The report of US Bankruptcy Court appointed examiner Kenneth Klee is in and it seems to contain something about the Tribune Company bankruptcy case to disappoint everyone involved. The bottom line is that it doesn’t change the bottom line very much.
Bondholders from before the company was taken private in a heavily-leveraged buyout led by Sam Zell had claimed that the LBO amounted to a “fraudulent conveyance” because the company had no possibility of supporting its new debt load. If the bankruptcy court were to rule in their favor on that, those early bondholders would likely move up in the claim ranking and receive more in the eventual Chapter 11 reorganization plan.
But Klee, in his 700-page report, concluded that “Step One” of the LBO, selling Tribune Company to an Employee Stock Ownership Plan (ESOP) in mid-2007, while highly leveraged with $8.2 billion of new debt, did not appear to be doomed from the get-go, so it would not likely be found to be a fraudulent conveyance.
“Step Two,” adding another $3.6 billion in debt in December 2007, was a transaction that the court would be “somewhat likely to find was an intentional fraudulent transfer,” Klee said in his report.
That isn’t likely to produce any payoff for the pre-LBO bondholders, since Tribune Company as it stands today appears to be worth less than the initial $8.2 billion of senior debt. If the judge agrees with Klee, however, the banks that put together Step Two could see their fees clawed back for distribution in the Chapter 11 reorganization plan.
Who was to blame? Klee failed to find a smoking gun, but found fault with the solvency opinion obtained from Valuation Research Corporation (VRC) and the estimates from Tribune management which VRC relied on. That solvency opinion was required for Step One to close, but set the stage for Step Two.
“First, the Examiner found evidence indicating that Tribune did not act forthrightly in procuring the solvency opinion issued by VRC at Step Two. Based on the record adduced, the procurement of the solvency opinion was marred by dishonesty and lack of candor about the role played by Morgan Stanley in connection with VRC’s solvency opinion and on the question of Tribune’s solvency generally. Second, the Examiner found evidence indicating that Tribune’s senior financial management failed to apprise the Tribune Board and Special Committee of relevant information underlying management’s October 2007 projections on which VRC relied in giving its Step Two solvency opinion. Although the Examiner found no direct evidence that this information was purposely withheld from the Tribune Board or Special Committee in December 2007, the Examiner finds it implausible that the failure to apprise the Tribune Board and Special Committee of this information relating to the Step Two solvency valuation, and to a representation given by Tribune to VRC, was unintentional. Third, the Examiner found evidence that one important component of those projections went beyond the optimism that sometimes characterizes management projections. Although the Examiner found no direct evidence that Tribune’s management was deceitful in the preparation and issuance of this aspect of the October2007 forecast, this component of the projections bears the earmarks of a conscious effort to counterbalance the decline in Tribune’s 2007 financial performance and other negative trends in Tribune’s business, in order to furnish a source of additional value to support a solvency conclusion. The Examiner found that other aspects of management’s projections, while aggressive, do not support the conclusion that the senior financial management at Tribune prepared them in bad faith,” Klee wrote in his summary.