered Betas by Industry").
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Exhibit 4. Subjectivity of Multiples Based Valuation.199
(in millions except per share data)
Visteon Multiples Based Valuation Comparables Based Valuation Auto Parts Industry Average Average of Key Comparables Enterprise Equity Value Enterprise Equity Value Multiple Used Equity Value Equity Value Value per Share Value per Share Price to book NMF NMF NMF NMF NMF NMF PBV/ROE NMF NMF NMF NMF NMF NMF Price to asset value1) 1,959 2,489 49.59 1,322 1,852 36.90 Trailing price to sales1) 2,588 3,118 62.11 1,271 1,801 35.88 Forward price to sales1) 2,264 2,794 55.66 1,107 1,637 32.61 Trailing EV to sales 6,464 6,994 139.32 4,810 5,340 106.38 Forward EV to sales 5,793 6,323 125.95 4,371 4,901 97.63 Trailing EV to EBITDA2) 9,176 9,706 193.34 8,061 8,591 171.14 Trailing EV to EBIT2) 11,056 11,586 230.80 14,737 15,267 304.13 Trailing price to earnings NMF NMF NMF NMF NMF NMF Trailing PEg ratio NMF NMF NMF NMF NMF NMF Average 5,614 6,144 122.40 5,097 5,627 112.09 Average Excluding Outliers 6,128 6,658 132.63 4,591 5,121 102.00 Median 5,793 6,323 125.95 4,371 4,901 97.63 High 11,056 11,586 230.80 14,737 15,267 304.13 Low 1,959 2,489 49.59 1,107 1,637 32.61 1) Designated as an outlier due to Visteon's substantially lower leverage post-reorganization in comparison to comparables. 2) Designated as an outlier due to the poor performance of many auto parts manufacturers in 2009, inflating multiples.
199 Data from S&P Capital IQ. Auto parts industry average generated using data from 29 auto parts manufacturers operating in the U.S. with market capitalizations greater than $100mm. Selected key comparables included Lear, TRW Auto Holdings, Tenneco, and Dana Holding. These four firms were selected for their focus on auto parts.
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