The Rescue of the US Auto Industry, Module E: Emergency Assistance for Chrysler Financial

It should be noted that at first President Bush and Secretary Paulson did not believe that Congress had authorized TARP funds to be used for an auto bailout since the act was generally thought to be targeted to the financial industry (Wiggins, Metrick, and Nye 2021, 12). In broad terms, TARP authorized the Secretary of the Treasury to purchase “troubled assets” from “financial institutions” (Wiggins, Metrick, and Nye 2021, 12). However, while descriptive, the definitions are not entirely restrictive and in particular, the definition of “troubled assets” can be expanded by determination of the Secretary of the Treasury in accordance with certain procedures set out in the statute. (Wiggins, Metrick, and Nye 2021, 12). The definition of financial institutions is arguably broad enough to include the auto manufacturers, as the Secretary determined (Wiggins, Metrick, and Nye 2021, 12). Among other arguments, President Bush and Secretary Paulson relied on the nexus between GM and Chrysler and their respective finance companies, GMAC and Chrysler Financial, and the critical role that financing played in the industry to support funding under TARP for all four companies.

The official determination by the Secretary of Treasury that authorized TARP funding for auto manufacturers defined “certain […] companies […] engaged in the manufacturing of automotive vehicles and the provision of credit in connection with the manufacturing and purchase of such vehicles” as “financial institutions” for the sake of EESA (Secretary of Treasury 2008, PDF p. 1). This enabled Treasury to purchase the “troubled assets” of Chrysler Financial. This decision was criticized by some (Wiggins, Metrick, and Nye 2021).

When litigation over the bankruptcy court’s approval of Chrysler’s restructuring reached the Second Circuit Court of Appeals, Treasury expounded on the Secretary’s determination:

[T]he Secretary of the Treasury, in determining what is a financial institution, looks at the interrelatedness [of the company and its financing arm].

Chrysler Financial can’t survive without Chrysler . . . . Without [Chrysler], the financial institution goes down . . . . [Chrysler Financial] is the financial institution and the relationship [with Chrysler is the one] that the Secretary of the Treasury based his determination on, and that determination is entitled to deference by this court under administrative law principles (COP 2009, 75–76).

(See COP 2009, 70, and Wiggins, Metrick, and Nye 2021, 11–15, for a discussion of the use of TARP for the auto industry.)

Under the auspices of the AIFP, the government would ultimately provide funding to not only the auto manufacturers and auto finance companies but also to other related stakeholders such as suppliers and customers. Because of the interdependence of companies in the industry, such aid was thought necessary to ensure both the success of the restructuring plans and the survival of the manufacturers. Assistance was provided to suppliers, to finance companies to maintain financing for new car purchases, and to special purpose vehicles that guaranteed warranties on new cars. The government also helped the two auto companies restructure using the bankruptcy code, committing billions of dollars in debtor-in-possession and post-petition financing (Klier and Rubenstein 2013, 148–150).

As part of Chrysler’s requests for aid from TARP, the manufacturer had asked for $2.5 billion to aid Chrysler Financial’s floorplan and consumer financing operations (Kolka 2009, 30). This was subsequently lowered to a request for $1.5 billion in aid that would be allocated exclusively to consumer financing (Kolka 2009, 30). On January 16, 2009, days after Chrysler complained about being put at an “competitive disadvantage” by Treasury’s announcement of up $6 billion in aid for Chrysler Financial’s competitor, GMAC, Treasury announced $1.5 billion in aid from TARP to Chrysler Financial to improve consumer access to credit and stimulate Chrysler auto sales Treasury 2009a). The $1.5 billion was a relatively small amount compared with the $6 billion commitment to GMAC (Canis et al. 2009, 48). However, the $1.5 billion commitment for Chrysler Financial and the $6 billion committed to GMAC were in addition to the initial $17.4 billion authorized by the Bush administration for aid to automotive companies (White House 2008).

Despite the Treasury’s commitment to Chrysler Financial, several dealerships complained about the lack of support for floorplan financing. While the $1.5 billion Chrysler Financial Trust Loan and facility could stimulate consumer financing, dealerships found it increasingly difficult to finance their inventories (Kellogg 2009a; Wernle 2009). However, additional funding was not forthcoming from Treasury, possibly because Treasury and Chrysler wished to shrink Chrysler’s dealer network which both considered to be oversized and unprofitable (Rattner 2011, 194).

The term of the $1.5 billion loan to Chrysler Financial Trust was slightly shorter than the common loan terms for automobile asset-backed securities in a normal market (for example, 72 months in 2016) (Lei et al. 2017). The term was also longer than that on the three-year term loans TALF announced at the close of 2008, which would have made it more attractive than waiting for TALF to be implemented (Leinfuss 2008).

Treasury also allowed Chrysler Financial to prepay its advances under the Chrysler Financial Trust loan in whole or in part (Chrysler Financial Services and Treasury 2009, PDF pp. 7, 11). However, in the event of any prepayment, Chrysler Financial had to make Treasury whole for any losses or costs that it suffered in redeploying funds maintained for advances (Chrysler Financial Services and Treasury 2009, PDF pp. 7, 11).

The Master Auto Finance Agreement Term Sheet describing the financing program (MAFA Term Sheet) stated that financing extended to retail consumers on or after January 1, 2009, which meet “certain geographic, credit quality and other standard overconcentration limits.” (Chrysler Group LLC and GMAC 2009, Treasury 2009a, PDF p. 1). However, beyond the eligibility date for retail loans, more information on this topic does not appear in the Chrysler Financial Loan Agreement itself. (Chrysler Financial Services and Treasury 2009).

It is unclear why Treasury settled on January 1, 2009, as the earliest eligible date, as the Chrysler Financial Trust loan was executed on January 16, 2009 (Treasury 2009, PDF p. 1). However, this date is consistent with a goal of having the Chrysler Financial Trust loan stimulate new auto purchases, rather than subsidizing existing ones. There is no publicly available information on additional requirements, how they were enforced, or why they were put in place.

The press release announcing the Chrysler Financial Trust Loan and financing program indicated that Chrysler Financial would be required to “be in compliance with the executive compensation and corporate governance requirements of Section 111 of the Emergency Economic Stabilization Act, as well as enhanced restrictions on executive compensation” Treasury 2009a). The accompanying Loan Term Sheet included a requirement that bonuses of senior executive officers (SEOs) and senior employees for the 2009 fiscal year be reduced to no more than 60% of their 2007 levels Treasury n.d., PDF p. 3). It is worth noting that this condition appears to be more onerous than the restrictions imposed on Chrysler and GM, which were subject to ESSA provisions but not to specific compensation caps.

EESA Section 111, provided for review of compensation by the Special Master for TARP Executive Compensation (the “Special Master”) “to determine whether the compensation structure for each senior executive officer and certain most highly compensated employees ‘will or may result in payments inconsistent with the purposes of section 11 of EESA or TARP, or [is] otherwise contrary to the public interest (31 C.F.R. §30.16(a)(3)) (Treasury 2015, 1, 6).” This is often referred to as the Public Interest Standard (Treasury 2015, 6). The executive compensation of the SEOs of Chrysler and GM were also subject to such review (Feinberg 2009). As required, on October 22, 2009, the Special Master issued its review of Chrysler Financial’s proposed executive compensation, which took into account that at the time, the company was “following Treasury’s directive to liquidate its business in an orderly fashion” (Treasury 2015, A5).

The Special Master was found that the company proposed cash salaries that represented decreases from 2008 levels of between 10% to 67% for its SEOs and highly compensated employees. Total cash compensation for this group would be reduced by 30% from 2008 levels and total compensation would be reduced by 56%. The Special Master found these terms to be consistent with the Public Interest Standard (Treasury 2015, A6). The Special Master also limited all other compensation and perquisites to no more than $25,000 and ordered that there be no increases in severance arrangements. The Special Master also ruled that severance paid in excess of its ruling would have to be reclaimed (Treasury 2015, A7). The Special Master found that the proposed compensation for the company’s other highly compensated employees (the 26th through 100th highly compensated employees) was consistent with the rule (Feinberg 2009).

The legal structure is important because it was a much more complicated structure for lending than that of any of the other programs under the AIFP. However, there is no public information available to explain why this structure was chosen (GM Financial n.d.).

The interest and principal of the $1.5 billion Chrysler Financial Trust loan was secured by the receivables and related property arising from the auto loans that Chrysler Financial would be making to retail customers Treasury 2009a). These receivables would have included the proceeds of defaulted customer loans that were subsequently liquidated. Treasury n.d., PDF pp. 3–4).

Treasury could engage in repurchase agreements with or pledge the collateral received in connection with the Chrysler Financial Trust loan (by way of Chrysler Financial Trust) (Chrysler Financial Services and Treasury 2009, PDF p. 27). However, Chrysler Financial Trust was prohibited from assigning (in addition to selling, transferring, hypothecating, etc.) any of its obligations or rights under the loan without Treasury’s prior written consent (Chrysler Financial Services and Treasury 2009, PDF pp. 26–27). In theory, this could have kept Chrysler Financial from diverting the proceeds of the loan and would have centralized liability for violating the agreement in Chrysler Financial Trust. Also, these terms allowed Treasury to transfer the loan to another party if need be.

The Chrysler Financial Trust loan had an interest rate of the one-month LIBOR plus 100 basis points for the first year and the one-month LIBOR plus 150 basis points for the second through fifth years. The interest rate was significantly less than what Chrysler Financial had to pay when it renewed its $24 billion credit line in August 2008 (Bansal and Krolicki 2008) and less than what Chrysler paid to Treasury under the Bridge Loan (Nye 2021a). However, the Class B promissory notes to be issued by the trust with respect to any advance under the Chrysler Financial Trust Loan provided further upside to Treasury for extending the loan to Chrysler Financial, worth as much as 5% of the advance amount.

The Chrysler Financial Trust loan also provided for penalty rates in cases of default or overdue payments (Chrysler Financial and Treasury 2009, PDF pp. 7–8). The loan added 300 basis points to the interest rate for overdue payments (resulting in a penalty rate of 400 basis points in year one and 450 basis points in years two through five). The penalty was significantly smaller than the one imposed under the auto Bridge Loans to the manufacturers Chrysler and GM, which added a 500 basis point penalty (Nye 2021a).

The Class B promissory notes served as an alternative method for fulfilling EESA Section 113(d)(1)(b)’s requirement that the Secretary of the Treasury could only purchase the troubled assets of financial institutions that do not have their securities traded on a national securities exchange if the Secretary of Treasury received “a warrant for common or preferred stock, or a senior debt instrument” from the financial institution in question Treasury n.d., PDF p. 4; EESA, § 113). Because Chrysler Financial was a private company, it did not have its securities traded on a national securities exchange at that time. The Class B promissory notes fulfilled the requirement as a “senior debt instrument” that would act as additional consideration with respect to the $1.5 billion loan (EESA, § 113; Picarillo and Laterza 2009).^FThe author inferred that the purpose of the Class B Notes was to satisfy the TARP requirements because there was a lack of other instruments within the assistance for Chrysler Financial that would fulfill such requirements and because the language Treasury used for the Class B Notes in the Loan Term Sheet is similar to the language it used for the Additional Notes in the Bridge Loans term sheets. The Class B notes carried Maturity and interest rate terms and conditions that were similar to the Class A notes. The Class B Note issued to Treasury had a face value of $75 million—set at 5% of the maximum loan amount—and would vest over five years, with $15 million vested on issuance and an additional $15 million vesting annually on the anniversary of issuance while the loan was outstanding (Chrysler Financial Services and Treasury 2009, PDF pp. 145–146, 171–187; Treasury 2009a, PDF p. 4).
 

The inclusion of a provision for Class C Notes anticipated that Chrysler Financial might arrange for supplemental subordinated loans. The third-party holders of these loans would receive Class C Notes to represent the funding that they provided. The Class C Notes would accrue interest and would be subordinate to the Class A and Class B Notes, with related secondary payment priorities. However, we have not been able to determine why these provisions were never used or why the credit enhancement and hedging contemplated by the Class C Notes were given such attention in the Chrysler Financial Loan Agreement. (Chrysler Financial Services and Treasury 20009).

Pursuant to the Chrysler Financial Trust loan agreement, Chrysler Financial was required to suspend payment of dividends while the loan was outstanding and could incur certain penalties payable to Treasury. Chrysler Holding, Chrysler Financial’s parent company, guaranteed to any amounts paid to it by Chrysler Financial in violation of the dividend and distribution restrictions Treasury n.d., PDF p. 3). This functioned as a claw back provision in the event that amounts due to Treasury were not properly paid.

Treasury communicated the support for Chrysler Financial providing details of the loan and its intended purpose.

In January 2009, Treasury released a short press release announcing the Chrysler Financial Trust loan and financing program for new vehicle purchases and also providing the Loan Term Sheet. Treasury 2009a, Treasury 2009a). The press release described the loan as “a $1.5 billion loan to a special purpose entity created by Chrysler Financial to finance the extension of new consumer auto loans […] secured by a senior secured interest in a pool of newly originated consumer automotive loans” Treasury n.d.). Treasury also noted that Chrysler Financial would have to comply with the executive compensation and corporate governance restrictions under EESA in addition to “enhanced restrictions on executive compensation” Treasury 2009a). (Treasury also later published some (redacted) loan documents.)

In March, in its Determination of Viability for Chrysler, Treasury foreshadowed the need for Chrysler to modify its auto financing arrangement with Chrysler Financial describing Chrysler Financial as having “substantial financing challenges of its own” such that “future demand may depend on Chrysler finding alternate lending sources” (Treasury 2009b, PDF p. 5). Treasury also pointed to Chrysler Financial’s “separation and independence” from Chrysler as a barrier to increasing demand for Chrysler’s cars (Treasury 2009b, PDF p. 5). This foreshadowing came to fruition when, in connection with Chrysler entering bankruptcy in April, it entered into a new financing arrangement with GMAC.

When Chrysler entered bankruptcy on April 30, 2009, Chrysler Financial did not join the action (Kellogg and Bennett 2009). However, a large portion of Chrysler Financial’s assets were sold to, and its floorplan finance operations taken over by, GMAC, the former captive, and then current, financing arm of General Motors, also then controlled by Cerberus (COP 2010, 59). Treasury supported this reorganization and indirectly subsidized both GMAC and Chrysler Financial during the transition.

Rather than directly enter into a loss-sharing facility with GMAC, on May 15, 2009, Treasury and Export Development Canada amended their debtor-in-possession (DIP) loan^FThe debtor-in-possession (DIP) loan was a three-way agreement between Chrysler, Treasury, and Export Development Canada (EDC) dated May 5, 2009 (Chrysler LLC and Lenders 2009, PDF p. 21). See Nye 2021b for details. to Chrysler, increasing the $4.1 billion facility by $896 million and the Treasury increased its funding to GMAC by $7.5 billion to “support GMAC's ability to originate new loans to Chrysler dealers and consumers and help address GMAC's capital needs as identified through the Supervisory Capital Assessment Program (SCAP)” (Chrysler LLC and Lenders 2009, PDF p. 21; Docket 1903 2009; Treasury 2009c).

As for Chrysler Financial, some of the increased DIP loan would also be used to effectively pay the company to cap its potentially large “superpriority administrative expense claims” and pay for an agreement that Chrysler’s post-bankruptcy successor (which would later be known as New Chrysler) would assume Chrysler’s obligations under the Risk Sharing Agreement between Chrysler and Chrysler Financial after Chrysler successfully restructured (Docket 6273 2009, PDF p. 62).^FThe superpriority administrative expense claims were Chrysler’s obligations to Chrysler Financial related to the management of its bankruptcy proceedings; they enjoyed a high payment priority under 11 US Code § 503,507. Under the Risk Sharing Agreement, Chrysler would convey the $1.5 billion in collateral to Chrysler Financial and commit to several other agreements in favor of Chrysler Financial in exchange for Chrysler waiving the “new liens” prohibition (Docket 483, PDF pp. 9–10, 12).