Actually, once the bankruptcy case is filed, the secured creditor does not "have the right to take his security" out of the case, unless and until he can get the automatic stay lifted. Typically, so long as the debtor is making interest payments (not principal) to the secured creditor, the secured creditor will be deemed "adequately protected" (yes, it's a term of art), the automatic stay won't be lifted and the secured creditor is along for the ride whether he likes it or not.
As Zathras notes, the source of the money to make those interest payments will be the "debtor-in-possession" (DIP) lender. If financing is not available on other terms, the court may grant the DIP lender a super-priority lien, senior to the existing secured lender. Moreover, many bankruptcy courts allow a "roll-up" that results in the DIP lender's pre-petition claim also gaining a super-priority as post-petition credit is drawn.
Finally, keep in mind that even aside from DIP lending, the only thing a secured lender is entitled to is the value of its collateral. While having a blanket lien is a fairly strong position, under certain circumstances, a reorganization plan can be "crammed down" on a dissenting secured creditor by maintaining his lien and giving him payments over time the present value of which is equal to the value of the collateral at the date of the filing. In other words, the debtor can issue new post-petition debt that stretches out the secured creditor (e.g - replacing a debt due this year with a 30 year note, perhaps even with PIK'd interest. So long as the debtor's financial expert can convince the court that the present value is equal to the secured amount of the claim, the secured creditor is stuck with it).
Workout negotiations always occur against the backdrop of what the parties expect will occur in a bankruptcy. Sometimes, the rights of the parties are clear enough that everyone can agree on the probable outcome. Should that occur, they make a deal. But sometimes one or more of the parties makes a mistake or overplays their hand, and the case then files to the detriment of all but the bankruptcy lawyers.
The negotiations prior to the Chrysler bankruptcy worked precisely the way one would expect given the various parties in interest, their strengths and weaknesses. It might be helpful to review the considerations faced by each of the main players
1. The secured bondholders: While their blanket lien gives them a pretty strong hand, a bankruptcy could be bad news for them, as I have noted above. While some of the banks may be par holders, the hedge funds almost certainly bought their debt at distressed levels, say around 18-20 cents on the dollar, and the other parties know this. The other parties know that the funds can take a lot less than 100% on their claims and still make a mint.
Keep in mind that, even without the threat of bankruptcy, the bondholders probably do not actually want to foreclose. If they did foreclose, they would need to pour further additional cash into the company to keep it operating. Otherwise they are left with a bunch of closed factories and various pieces parts to sell off. Liquidation value is almost always less than going concern value.
2. The VEBA trust: 2 years ago (IIRC), the retiree health benefit obligations were transferred off Chrysler's balance sheet to the VEBA trust (VEBA = voluntary employee benefit association). In return for accepting this liability (which improved Chrysler's financial position), the VEBA trust received some cash and an unsecured claim for further contributions over time. The government cash loans in the fall required that the VEBA trust accept some stock instead of cash contributions.
While they are unsecured creditors, the VEBA trust has one very powerful weapon in the ability of the UAW to strike. That right is not lost in bankruptcy, and if the union strikes, the company crashes and everyone loses. It would be a pyrrhic victory, no doubt, but is is a potent threat.
3. The government: as a consequence of its cash infusion last fall, the government is the largest unsecured creditor. Its strength comes from the fact that it is the only real source of DIP financing in a bankruptcy. Any post petition lending will be senior to the existing secured creditors, and the government may be able to get a roll-up as well.
I have no inside knowledge about the negotiations, but it appears that the government essentially was willing to subordinate its unsecured claim to the VEBA trust. The main sticking point was precisely how much profit the secured creditors (i.e. hedge funds) would make, given that they almost certainly bought at distressed prices. At some point, the bid/ask spread could not be closed and the secured creditors decided they would take their chances in bankruptcy, so the bankruptcy petition was filed. It was a giant game of chicken and no one swerved.
These negotiations are never pleasant. The stakes are high and each side threatens the other with all the weapons at its disposal. Usually, cooler heads prevail, but often not. Hence a large industrial Chapter 11.
Many people may have a philosophical objection to the government loans in the first place. I personally think the money was wasted and the two automakers should have filed bankruptcy last fall. But given that government was the largest unsecured creditor and the only likely DIP lender, the negotiations proceeded precisely as one would expect. The parties played the hands they had and the result is not unexpected. I think the hedge funds overplayed their hand, but we shall see.
