Tribune Co. bankruptcy: Emergence of Aurelius Capital will complicate mediation in Tribune Co. bankruptcy - chicagotribune.com

Tribune Co. bankruptcy: Emergence of Aurelius Capital will complicate mediation in Tribune Co. bankruptcy - chicagotribune.com


New storm clouds over Tribune Co. bankruptcy case

Emergence of New York hedge fund Aurelius Capital Management lengthens odds of an easy settlement


By Michael Oneal, Tribune reporter

When U.S. Bankruptcy Judge Kevin Gross stepped up to mediate a settlement in Tribune Co.'s fractious Chapter 11 case early this month, most observers gave him slim odds of success.

Tribune Co. and its creditors had already spent nearly two years haggling and filing legal briefs in the case, and the only thing the estate had to show for it was more than $180 million in professional fees through August.

Since then, the odds of an easy settlement have likely gotten worse, according to interviews with sources on all sides of the case who asked for anonymity because they aren't authorized to speak amid the ongoing discussions.

If anything, they say, the sides were growing further apart on the eve of mediation talks, which begin Sunday in Delaware, and negotiations are likely to be complicated by the emergence of a pugnacious New York hedge fund called Aurelius Capital Management as a major player in the case.

One measure of the diminished hopes for a speedy resolution is the fading urgency among senior creditors to round up new management for the company. A month ago, creditors led by hedge fund Angelo, Gordon & Co. had been talking with former Walt Disney Co. Chairman and Chief Executive Michael Eisner and Comcast Corp. executive Jeff Shell about running the new Tribune Co. as chairman and CEO, respectively. But those talks have withered, sources said, amid the uncertainty surrounding the company's future.


major factor driving that uncertainty is the increased presence of Aurelius, which is well-known in the bankruptcy world for its litigious, fight-for-every-last-drop style of moneymaking. The firm has been around for months, steadily building a position in a junior class of Tribune Co. bonds. But a little more than a week ago, sources close to the matter said, it bought out a large portion of a stake held by Centerbridge Partners, another distressed-investment hedge fund, that until then had been the most powerful junior creditor in the case.

Aurelius tends to buy the unsecured junior bonds of a bankrupt company at cents on the dollar and then unleash an aggressive legal strategy to boost the returns those bonds get as the case is resolved. In that respect, it is not so different from the many other distressed-debt hedge funds that have swept into Tribune Co. securities since the Chicago-based media company and owner of the Chicago Tribune filed for Chapter 11 in December 2008. What sets Aurelius apart, observers say, it its stubborn willingness to wage battle.

"We can assume that any (mediation) settlement will not be acceptable to Aurelius," said one source close to the talks.

Centerbridge is hardly a pushover. It got into the case much earlier than Aurelius and was the chief agitator for pressing legal action against the senior lenders and others who participated in Chicago real estate magnate Sam Zell's 2007 leveraged buyout of Tribune Co., claims that now lie at the center of the case.

But last spring Centerbridge signaled its willingness to compromise, joining a settlement of the buyout-related charges, brokered by Tribune Co. management, that ultimately collapsed in August. Few expect Aurelius to be as pliant.

One reason for pessimism is the apparent economics of Aurelius' position. The firm won't comment, and there's no way of knowing precisely when it began buying Tribune Co. bonds or at what price. But it is generally believed that Aurelius was relatively late to the game, when market prices of Tribune Co. debt had risen from their post-bankruptcy lows.

Centerbridge had been willing to settle for a price of 35 cents on the dollar, giving its class of securities (face value: $1.28 billion) a recovery of $450 million. But that deal collapsed after a court-appointed examiner in the case, Los Angeles attorney Kenneth Klee, issued a report that concluded at least part of the Zell deal was a case of fraudulent conveyance, meaning the massive debt load that financed the transaction left the company insolvent as soon as the deal closed.

Since then, the market price of the notes has climbed into the mid-40-cent range, meaning Aurelius bought a big chunk of its stake at levels well above the original settlement price. To earn a profit, the firm will have to extract a much higher settlement from senior creditors, even as they move in the other direction. On Sept. 17, two of the biggest holders of the senior debt, Oaktree Capital Management and Angelo Gordon, filed a plan of reorganization that would give the Aurelius class an upfront recovery of less than $60 million.

"They are clearly missing each other," said another source involved in the talks, referring to Aurelius and Oaktree. The gap, he said, dims the possibility of "a restructuring absent litigation."

Aurelius was founded in 2005, but its principals, including a Harvard-educated former bankruptcy lawyer named Mark Brodsky, have been investing in bankrupt companies for decades. The firm wouldn't comment for this story, but its style, close observers say, is to pore over bond indentures and the general facts in a bankruptcy case and then try to build a case for why the owners of a particular class of bond or note aren't getting their fair due.

Opponents give Aurelius plaudits for doing its homework and say once it has established a position, even a highly risky one, it has enough faith in its analysis to spend more time and money than others might fighting for a recovery, either by litigating to extract more dollars from the estate or by wearing down opponents with the threat of litigation.

The recent bankruptcy of Lyondell Chemical Co. provides a good example. In that case, which also featured the threat of fraudulent conveyance litigation, Aurelius and other junior creditors balked at a proposed settlement that would have given the Aurelius group a recovery of 10 cents on the dollar, or around $26 million, sources involved in the case said.

With the threat of extended litigation hanging over the case, the unsecured creditors as a group spent eight weeks of hair-pulling, day-and-night negotiations to forge a new deal. It would have paid the Aurelius group 16.5 cents on the dollar, or $42 million, which most viewed as a major victory.

But Aurelius wasn't through. Arguing that its share of the winnings should be more based on its bond indenture, the firm then began hammering on its fellow unsecured creditors, asking them to augment its settlement. One weary group agreed to hand over $15 million, documents show, and others ponied up $28 million. In the end, the Aurelius class got 33 cents on the dollar, or $85 million, almost tripling what it was initially offered.

"It's a war of attrition. They just try to grind everybody else down," said one lawyer involved in the Lyondell case, noting that Aurelius also won various unique terms on its recovery. "They wait until exhaustion has set in on everybody else."

Aurelius doesn't always win big, of course. It was stymied by the judge in the Adelphia Communications bankruptcy, for instance. But it was emboldened in the Tribune Co. case, sources said, by the Klee report, which gave credence to the claim that the second step of the two-step Zell transaction was likely a case of fraudulent conveyance. Klee said that might open up senior lenders in the deal to claw-backs of millions of second-step fees, interest and debt payments. And it could expose Zell, former Tribune managers and prebuyout shareholders to legal action, providing many avenues for potential litigation.

The plan recently filed by Oaktree and Angelo Gordon proposes separating step two of the transaction from step one, which Klee suggested wasn't a case of fraudulent conveyance. It then asks U.S. Bankruptcy Judge Kevin Carey to validate (or not) Klee's step-one finding through litigation held before confirmation of the plan.

If step one is found to be legitimate, the plan argues, the company's operating units could emerge from bankruptcy court owned by the senior lenders, while the step-two claims would remain in what's called a litigation trust for the benefit of junior creditors like Aurelius. They would be free to pursue their legal claims against the lenders, Zell, company officials and shareholders. But they would only get a tiny sliver of recovery upfront.

Sources said Aurelius would fight that formulation, arguing that the strength of the junior claims deserves more upfront consideration in any settlement. Both Aurelius and the committee of unsecured creditors have also opposed Klee's idea that the two steps of the buyout transaction should be considered separately. The gap between the junior creditors and the senior group is so wide that few see an easy settlement.

Faced with that reality, observers said, Gross might focus the mediation on forging as much agreement as possible among the senior group and the unsecured creditors committee, which has been at odds with Aurelius. The judge enjoys high credibility among bankruptcy attorneys, and if he can drive enough consensus behind a deal, it could form the basis of a new plan of reorganization that would be acceptable to a broader group.

The question is whether Aurelius would fight a plan with broad support, and that is difficult to know. But history would show the firm is not afraid to swim against the tide.

Sallie Hofmeister of the Los Angeles Times contributed to this report.