GMAC bonds could lose value if GM files Chap. 11

Your Money

December 18, 2005|By GAIL MARKSJARVIS

I have a GMAC bond that is supposed to mature in October 2006. I have been getting the interest every quarter. Do you think that I will have any problems getting the money at that time?

The fact that you have been receiving interest every quarter means nothing. What matters is the future. The key will be whether GMAC is forced to go into bankruptcy because parent General Motors Corp. winds up filing.

So far, neither is in bankruptcy, and GM has insisted that it has no plan to file for Chapter 11 protection.

But analysts say GM may get to the point where bankruptcy is the reasonable way to restructure and save itself from the burden of tremendous pension costs. If it does that, General Motors Acceptance Corp. could get pulled into the fray, even though the company is on much stronger financial footing.

If GM files for Chapter 11, it will happen without warning. And once a firm goes into bankruptcy court, it's usually too late for bondholders. Their bonds will fall in value, so if they want to sell them, they will have to take a steeper loss than they would have before the bankruptcy filing.

When a company goes into bankruptcy court, bondholders have no certainty about what will become of their investment. Anyone who has ever lent the company money, including bondholders, stands in line, hoping to get paid. There are months of negotiation in the court.

GM is trying options to prop up its finances, such as selling a majority of its interest in GMAC. The negotiations on that deal may give you some breathing room. And if they work out, and GMAC is sold to a strong entity such as a major bank, the value of your bonds likely would increase.

I am holding GM bonds, and my broker told me not to worry about them because GM has plenty of cash. Do you agree?

Your broker is partially right. GM does have a lot of cash - about $19 billion. And having a lot of cash to pay the bills is better than getting tight on cash.

But that still doesn't mean that the company won't file for Chapter 11. Chicago bankruptcy attorney Harley Goldstein of Freeborn & Peters LLP notes that companies that have major financial issues hanging over them sometimes file while they have plenty of cash. The cash gives them flexibility to restructure successfully.

If a company depletes too much cash before filing for Chapter 11, it loses some of the flexibility it needs to steer itself onto a better course in bankruptcy court, Goldstein said.

I am retired and have GM preferred stock. What will happen to it if GM goes into bankruptcy?

Typically, people who own either preferred or common stock end up with nothing when companies go into Chapter 11, Goldstein said.

That's why people must be cautious when they try to pick up a little more interest by buying preferred stock rather than bonds.

In Chapter 11, everyone with a financial stake in the company tries to recover their money. There is a pecking order.

For example, lawyers, accountants, and banks that provided funding for the bankruptcy proceedings generally are paid first. Other lenders that have provided secured loans, backed by collateral, come ahead of bondholders who have purchased unsecured bonds.

Stockholders usually stand at the end of the line. The presumption is that they knew when they bought stock there were no guarantees they'd ever get anything. Lenders, on the other hand, have been given promises.

Readers may leave messages for Gail MarksJarvis at 312-222-4264.

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