Article Daily Bankruptcy Review

Debt-For-Equity Exchanges And Media Companies

The media sector is experiencing a dramatic deterioration in fundamentals due to the recent economic downturn. Declines in advertising revenues directly linked to the downturn in the banking, auto and restaurant sectors are hitting media companies' revenue generation and bottom line. In addition, many radio, television and newspaper companies are highly leveraged (or overleveraged) and will need to restructure their balance sheets to meet their new business activity. This will require debt holders to exchange their debt obligations for equity in reorganized companies. These debt-for-equity exchanges, which involve traditional lending institutions, hedge funds and CLOs, inevitably result in a "change of control" for ownership purposes. As a result, the requirements of the Federal Communications Commission can make it challenging for the "new owners" of a media company to hold equity. To successfully consummate a restructuring, careful planning and an understanding of the FCC ownership rules are necessary for all parties involved in the recent and future wave of media restructurings.

The FCC, an independent U.S. government agency, is charged with regulating interstate and international communications by radio, television, wire, satellite and cable. Absent FCC authorization, a broadcaster cannot operate in the U.S. When faced with a restructuring involving a media company, there are three key considerations to be aware of:

FCC Approvals in Bankruptcy:

General Approvals: Both the entry into Chapter 11 and the emergence from Chapter 11 require consent of the FCC. Initially, FCC consent must be provided for the assignment of the debtor's FCC licenses to the "debtor-in-possession" after the commencement of a Chapter 11 case. This consent is accomplished through abbreviated procedures, with the FCC approving what are known as "short form" applications. To continue its operations post-restructuring, the debtor is required to file more detailed applications with the FCC to obtain approval to place control of the reorganized debtor in the hands of the corporation's new stockholders. Known as the "long form" application process, the FCC requires "public notice" to be provided and interested parties have thirty days to file petitions to deny the applications. Moreover, the FCC will not grant long form applications until a plan of reorganization has been approved by the bankruptcy court.

Fast Track Trust Approach to Emergence: Neither reorganized companies nor their new owners want to wait for long-form approvals, thereby requiring a debtor to wallow in Chapter 11. As a result, a new trend is for the debtor to emerge from Chapter 11 with an assignment of FCC licenses to the reorganized debtor and the transfer of the new common stock to a trust (as opposed to the new owners) until the FCC's grant of the long form applications. FCC consent is required for "trust" scenario, but is accomplished through abbreviated/short-form procedures.

Attributable Interests in Media Under the FCC's Rules.

A prospective stockholder in a reorganized debtor subject to FCC regulation is considered a "party" to the long-form applications if the prospective stockholder is be deemed to hold an "attributable" interest in the reorganized debtor. The FCC's "multiple ownership" and "cross ownership" rules prohibit common ownership of "attributable interests" of certain combinations of broadcast and other media properties. "Attributable interests" generally include general partnership interests, non-insulated limited liability company or limited partnership interests, a position as an officer or director (or the right to appoint officers or directors), or a 5% or greater direct or indirect interest in voting stock. Attribution traces through chains of ownership. In general, a person or entity that has an attributable interest in another entity also will be deemed to hold each of that entity's attributable media interests except for indirect stock interests that are attenuated below the attribution threshold in the ownership chain.

The FCC regards an entity with an attributable interest in a media outlet as an "owner" of that media outlet for purposes of applying its multiple ownership and cross-ownership rules. Thus, prospective stockholders in a reorganized debtor subject to FCC regulation will need to assess (1) what attributable interests they may hold in daily newspapers of general circulation or other radio or television licensees and (2) whether the attributable media interests that they hold would conflict with their holding an attributable interest in the broadcast licensees of the reorganized debtor. Rules that could give rise to a prohibited combination for a prospective stockholder include the following:

 - Local Television Ownership (Duopoly Rule): Under the current local television ownership rule - the "duopoly rule" - a single entity may own or have attributable interests in two television stations in the same market - a "Designated Market Area" or "DMA" as determined by the Nielsen television ratings service - if (1) the two stations do not have overlapping service areas, or (2) after the combination there are at least eight independently owned and operating full-power television stations serving the DMA and at least one of the combining stations is not ranked among the top four stations in the DMA.

 - Radio/Television Cross-Ownership Rule: The FCC's radio/television cross-ownership rule permits the common attributable ownership or control of more than one full-power AM and/or FM radio station and up to two television stations in the same market.

? Newspaper/Broadcast Cross-Ownership Rule: The FCC presumptively allows the ownership of attributable interests in a broadcast station and an English-language daily newspaper of general circulation that is published in the market served by the broadcast station only when (1) the market at issue is one of the 20 largest DMAs; (2) the combination involves only one daily newspaper and only one radio or television station; and (3) if the transaction involves a television station, (a) at least eight independently owned and operating major newspapers and/or full-power television stations would remain in the DMA following the transaction and (b) the television station is not among the top four ranked stations in the DMA.

 - Television National Ownership Rule: By statute, one party may hold attributable interests in television stations that reach, in the aggregate, no more than 39% of all U.S. television households. The corresponding FCC rule on national television ownership limits provides that, when calculating a television station's nationwide aggregate audience, all UHF stations are considered to serve only 50% of the households in their DMA and all VHF stations are considered to serve all households in their DMA, including households that cannot naturally receive such a VHF station over the air.

FCC Foreign Ownership Restrictions for Entities Controlling Broadcast Licenses

The Communications Act restricts foreign ownership or control of any entity licensed to provide broadcast and certain other services. Among other prohibitions, foreign entities may not have direct or indirect ownership or voting rights of more than 25% in a corporation controlling the licensee of a television broadcast station if the FCC finds that the public interest will be served by the refusal or revocation of such a license due to such foreign ownership or voting rights. The FCC has interpreted this provision to mean that it must make an affirmative public interest finding before a broadcast license may be granted or transferred to a corporation which is controlled by another corporation more than 25% owned or controlled, directly or indirectly, by foreigners. With few exceptions, the FCC does not make such an affirmative finding in the broadcast field.

In calculating the 25% ceiling on foreign ownership and voting rights in an entity controlling a broadcast licensee, warrants and other future interests typically are not counted by the FCC toward the foreign ownership ceiling. In some specific circumstances, however, the FCC has treated non-stock interests in a corporation as the equivalent of equity ownership and has assessed foreign ownership based on contributions to capital.

With the increasing likelihood of more media corporation restructurings, debt-for-equity exchanges will likely be necessitated. Debtors and creditors alike will need to understand and appreciate the FCC ownership-related requirements to ensure that restructuring initiatives and transactions are implemented in a way that ensures that stakeholder value will in fact be received and that the debtor will ultimately emerge with necessary FCC approvals in hand.