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Treasury Loses Out in CIT Bankruptcy

Dan Freed

NEW YORK (TheStreet) -- The U.S. Treasury has likely lost its entire $2.33 billion preferred investment in CIT Group (CIT Quote) after bondholders and the board approved the company's proposed prepackaged bankruptcy filing over the weekend.

Under the plan, two junior classes of debtholders and preferred shareholders including the U.S. Treasury are to receive securities known as contingent value rights (CVRs), while senior bond holders get a combination of new bonds and equity. Common shareholders will get nothing.

The documents describing how the CVRs work are thick with legalese, but Jeff Werbalowsky of Houlihan Lokey, advisor to a steering committee of senior CIT bond holders, translated it into English for me.

Here's how the CVRs work: Now that the plan has been approved, the new CIT bonds and shares will begin trading as soon as is practical. If after 60 days they turn out to be worth enough to allow a full recovery for the old (pre-bankruptcy) debt holders, they will be paid in full and any residual value would go to the two junior bond holder classes. If and when they recover what they were owed by CIT, the rest would go to Treasury and the other old (pre-bankruptcy) preferred shareholders. If the new securities do not go up in value enough to pay off all the old debt holders in 60 days, the CVRs will become worthless.

One person involved in the negotiations, who did not want to be quoted for fear of appearing to thumb his nose at the Treasury, believes it is highly unlikely the CVRs turn out to be worth anything. A Treasury spokeswoman did not respond to an e-mail message seeking comment.

"Taxpayers are unlikely to see any significant recovery of their $2.33 billion investment in CIT Group. It was a bad investment on the day it was made, and the (Troubled Asset Relief Program) TARP investment will probably look like an even worse one on Monday," said Linus Wilson, a professor at the University of Louisiana and vocal critic of the bailout, on Friday when reports that the filing was likely for Sunday first appeared.

In its press release on Sunday announcing its board's decision to move ahead with the filing, CIT said it expects to reduce its total debt by about $10 billion under the plan while significantly lowering its liquidity needs over the next three years.

CIT is one of 726 companies that still owe money under the TARP program, according to ProPublica . Those companies include Citigroup (C Quote), Wells Fargo (WFC Quote), Bank of America (BAC Quote) and AIG (AIG Quote).

Among the 42 companies that have paid back TARP investments from the Treasury are Goldman Sachs (GS Quote) and JPMorgan Chase (JPM Quote).

--Written by Dan Freed in New York.