Blockbuster Sale Attacked by Disney, Universal, Landlords

Blockbuster Inc.’s proposed sale benefits a group of lenders at the expense of all other creditors, said objectors including Walt Disney Co., Universal Studios, Yahoo! Inc., the U.S. Trustee’s office, landlords and a committee of unsecured creditors.

The objections, filed yesterday, set up a fight over how the cash-strapped movie-rental chain should end its bankruptcy. U.S. Bankruptcy Judge Burton Lifland in New York, in an order today, adjourned a hearing that was scheduled for tomorrow to consider a motion to sell the Dallas-based company to a group including Monarch Alternative Capital LP. He rescheduled the hearing for March 10.

Because Blockbuster filed bankruptcy with a partially outlined reorganization and then became administratively insolvent, the dispute was inevitable, said Steven Wilamowsky, a Bingham McCutchen LLP partner who isn’t involved in the case.

“If parties come in expecting a crash landing, they negotiate with those expectations in mind,” Wilamowsky said. “‘If they come in with a negotiated plan, they think they’ll get paid in full and continue to ship.”

Because Chapter 11 isn’t intended for companies that are administratively insolvent, judges must resolve such conflicts, he said.

Blockbuster, attempting to reorganize in Chapter 11 since September, should liquidate under Chapter 7 because it can’t pay the costs of its own bankruptcy, said the Office of the U.S. Trustee, an arm of the Justice Department that oversees bankruptcies.

Creditors’ Arguments

Unsecured creditors, business partner Yahoo and landlords also objected to Blockbuster’s plan to sell itself under an offer from lenders.

“This court should not permit the Monarch group to abuse the Chapter 11 process,” unsecured creditors wrote, saying that lenders who stepped in with a $125 million loan to fund operations used a “roll-up” provision to pay themselves back for pre-bankruptcy debt and get fees and expense reimbursement.

The lenders saddled other creditors with “massive accrued and unpaid administrative claims in excess of $250 million,” the creditors claimed.

The “illusory” loan induced landlords, studios and other creditors to keep supplying Blockbuster with goods, and the sale process will let the lenders walk away unscathed leaving “restructuring carnage” behind as the company can’t cover administrative expenses, the unsecured creditor said.

Blockbuster is proposing an auction using as a baseline the $290 million “stalking horse” bid from Monarch, Owl Creek Asset Management LP, Stonehill Capital Management LLC, and Varde Partners Inc.

Cobalt Video Holdco

The stalking horse group, called Cobalt Video Holdco LLC, holds more than half of Blockbuster’s $630 million debt in 11.75 percent senior secured notes. It made no commitment to continue the business. A provision in the agreement gives Cobalt the right to compel a conversion of the Chapter 11 reorganization case to liquidation under Chapter 7.

Walt Disney, with a $9.2 million claim for merchandise shipped to Blockbuster after its September filing, said a sale may still be the best way to maximize assets. The current proposal is unfair, it said.

Disney “remains hopeful that the debtors’ sale process yields results favorable for all constituents,” the company’s lawyers wrote. “Disney objects, however, to the secured lender apparently having dictated sale terms beneficial to itself and detrimental to the debtors’ estates.”

No True Financing

Disney said there is no true post-bankruptcy financing, or “debtor-in-possession” loan, because the lenders, who are pre- bankruptcy secured noteholders, never advanced any new cash after the Chapter 11 filing. All there is, Disney says, is $125 million in pre-bankruptcy notes that were transformed through the so-called rollup.

Lifland also will consider a motion by Summit Entertainment LLC, which wants to be paid $9.4 million for goods supplied after bankruptcy. Summit wants the case converted to a liquidation if the judge won’t allow it to reclaim its unsold goods.

Universal Studios Home Entertainment LLC, owed $6.4 million for movies including Scott Pilgrim vs. the World,” said Blockbuster accepted its shipments post-bankruptcy without intending to pay for them.

Blockbuster admits that the studios as business partners are the “lifeblood of their business,” Universal said in court papers.

Fox Documents

Twentieth Century Fox Home Entertainment LLC asked the court to protect its collateral. It filed documents outlining its arguments under seal.

Administrative expenses incurred in the bankruptcy through Feb. 24 will be frozen, according to court papers. Those beginning on Feb. 25 will be paid only if provided for in a sale budget. The sale contract also requires the court to bar creditors from taking any action to collect on a claim before June 21.

Blockbuster said in court filings that there is a possibility it won’t be able to pay all suppliers for goods provided after the Chapter 11 filing.

The company began reorganization in September with 5,600 stores, including 3,300 in the U.S. and the rest abroad. Among the U.S. stores, 3,000 were owned. The rest are franchised. About 200 stores closed before the bankruptcy.

The petition listed assets of $1.02 billion against debt of $1.47 billion. Blockbuster estimated it owes $57 million in accounts payable in addition to the secured and subordinated notes.

The case is In re Blockbuster, 10-14997, U.S. Bankruptcy Court, Southern District of New York Manhattan).

To contact the reporters on this story: Tiffany Kary in New York bankruptcy court at tkary@bloomberg.net; Edvard Pettersson in Los Angeles at epettersson@bloomberg.net.

To contact the editor responsible for this story: John Pickering at jpickering@bloomberg.net.

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