WaMu Fails for Second Time to Win Reorganization Plan Approval

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September 14, 2011, 12:58 AM EDT By Steven Church

(Updates with WaMu comment in fifth paragraph.)

Sept. 14 (Bloomberg) -- Washington Mutual Inc. failed for the second time to win approval for its plan to pay creditors more than $7 billion as a bankruptcy judge sided with opponents, including shareholders.

U.S. Bankruptcy Judge Mary Walrath in Wilmington, Delaware, said in a decision yesterday that she was “concerned that the case will devolve into a litigation morass” and ordered the two sides into mediation.

WaMu, based in Seattle, was allied with hedge funds, JPMorgan Chase & Co. and the Federal Deposit Insurance Corp. The reorganization plan they support was built on an agreement to split $4 billion in cash, and billions of dollars more in tax refunds. The settlement would also have resolved lawsuits over who is to blame for WaMu’s 2008 collapse, the biggest bank failure in U.S. history.

Common shareholders opposed that plan because it paid them nothing. They claim billions of dollars more could be raised by suing JPMorgan and the FDIC over the demise of Washington Mutual Bank, WaMu’s main operating unit.

WaMu said in a statement distributed by PRNewswire, that it believes the expeditious distribution of funds to claim holders is “of paramount importance.”

The company will proceed in a manner consistent with the judge’s opinion in a bid to win approval for a modified plan as soon as practicable, WaMu said.

Non-Public Information

Walrath said the hedge funds that helped negotiate the proposed plan may have used non-public information they gained in settlement talks to buy and sell WaMu securities. While the evidence is not definitive, it is strong enough to justify more investigation, Walrath found.

In January, Walrath rejected an earlier version of the plan, saying it guaranteed protection from lawsuits for too many parties.

The four hedge funds accused of receiving inside information are Aurelius Capital Management LP, Centerbridge Partners LP, Appaloosa Management LP and Owl Creek Asset Management LP. All four have denied using any material, non- public information to buy or sell WaMu securities.

Walrath granted the committee’s request to sue the hedge funds for their conduct during the bankruptcy. She said that potential lawsuit can’t immediately go forward, ordering shareholders and supporters of the rejected plan to mediation.

She rejected allegations that the hedge funds, known as the settlement noteholders, controlled WaMu and that the entire plan was proposed in bad faith.

Noteholders Actions

“Rather, the actions of the settlement noteholders appear to have helped increase the debtors’ estates,” Walrath wrote.

Creditors who are being paid in full lost a bid to also receive a higher rate of interest based on their original contracts. Instead, they will get a potentially lower rate known as the federal judgment rate given out by courts when awarding interest.

WaMu filed for bankruptcy on Sept. 26, 2008, the day after its banking unit was taken over by regulators and sold to JPMorgan for $1.9 billion. Washington Mutual Bank had more than 2,200 branches and $188 billion in deposits.

The hedge funds that hold different sets of WaMu bonds and convertible securities, shareholders and other creditors fought throughout the case over how to divide the cash, tax refunds and new stock to be issued in the only part of WaMu that will survive bankruptcy, a small reinsurance company.

The case is In re Washington Mutual Inc., 08-12229, U.S. Bankruptcy Court, District of Delaware (Wilmington).

--With assistance from Joe Schneider in Sydney. Editors: Fred Strasser, Peter Blumberg

To contact the reporter on this story: Steven Church in Wilmington, Delaware, at schurch3@bloomberg.net

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

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