By Patrick Fitzgerald Of DOW JONES DAILY BANKRUPTCY REVIEW A federal judge rejected Colonial BancGroup Inc.'s Chapter 11 plan as "not in the best interest of creditors," a victory for the Federal Deposit Insurance Corp. in its long-running court fight with creditors of the former parent of Colonial Bank. Judge Dwight H. Williams Jr. of the U.S. Bankruptcy Court in Montgomery, Ala., Friday issued an opinion objecting to Colonial's Chapter 11 liquidation plan to pay off creditors by suing the FDIC. Since then, the two sides have battled over creditors' efforts to recoup some $1.5 billion in funds the parent transferred to its struggling banking subsidiary in the months before it was seized. "The court concludes that confirmation of the debtor's proposed chapter 11 plan should be denied because it fails to meet the 'best interest of creditors test,'" Williams wrote in a 13-page opinion. That test requires a debtor to show that creditors who vote against a plan will fare as well under a Chapter 11 plan as under a hypothetical Chapter 7 case. Williams agreed with the FDIC's argument that Colonial's inclusion of a plan trustee and plan committee would likely be more expensive than if the bankruptcy estate was liquidated under a Chapter 7 trustee. The FDIC was named receiver of Colonial Bank in the summer of 2009, after state regulators seized the Montgomery-based bank. It then sold most of Colonial's holdings to North Carolina's BB&T Corp. (BBT). Both the regulator and the Winston Salem, N.C., bank had opposed the plan, asserting it wasn't in the creditors' best interests. Colonial, which has no revenue or business prospects, isn't seeking to reorganize, according to the FDIC. Instead, the Chapter 11 bankruptcy has become a platform for creditors who bought debt at a deep discount to pursue "an aggressive litigation strategy" aimed mostly at the FDIC, the agency said recently. In a key ruling last fall, Williams rejected the FDIC's bid to hold the holding company accountable for failing to maintain capital levels at the bank. The decision represented a setback for the FDIC in bankruptcy court, where the agency, as receiver, has sparred with a number of bank-holding companies that are under Chapter 11 protection because of hundreds of bank closures by regulators in recent years. The FDIC, however, said Williams erred and appealed the ruling. The fight over capital commitments adds to other battles between the two over tax refunds estimated at $253 million, real-estate investment trust preferred securities worth $300 million, insurance and other assets. That litigation is pending in U.S. District Court in Montgomery. The fate of Colonial BancGroup's Chapter 11 case is unclear. Colonial BancGroup's attorney C. Edward Dobbs, a partner at Atlanta's Parker, Hudson, Rainer & Dobbs, declined to comment. Last month, the FDIC had called for the case to be converted to a Chapter 7 liquidation. It later withdrew that request pending the outcome of the plan hearing. According to court filings, the FDIC had offered to settle the Colonial litigation. The offer involved a carve-out of some $63 million in disputed assets--minus the fees and expenses racked up in the Chapter 11 case--to be earmarked for the estate's unsecured creditors. But no deal was ever reached, and the FDIC withdrew its settlement offer earlier this month. Whether the bankruptcy-court ruling will spur new discussions on a settlement remains to be seen. FDIC spokesman Andrew Gray couldn't immediately comment. Colonial, which had $25 billion in assets and $20 billion in deposits, was the biggest bank failure of 2009. The FDIC estimates Colonial's collapse will cost its insurance fund $3.8 billion, making it one of the most expensive bank failures in U.S. history. (Dow Jones Daily Bankruptcy Review covers news about distressed companies and those under bankruptcy protection.) -By Patrick Fitzgerald; Dow Jones Daily Bankruptcy Review; 202-862-3544; patrick.fitzgerald@dowjones.com
