In a long-anticipated move, Federal-Mogul Corporation (Southfield, Michigan) has filed a voluntary petition for bankruptcy protection under Chapter 11 of the U.S. Bankruptcy Code and a similar filing in the United Kingdom. The filings cover only F-M operating subsidiaries in the U.S. and U.K.. The company has over 100 operations in 23 other countries which are not involved.

The decision was made by the board of directors meeting on Sunday, and filed on Monday, October 1, 2001 in Wilmington, Delaware. October 1 is the first day of the company's fiscal fourth quarter.

Federal-Mogul said it does not expect any facility closures or job losses as a result of the bankruptcy filing. CEO Frank Macher said, "Moving forward, Federal-Mogul will continue to serve its existing customers, fulfill current contracts and secure new business. I have been in close contact with many of our major customers and suppliers, who have indicated that they will support Federal-Mogul during the restructuring process."

In its announcement, Federal-Mogul cited the reason for the bankruptcy filing as related only to ensuring the company's survival in the face of a never-ending avalanche of asbestos claims and litigation. The asbestos claims were, "threatening our company's viability," said Mr. Macher.

Mr. Macher said, "After vigorously working for a legislative solution and operating nine months with our new litigation approach for managing asbestos claims, we have determined that the process is the only way we can effectively structure payments for claimants without financially crippling the operations of Federal-Mogul." He went on, "Today's action provides a means for effectively separating our company's acquired asbestos liabilities from our true operating potential, thus paving the way for Federal-Mogul to emerge from the reorganization process as a stronger, more competitive enterprise. We remain committed in our efforts to bring about a legislative solution for managing asbestos claims."

Mr. Macher said the company has secured $675 million in debtor-in-possession financing commitments from a group of banks led by J.P. Morgan Chase & Co. Added to an existing $345 million credit line, the company will have $1.02 billion of bankruptcy financing. The company will ask for release of $400 million immediately. In its filing, F-M listed assets of $10.15 billion and liabilities of $8.96 billion.

Federal-Mogul faces asbestos claims from seven different directions, but primarily arising from its acquisition of T&N plc.

In early 1998, Federal-Mogul acquired of British autoparts maker T&N plc (Manchester, England; formerly Turner & Newell, a building materials manufacturer). From its due diligence, F-M knew that T&N faced mounting asbestos litigation related to its then-closed building materials operations and existing brake components operations.

Federal-Mogul estimated the total T&N asbestos litigation exposure would amount to approximately USD $89 million. However, the exposure is now over twenty times that amount and growing.

Several T&N divisions are responsible for generating claims. Gasket Holdings, Inc. manufactured the Flexitallic Gasket, very commonly used in industrial and piping systems. Flexitallic, according to F-M, is named in the largest number of U.S. asbestos personal injury cases against the company. Former T&N division Ferodo America, commonly known for its brake pads and shoes, also once used asbestos in its products and is the target of "thousands" of claims.

The 1998 acquisition of Cooper Industries included Moog Automotive, a division of which once manufactured friction products containing asbestos. There are "thousands" of claims against Federal-Mogul via this Moog acquisition. In addition, the Cooper acquisition also included Abex brake, which is also the object of claims.

Federal-Mogul also acquired gasket manufacturer Fel-Pro in 1998. Fel-Pro gaskets once contained asbestos and, once again, F-M faces "thousands" of claims related to exposure to old Fel-Pro gaskets.

Federal-Mogul's old Vellumoid division, closed since 1981, also manufactured gaskets containing asbestos and is subject to claims.

In asbestos claims, Federal-Mogul paid out $89 million in 1998, $178 million in 1999, $351 million in 2000 and will probably pay $350 million in 2001. It still faces more than 365,000 unprocessed asbestos-related claims in the United States.

More than 30 companies snarled in asbestos litigation have filed for Chapter 11 bankruptcy since 1982, according to Federal-Mogul. Ten companies involved in asbestos-related litigation have filed Chapter 11 since January 1, 2000. In addition, a Rand study estimates now that only about half the asbestos claims that are going to be filed have been filed.

Asbestos-related claims are only one of the many problems Federal-Mogul faces, however. Even without the asbestos situations, the company's core business units have been faltering.

After a long string of acquisitions in the late 1990's, F-M top management was widely criticized for failing to integrate the businesses and capitalize on the potential synergies. In the ultra-competitive automotive OEM and aftermarket business arenas, competitors quickly learned to capitalize on Federal-Mogul's weaknesses.

Richard Snell, CEO and architect of the acquisition strategy, was forced out in late 2000. In January 2001, a new management team headed by Mr. Macher, took over and the company, beginning a strategy of cost containment and building on the best of its business units. Underperforming and nonstrategic business units have been jettisoned and focus turned to core expertise.

A case filed under chapter 11 of the U.S. Bankruptcy Code is often referred to as a "reorganization" bankruptcy; a voluntary action where the debtor remains in control of the business is termed a "debtor in possession." Under the provisions of chapter 11, the organization continues to operate normally, and a reorganization plan must be filed at a later date. Operations under bankruptcy can go on for many years.

Under voluntary Chapter 11, there is no trustee appointed; the company develops a reorganization plan designed to ensure the survival of the business as a going concern and to pay creditors.

When the bankruptcy petition is filed, an automatic stay goes into effect. This stay freezes all judgments, collection activities, foreclosures, and property repossessions against the company. Any outstanding debt owed by Federal-Mogul when the bankruptcy filing was made are put on hold and will not be paid until the bankruptcy ends. Ongoing business expenses, starting with the date of the bankruptcy filing, will be paid as usual.

Federal-Mogul has 120 days, until February 1, 2002, to file its reorganization plan. If it does not file a plan with the court by that date, the creditors are able to file a plan.

Creditors, generally representing the seven largest unsecured claimants (claims which have no actual lien against property) will make up the Creditors' Committee. The Creditors' Committee will probably play an important role in how Federal-Mogul does business under Chapter 11.

Because a bankruptcy action can drag on for years, many of Federal-Mogul's vendors will also suffer greatly. While F-M is involved in many depressed and low-margin auto parts businesses, the company's vendors for those parts have been squeezed even tighter by the current economic climate. With no prospect of being paid for pre-Chapter 11 bills any time soon, there is legitimate concern that some smaller vendors may themselves be forced into bankruptcy.

Another key provision of the chapter 11 code will also impact vendors. That provision can require vendors who received payments from F-M in the past 90 days (since July 1, 2001) to return those funds back to the company for more equal disbursement to all creditors ("disgorgement"). This may also force some cash-strapped vendors into bankruptcy.

The impact of the bankruptcy filing on Federal-Mogul's vendors is not yet completely known, but eBearing has interviewed a number of the company's suppliers. Most, it seems, had already either cut off the company entirely or put it on very short credit terms.

In Federal-Mogul's case, the bankruptcy petition may very likely improve the payment schedule for current suppliers as cash flow is freed up from asbestos litigation.