Further Adventures in GM Debt

GMAC's brinkmanship would seem to have worked:

Late Friday, the company received a reprieve from lenders, who agreed to amended terms of a $38 billion restructuring of debt obligations that were threatening to overwhelm the company.

But the 10% (ish) haircut taken by GMAC's bondholders to help recapitalize GMAC turns out to have been a necessary but not a sufficient condition for GMAC to become a bank holding company. The firm also needs to raise $2 billion in fresh equity capital, of which GMAC's existing shareholders are "unlikely" to raise more than $750 million.

So, anybody fancy investing $1.25 billion in GMAC? According to the WSJ, the firm is talking to private equity investors, but I can't imagine they're falling over each other to get in on this opportunity. Especially, as David Reilly says, when the fundamentals of capital structure are up in the air.

Reilly explains that the government's loans to the automakers were initially going to be senior even to secured creditors of GM. That didn't go down well at all, so a compromise was reached whereby government loans would squeeze in to the capital structure between senior and senior secured debt. But there was a twist:

In the case of bankruptcy, the government would be exempt from a legal stay, which freezes creditor claims until the court divides up the assets. It also included language saying the government's loans couldn't be haircut, as often happens to debts in bankruptcy.

Reilly is up in arms about this:

In effect, the language creates a new kind of debt and subordinates the senior, secured holders. That is a possible outcome debt investors now have to keep in mind when investing in industries the government may ultimately have to prop up.
The financial crisis already has shaken the confidence of debt investors in everything from ratings to asset values on bank balance sheets. If the government wants to get markets working again, the last thing it needs to do is give these already skittish investors yet another reason to worry.

I have some sympathy for Reilly's position, but not a lot. It's not government's job to bail out bondholders, and in any case I'm sure nearly all of GM's creditors would much rather the government got its exceptional language than that it didn't get involved at all.

What's more, there are lots of other classes who often get paid in full during bankruptcy, including trade lines, payroll, and other operating expenses. Bondholders would simply have to add government loans to that list, rather than add them in as eligible for a haircut.

It's worth remembering that if and when the government's loans mature and GM doesn't have the money to repay them, the government is almost certain to simply roll them over -- something bondholders would not do without huge negotiations and concessions. Government loans and private-sector loans are very different animals, and it often makes sense to treat them differently.