Co-written by Rick Antonoff
On December 29, 2000, LTV Corporation and several of its affiliates filed voluntary petitions for relief under chapter 11 of the Bankruptcy Code in the United States Bankruptcy Court in Youngstown, Ohio. LTV is one of the largest domestic producers of steel products.
Among the pleadings filed by LTV on the first day of the case was a motion to treat as cash collateral of the estate the proceeds of receivables and inventory that had been transferred to two special purpose corporations ("SPVs") that, while owned by LTV, are not in bankruptcy. The SPVs were set up in 1994 and 1998. They purchase all LTV inventory and receivables on a daily basis. Standard & Poor’s issued a "AAA" rating for the receivables securitization, and the law firm of Davis Polk & Wardwell delivered "true sale" and nonconsolidation opinions. In connection with the inventory securitization, Fitch IBCA issued a "BBB" rating, and the law firm of Winston & Strawn delivered a "true sale" opinion.
The motion puts directly in issue whether the transfers of receivables and inventory to the SPVs constitute "true sales" of these assets, or are really secured borrowings by LTV. In its brief, LTV asserts that the transfers are not "true sales" for several reasons: (1) they are not based on fair market values or standard payment terms; (2) LTV retains the ultimate risk if the loans to the SPVs are not repaid; (3) LTV exercises dominion and control over the inventory and receivables; (4) LTV is entitled to receive any excess proceeds; and (5) the SPVs have not been treated as separate entities.
More generally, LTV’s briefs level a broadside attack on the basic concept of securitization, including statements such as the following:
[T]hrough a bewildering and complex array of documents, and through the establishment of the SPVs (which have no real function), the Lenders have conjured the illusion that the Debtors do not own their inventory, do not own their accounts, and are not in the business of manufacturing and selling steel products….The Lenders’ complex documents and legal constructs are designed to create the appearance of a daily "arms-length sale" of all the Debtors’ current business assets (inventory and proceeds in the form of accounts) to the Inventory SPV and the further "arms-length sale" of the Debtors’ accounts from the Inventory SPV to the accounts SPV. The purpose of this fiction is obvious: to remove all of the Debtors’ current assets from the jurisdiction of the Bankruptcy Court, to deprive the Debtors’ unsecured creditors of the ability to realize any meaningful recovery from the Lenders’ enormous equity cushion, and to enable the Lenders to exercise remedies without any accountability to this Court or any other parties in interest. In other words, the Lenders have attempted to "opt-out" of the United States Bankruptcy Code to capture the most valuable assets of the Debtors to dispose of as they see fit, at a painful cost to the Debtors’ employees, unsecured creditors and shareholders.
The Bankruptcy Court granted the cash collateral motion on an interim basis, allowing LTV to use the receivables and inventory. The Court’s decision does not make any explicit ruling on true sale and preserves all of the parties’ rights with respect to that issue.
On January 9, 2001, one of the banks that made loans to the receivables SPV filed an objection to the interim order, asserting that the receivables are not property of LTV’s bankruptcy estate. The bank asked the Court to set a briefing schedule and hearing date to determine the true sale issue. On January 22, 2001, the Bankruptcy Court issued an order setting February 20, 2001 as a deadline to submit briefs on the true sale issue and March 7, 2001 as the hearing date.
It should be noted that the structure of the inventory securitization is significantly different from that of the receivables securitization and that some or all of the arguments raised by LTV in the motion may be applicable to one and not the other. Prior to the commencement of the bankruptcy case, the institutions that made loans to the inventory SPV consented to LTV’s use of the inventory during the bankruptcy case. Thus, as a technical matter, only the receivables securitization is directly at issue in the pending litigation. However, the two transactions are to some degree interdependent, since sales of inventory generate receivables. Further, the consent of the inventory lenders was based on their receiving protection from the receivables.
Cadwalader is closely monitoring this case. We will continue to keep our clients and friends apprised of developments as they occur.
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