Midway Creditors Cry Foul Play over Approval of Bankruptcy Motions

Feb.18.09 | About: Midway Games (MWY)

Over the concerns of some lenders, Tuesday Midway Games got a green light from the US Bankruptcy Court for the District of Delaware to continue to run its U.S. operations as usual as it moves forward.

The authorization for the “first day motions” will allow the company to press ahead with the bankruptcy filing Midway completed last week (The complete filing is available here). Payroll, price protection mechanisms and Market Development Fund obligations will be paid from the company’s cash position.

CEO Matt Booty said the company “remains confident in Midway’s ability to use this proven [bankruptcy] process to address our capital structure and explore our strategic alternatives.” He called the approval an “important first step.”

Not all creditors agree. In an objection motion filed last Friday (which is embedded below), several voiced concerns suggesting that the bankruptcy, and the situation that created it, could evolve as an end-run around Midway’s debt obligations for the best interest of its majority owner but to the detriment of the creditors themselves.

In their objection filing, the creditors called the Chapter 11 filing “tainted.”

The issues stem from a domino process that was first set in motion by the sale of the company’s stock in December:

When Mark Thomas, believed to be a partner at private equity firm Georgetown Partners, acquired Sumner Redstone’s stake in Midway Games for a song, the purchase was deemed a “change of control.” This “event” triggered an early repayment requirement on about $150m in outstanding long-term debt. Midway twice managed to buy time with extensions, but ultimately, unable to repay that scale of obligation, the struggling company was driven to bankruptcy.

Complicating matters for other creditors, along with equity, Thomas’ purchase bought him full participation in $70m of debt owed to Redstone’s National Amusements company. $30m of this was senior in status. That meant this obligation was guaranteed to be repaid before other creditors in the event of a default.

Midway’s bankruptcy filing last week created the default event.

Translating the connected events - Thomas, for the purchase price of $100k, effectively bought 87.2% of the company and set in motion a process that not only bankrupted the company but also gave him a $30m guaranteed lien against the company’s assets including all of its IP (the company reports total assets of $167.5m and total debt of $281m in its Bankruptcy Filing).

If Midway can’t exit bankruptcy able to repay its debts, Thomas could theoretically use his position to push the company private, cram down its other creditors, and begin anew. It’s over this creditors are crying foul.

In the objections, noteholders are saying Thomas’ senior status gives him protections “well beyond what is necessary to adequately protect” his holding company’s interest.

Moreover, the creditors go so far as to overtly suggest that Redstone’s sale may have been a carefully planned manipulation to achieve this from the start: “To the best of each Objecting Noteholder’s knowledge, little or no meaningful diligence has been done by the Company in connection with the Redstone-Thomas transaction.” The objection filing reads, “it is safe to assume that there must be a connection between Redstone and Thomas given that Redstone essentially gifted his rights in the Debtors to Thomas.”

The bankruptcy court is tasked with sorting the whole thing out. Round One seems to have gone to Thomas. Midway’s fate hangs in the balance.

[The Creditor Objection Filing is Below]