Takata – anatomy of a complex cross-border restructuring

In the face of the largest recall in automotive history, Takata Corporation and its subsidiaries worldwide implemented one  of the largest and most complex global restructurings seen in years. The restructuring was anchored by a chapter 11 case in  the United States Bankruptcy Court for the District of Delaware, along with insolvency proceedings in Japan buttressed by  ancillary proceedings in other jurisdictions.

The road to bankruptcy

Takata was one of the world’s largest manufacturers and suppliers of automotive safety parts such as seat belts, airbags, steering wheels and child seats. Takata had operations in Japan, China, Germany, the United States, South Africa, and Mexico, among others, totaling 56 manufacturing plants in 20 countries with approximately 46,000 employees worldwide. Original Equipment Manufacturers (“OEMs”) rely on suppliers like Takata to provide component parts in a complex supply chain that requires a stable production stream without interruption. Takata was one of a small number of large suppliers of safety parts, including airbags and related components, to OEMs large and small across the globe. As of 2014, Takata held 20 percent of the market share of the airbag business.

Takata’s phase stabilized ammonium nitrate (“PSAN”) inflators led to Takata’s distress and ultimate downfall. Specifically, certain of Takata’s PSAN inflators ruptured spewing shrapnel when deployed causing serious injuries in some cases and a number of fatalities. 

These problems resulted in massive and wide ranging recalls by OEMs and governmental authorities, including in 2014, the United States National Highway Traffic Safety Administration (“NHTSA”). The recalls have grown to become the largest automotive recall campaign in history, involving the recall of more than 120 million airbags in over 55 million vehicles. The recalls triggered billions of dollars in contractual indemnity, reimbursement, and contribution claims asserted by OEMs against Takata as a result of the costs to remove and replace the recalled PSAN inflators.

There were also a multitude of individual and class action personal injury or wrongful death lawsuits as well as economic loss claims asserted against Takata and OEMs. Several states and US territories also brought lawsuits. While the lawsuits themselves were a significant strain on Takata’s financial condition, this strain was dwarfed by the enormous OEM contractual indemnification claims against Takata for costs and expenses incurred by OEMs in carrying out the recalls. 

NHTSA, in turn, imposed a $70 million civil penalty on Takata in November 2015, and imposed obligations on Takata to store and preserve the recalled PSAN inflators and phase out the manufacture of certain PSAN inflators.

The trouble for Takata only continued from there. Following an investigation by the FBI, US Department of Transportation, and the US Department of Justice, on February 27, 2017, Takata pled guilty to charges of wire fraud for providing false data to the OEMs related to the PSAN Inflators. In the criminal plea agreement, Takata agreed to pay $1 billion in restitution. This included: (a) a $25 million criminal fine to the US government, (b) $125 million in restitution to create an individual victim compensation fund, and (c) $850 million in restitution to create an OEM compensation fund, whom Takata admitted in the plea agreement had been defrauded.

Pursuant to the criminal plea agreement, Takata was required to remit the restitution funds by February 27, 2018, or face further criminal repercussions. Takata funded the $25 million fine and the $125 individual victim fund in 2017. However, it lacked sufficient resources on its own to fund the $850 million OEM restitution fund.

Restructuring a  global footprint

In light of the cascade of troubles and complexities, a fifteen member informal OEM Customer Group was formed in 2016 to negotiate a restructuring and/or sale. The OEM Customer Group was comprised of the largest US, European, and Japanese OEMs including Fiat, Chrysler, Ford, General Motors, BMW, Daimler (Mercedes), Volkswagen, Honda, Nissan, and Toyota.

The only way Takata could meet its obligations under the criminal plea agreement was to sell its global business, which spanned five continents.

The massive indemnity liabilities to OEMs and overhang of individual and governmental liability emanating from Takata’s PSAN inflators, however, made it difficult to achieve a market sale price absent protections for a buyer from present and future liabilities that could only be achieved in insolvency proceedings.

To further complicate matters, any sale pursued had to be consummated by February 27, 2018, the deadline in the plea agreement for Takata to fund all restitution payments.

Additionally, any sale of assets or the Takata enterprise would need to allow for a smaller, reorganized Takata to continue to operate its PSAN inflator business in order to meet its recall-related obligations to OEMs and of course to NHTSA, including the storage, preservation and ultimate disposition of the recalled PSAN inflators.

The first step to restructuring the global enterprise included coordinated insolvency filings in the United States and Japan, which would be supplemented with ancillary proceedings in other regions of the world.

On June 25, 2017, Takata’s main US subsidiary TK Holdings Inc. and eleven of its US and Mexican affiliates (“US Debtors”) each filed voluntary petitions under Chapter 11 of the Bankruptcy Code in the United States Bankruptcy Court for the District of Delaware. Takata’s bankruptcy filings projected liability, including, but not limited to personal injury claims and OEM indemnifications, ranging from $10 billion to $50 billion.

On June 26, 2017, Takata Corporation, Takata Kyushu K.K., and Takata Service K.K. (“Takata Japan”) commenced an insolvency proceeding under the Civil Rehabilitation Act in Tokyo, Japan.

Finally, on June 28, 2017, the US Debtors commenced an ancillary proceeding under the Companies’ Creditors Arrangement Act (Canada), R.S.C. 1985, c. C-36, as amended, in the Ontario Superior Court of Justice.

Takata Japan also sought recognition of its proceeding by the United States Bankruptcy Court under Chapter 15 of the US Bankruptcy Code.

The coordinated proceedings aimed to implement a global transaction and asset sale of Takata’s non-PSAN inflator business to a third party and to continue the PSAN inflator business as a reorganized Takata entity in order to provide OEMs with replacement parts for the recalls they were carrying out in addition to collecting, storing and disposing of the recalled PSAN inflators.

In November 2017, after months of pre- and post-bankruptcy negotiations, Takata ultimately finalized a global sale agreement and transaction with Key Safety Systems (“KSS”).  KSS is a US auto components manufacturer that is owned by Chinese automotive supplier Ningbo Joyson Electronics Corporation. KSS agreed to sponsor Takata’s restructuring efforts by purchasing substantially all of Takata’s assets and operations through a globally coordinated restructuring effort. Specifically, KSS would acquire (a) the US and Mexican Takata assets pursuant to a court approved chapter 11 plan in the United States Bankruptcy Court, (b) the Japan assets through a court approved asset sale in the civil rehabilitation proceedings in Japan, and (c) certain other assets through various out-of-court transactions throughout Europe, Asia and other regions, for an aggregate purchase price of approximately $1.588 billion. KSS would acquire all of Takata’s assets and business,  except for operations that related to  the manufacturing and sale of  PSAN inflators.

In February 2018, the Japanese court approved the asset sale of Takata’s Japanese business. On February 21, 2018, Bankruptcy Judge Brendan Shannon for the United States Bankruptcy Court for the District of Delaware, approved a chapter 11 plan that implemented a restructuring and sale of the US Debtors’ assets to KSS. With both courts’ approval, KSS was able to close on the global transaction in April 2018, less than one year after commencing the insolvency proceedings. The closing of the transaction in April 2018 enabled Takata to remit $850 million in restitution to the OEMs pursuant to Takata’s criminal plea agreement (ahead of the deadline which had been extended by the US Department of Justice), further fund a bankruptcy trust to compensate individuals injured by Takata’s PSAN inflators, and structure a reorganized Takata to carry out the PSAN inflator recalls and  other obligations.

The road to a successful transaction, however, was anything but certain or simple. Takata needed financing from the OEMs to continue to operate while negotiating and reaching the closing of a sale and KSS required injunctions against claims and assurances that all issues with the US Department of Justice, specifically full payment of the $850 million OEM restitution fund, were addressed and resolved. Takata also needed to address the opposition and objections to the sale and chapter 11 plan, in particular, estate fiduciaries appointed to represent the interest of the current and future individual tort claimants.

First step: funding Takata and protecting OEM setoff rights as secured creditors

At the outset, Takata needed to figure out how it was going to fund its ongoing operations given that OEMs maintained enormous indemnity claims that could be offset or recouped against the hundreds of millions of dollars in payables owed to Takata at the very start of the insolvency proceedings.

In most automotive supplier restructurings, OEMs and suppliers execute what are commonly called accommodation agreements. An accommodation agreement is essentially a forbearance agreement that involves: (i) the OEMs, (ii) the supplier, and (iii) the secured lenders, if any. This agreement is put in place when a troubled supplier lacks the necessary funds to purchase materials to continue manufacturing products. Frequently, these agreements provide that OEMs will commit to advance payment in order to ensure liquidity, therefore, production.

Takata’s restructuring, however, was significantly different from the usual automotive supplier restructuring given the size of the OEMs’  indemnity claims. The OEMs’ ability to setoff and recoup their indemnity claims had the potential to wipe out any payables owed to Takata as of the insolvency filings, at least in the US chapter 11 proceeding. In the US alone, as of the filing date, OEMs’ payables approximated $285 million. It was imperative that Takata collected these receivables to operate until the global sale to KSS closed and to continue service for the ongoing recalls. 

A solution was achieved that balanced the parties’ rights and interests and was approved by the Bankruptcy Court. The OEMs agreed to provide the requisite financing by timely paying, and in some circumstances advancing payment on, their payables. In the US chapter 11 case, the accommodation agreement, however, protected the OEMs by recognizing their setoff and recoupment claims as secured claims with resulting adequate protection, administrative claims and replacement liens consistent with debtor-in-possession and cash collateral protections given to secured creditors under the US Bankruptcy Code.

In short, the OEMs paid the payables owed on the petition date and were granted priority adequate protection claims and replacement liens on Takata’s assets. Specifically, the priority claims and replacement liens were equal to the payables owed as of the petition date to the US Debtors – approximately $285 million. As discussed below, the OEMs’ $285 million adequate protection priority claims and replacement liens were also instrumental in ensuring that the $850 million OEM restitution payment could be made by Takata at closing. Ultimately granting OEMs secured creditor status paved the way for funding Takata’s operations during the restructuring process. The agreement also recognized the OEMs’ rights as secured creditors — akin to debtor-in-possession lenders — while avoiding the need for what would have been a more expensive debtor-in-possession loan.

Next step: overcoming certain tort constituencies’ objections

Garnering financing and entering into an accommodation agreement that recognized the OEMs’ indemnity and setoff claims was only the first step. The Official Committee of Tort Plaintiffs, the legal representatives of individuals who sustained injuries, and the Future Claims Representative, along with certain other parties, were objecting to the sale to KSS and the chapter 11 plan.

A key aspect of the chapter 11 for Takata, KSS and the OEMs was to ensure that Takata could fully pay the $850 million OEM restitution fund. The various tort constituencies contested this aspect of the chapter 11 plan and sought to prevent the contribution. 

After compressed and heavy litigation, the various parties reached settlements and incorporated them into the chapter 11 plan that facilitated a timely closing. The settlements also preserved the OEMs’ right to the $850 million restitution fund, while simultaneously providing greater funding of the tort constituencies’ unsecured claims.

The accommodation agreement provided the foundation for ensuring that the $850 million OEM restitution payment could be made by Takata.

Specifically, the chapter 11 plan recognized and incorporated the accommodation agreement granting the OEMs’ priority claims and liens in exchange for payment of receivables owed to the US Debtors. Satisfaction of the OEMs’ $285 million adequate protection claims and liens would be used to satisfy the US Debtors’ required contribution to the OEM restitution fund. With the US Debtors’ portion funded, the other global divisions of Takata were tasked to contribute the remaining funds to reach the designated $850 million required by the criminal plea agreement.

The chapter 11 plan also created a Personal Injury/Wrongful Death Trust (“Trust”) for personal injury claimants. The Trust was funded in large part through a settlement whereby Takata would contribute a portion of the OEMs’ general unsecured claim recoveries to the Trust.  This additional funding enabled Takata to provide greater recoveries to individuals injured by the PSAN inflators. In addition, the plan included a channeling injunction that protected KSS from all liabilities related to Takata’s PSAN inflators, including personal injury lawsuits. As would be expected, KSS, as buyer, required such protections as a condition of its purchase of Takatas. By creating this Trust and providing these protections, Takata and the OEMs were able to resolve the tort plaintiffs’ objections and remove a considerable roadblock that could have resulted in significant pre- and post-plan litigation.

When the Bankruptcy Court approved Takata’s chapter 11 plan on February 16, 2018, it did so with the support of all major US Debtors’ creditor constituencies, including the Official Committee of Unsecured Creditors, the Official Tort Claimants Committee, the Future Claimants’ Representative, as well as the OEMs.

Last step: Court rules that State Claims are dischargeable

In addition to the tort plaintiffs, various states and territories also opposed the chapter 11 plan and sale to KSS. Their objections stemmed from the large claims they asserted and contended were not dischargeable in the chapter 11 proceeding.

Hawaii, the US Virgin Islands, New Mexico, and Puerto Rico (collectively, the “States”) individually filed complaints and unliquidated claims (“State Claims”) in an amount estimated to be approximately $12 billion dollars. The State Claims asserted various causes of action, including but not limited to charges of unfair or deceptive acts or practices. The States claimed that these obligations were not dischargeable and hence could be pursued against reorganized Takata post-closing.

To prevent the sale to KSS from collapsing, Takata addressed the State Claims through litigation in the Bankruptcy Court in connection with approval of the chapter 11 plan. On February 14, 2018, the Bankruptcy Court issued an opinion determining that the State Claims were in fact dischargeable and were not excepted from discharge pursuant to the Bankruptcy Code. The States immediately appealed the Bankruptcy Court’s ruling.

The strength and weight of the Bankruptcy Court’s ruling, however, led to settlements with the States under which Takata allocated approximately $6.8 million of OEM general unsecured claim recoveries to the States as unsecured creditors. This final settlement enabled Takata and KSS to proceed smoothly to a closing without the overhang of any appeals.

Conclusion

Acknowledged to be one of the most complex restructurings in history, the global sale transaction was accomplished within a relatively expeditious 12 months from the commencement of the US and Japan insolvency proceedings. The transaction benefited all creditors and the driving public. First, the transaction avoided any supply chain disruptions by ensuring the continued and uninterrupted supply of automotive parts by Takata and KSS to OEMs. Second, the proceeds generated through the transaction enabled Takata to fund (a) the $850 million OEM restitution fund, and (b) a newly created bankruptcy trust to provide additional compensation to tort plaintiffs which supplemented the $125 million restitution award previously funded pursuant to Takata’s plea agreement. Finally, the surviving reorganized Takata entity is able to continue providing replacement airbag parts to service ongoing PSAN inflator recalls.