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Lehman Bros likely to challenge parent-to-subsidiary guarantees

http://www.risk.net/risk-magazine/news/1598287/lehman-bros-challenge-parent-subsidiary-guarantees


An apparent guarantee from Lehman Brothers Holding (LBH) to its subsidiaries pledging to undertake their liabilities and obligations might be subject to a challenge from the parent company, say lawyers. If successful, LBH could render billions of dollars worth of claims against the bankrupt estate invalid.

The resolution is not like other guarantees and LBHI is right to view the document with suspicion. Indeed, it is odd the guarantee exists

The pledge, known as the board-resolution guarantee, was drafted on June 9, 2005 and signed by then chief executive Richard Fuld and former board director John Macomber. It appears to guarantee the liabilities of 18 affiliates, including Lehman Brothers International Europe, Lehman Brothers Finance and Lehman Brothers Special Financing. As a result, more than $100 billion worth of claims has been filed by both creditors and subsidiaries citing the resolution in an attempt to get their claims honoured by LBH.

However, some bankruptcy lawyers who spoke to Risk believe the resolution is peculiar, and add it is unusual for a board resolution to function as a guarantee by itself.

"The resolution is not like other guarantees and LBH is right to view the document with suspicion. Indeed, it is odd the guarantee exists. Typically, board resolutions authorise or give permission for guarantees to be issued as opposed to actually operating as a guarantee. This is the profound difference between this resolution and others. It might be ingenuous, but in my experience this is the only time I've seen a guarantee embedded in a corporate resolution," says a bankruptcy lawyer in New York, who represents firms that have cited the resolution in their claims.

According to a high-level source who worked for LBH and is acquainted with the resolution, the document is not a guarantee but gives the power to offer a guarantee. "The existence of this document doesn't necessarily make it a guarantee, but it does give the authority to give guarantees. This might point to the existence of actual guarantee documents, but we don't have the full deck of cards here so we don't know if actual paper guarantees exist. The situation is akin to me having the authority to writing cheques out of my banking account. I have the authority, but that doesn't mean I write cheques," he says.

However, some lawyers believe the intent of the resolution is obvious. "The intent of the document is clear and the entities are clearly specified. What would be the point of drafting this if not to act as a guarantee? If it is not a guarantee, then what is it? The four corners of this document are clear in the intent and I'm sure many counterparties bought it. We are taking the position this operates as a guarantee," says the counsel to a major creditor of LBH, which cited the resolution in its guarantee claim.

According to a 2,200-page report into the causes of the Lehman bankruptcy, released on March 11, the US court-appointed examiner, Anton Valukas, was unable to locate any decision concerning the enforceability of a guarantee contained only in a corporate resolution.

However, the report goes on to suggest creditors might have a strong argument for the validity of the board resolution as a guarantee. "The guarantee resolution appears to satisfy the basic general guarantee requirements of knowledge, acceptance (which can be implied) and consideration, and therefore might be held to create an enforceable general guarantee obligation," the report suggests.

If the guarantee is in fact deemed valid, LBH might instead attempt to litigate individual claims that cite the resolution, say lawyers. The estate could try to claim creditors did not rely on the resolution when transacting with a subsidiary. If LBH can prove a creditor had no knowledge of, and did not rely on, the guarantee when dealing with the subsidiary, the claim can be disallowed.

"The biggest problem for a lot of people is they didn't know about this board resolution and when one interprets the binding nature of the guarantee, you have to follow normal contract law. There will be people who were not aware of this resolution and who will have a tough time trying to prove they accepted the offer of and relied on the guarantee. This is the biggest area of vulnerability at the moment for a lot of creditors," says the bankruptcy lawyer in New York.

The full version of this article will be published in the April issue of Risk magazine.