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Appaloosa Management backs away from investing in the bankrupt auto parts maker. Will former parent and major customer GM be on the hook?

For General Motors (GM), bankrupt parts maker Delphi is the problem that just keeps coming back. And it might get worse.

The latest headache came on Apr. 4 when a group of hedge funds led by Chatham (N.J.)-based Appaloosa Management pulled out of a deal to inject $2.55 billion in equity into the bankrupt parts maker. That chest of cash was a key part of Delphi's $6.1 billion in financing it needs to emerge from Chapter 11 protection.

Now, Delphi will remain in bankruptcy until it can raise money to emerge and GM could be on the hook for more assistance to the troubled parts firm. Delphi is GM's largest supplier, selling the automaker $8.3 billion in parts last year.

A Tough Time Severing Ties
GM says it won't increase its forecasted exposure to Delphi. But it is possible that GM ends up playing a bigger role. "Clearly, GM needs Delphi to continue operating," says UBS (UBS) analyst Rod Lache. "Other investors are falling away and GM could end up holding more of the bag."

It's unclear what assistance GM, if any, would have to give Delphi in the future. But it's obvious that the auto giant is having a tough time severing ties once and for all with the in-house parts unit it spun off in 1998.

In the future, the automaker could assume more of Delphi's pension liabilities to help the company or give further cash assistance. GM, which has already agreed to take $2 billion in Delphi debt instead of cash owed from its former parts unit, could end up converting that paper to equity.

GM's Expanded Role Scared Investors
One GM executive, who asked not to be named, said it is unlikely GM would end up as a significant shareholder of Delphi, but it is still possible. GM's $2 billion loan to Delphi could be converted to equity, making GM a large shareholder in the company. GM executives say that's unlikely, but the company already owns $1.1 billion in Delphi junior convertible preferred stock.

In addition to basically loaning Delphi $2 billion earlier this year, GM has taken $7.5 billion in charges while helping the parts firm since it went bankrupt two years ago.

Ironically, it was GM's increased role in Delphi's recovery that scared off investors. Sources close to the consortium say that when GM became a bigger lender to Delphi, it gave the automaker greater power in the parts maker's oversight.

Deal Violations Alleged
In bankruptcy court, lenders always have a fair amount of clout. Appaloosa and its affiliates didn't want GM, which has been trying to get lower prices on parts from Delphi, to have more influence on the company.

In its letter filed with the Securities & Exchange Commission, the investment group said it pulled out of Delphi's refinancing deal in part because of GM's expanding role and because of numerous other violations of the original deal.

Sources close to the consortium said there were 22 violations. A Delphi spokesman denied that the company violated the agreement and pointed out that the bankruptcy judge had approved all of Delphi's moves leading up to the scheduled Apr. 4 closing of its exit financing.

Coming Up With a New Plan
Among other violations, Appaloosa said in the filing that Delphi failed to show that the company's pro forma interest expense during 2008 would not exceed $585 million. That was one stipulation of the investment agreement. The group also took issue with some executive compensation agreements, although they did not specify which ones.

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In the future, the automaker could assume more of Delphi's pension liabilities to help the company or give further cash assistance...
This is rightfully the type of news that casts dark shadows over GM as a long-term investment. Contrary to what mbukukanyau suggests, this albatross has got to be cleanly cut loose for good.
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