What’s Wrong with This Picture?

Polaroid's passage through Chapter 11 exposes how bankruptcy can give debtors too much power.

Asked by attorneys for Stephen Morgan, leader of a shareholder group, why the foreign subsidiaries weren’t valued, CFO Flaherty said they were part of “Mother Polaroid,” and were essentially worthless if the parent ceased to be a going concern. Any book value for the subsidiaries, art, patents, and trademarks, he added, would be misleading. The judge concurred, ruling that the best way to value assets was in a “fair and open” bidding process.

A Creditors’ Plan

Last April, the company drew up a “placeholder” reorganization plan premised on the sale of all of the company’s assets foreign and domestic to OEP, part of a so-called stalking-horse bid. This bid is a lead offer against which other offers are supposed to compete. (Polaroid’s choice of OEP as the stalking horse reflected a search since “early 2001,” according to testimony from Dresdner Kleinwort Wasserstein, Polaroid’s investment bank.) The April plan allowed for competing bids to be received at a June auction, along with OEP’s initial bid of $265 million, plus $200 million in assumed trade liabilities. But the bidding procedures, allowing the debtor to determine which prospective bidders got access to proprietary data, among other debtor privileges, drew numerous complaints from the U.S. Trustee counsel, Mark Kenney, engaged in the proceedings as an observer.

The procedures, according to a written objection filed by Kenney, “vest the debtors with excessive and inappropriate authority to control the bidding process” and “to chill the bidding to ensure that the subject assets are sold to their handpicked buyer.” He also noted that the committee of unsecured creditors had vehemently opposed the sale, and said he believed that Polaroid’s plan was “to liquidate in a transaction that is primarily for the benefit of the secured creditors.”

Indeed, the unsecured creditors and shareholder Stephen Morgan, along with the Polaroid Retirees Association, had opposed the bidding on numerous grounds, saying that Polaroid had dramatically undervalued its assets and should instead be reorganized.

At a May hearing on the bidding procedures, a month before the auction, the judge overruled all objections, but changed some bid procedures and extended the auction date several weeks to allow the unsecured creditors to present a reorganization plan as a competing bid to the OEP deal. (Kenney indicated, without explanation, that these changes satisfied his concerns.)

Backed by financing from Congress Financial and Deutsche Bank, the unsecured creditors prepared their plan. It didn’t contain a dollar value, since it was in the form of a reorganization. But it gave unsecured creditors 100 percent of the new company, after paying off the secured creditors, and raised the possibility of retaining the pension plan — which wasn’t included in the OEP bid.

The June 26 auction, to determine who would eventually run Polaroid, presents one of the best examples of how Polaroid and its secured creditors seemed to control the bankruptcy process. Both OEP and the unsecured creditors’ committee presented their offers, the only two in the auction. Polaroid attorney Gregg M. Galardi, however, disagreed with financial projections made by the committee, and said it lacked sufficient “exit financing” to get the company out of bankruptcy protection. The auction was recessed. The committee returned with an oral commitment for exit financing, but said it needed three days to get a written term sheet. Polaroid and secured creditors, however, were unwilling to delay the proceedings. Further, Galardi said they still preferred a sale to a reorganization, suggesting that unsecured creditors would be out of the running in any event.

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