June 7th 2008

By John Driscol
The Times-Standard
June 7, 2008

A new Pacific Lumber Co. will be formed by the Mendocino Redwood Co., according to a federal bankruptcy court's ruling filed Friday.

U.S. Bankruptcy Court Judge Richard Schmidt announced his decision to confirm Mendocino Redwood's reorganization plan for the more than 140-year old timber company to attorneys in his Corpus Christi, Texas, courtroom.

He also said he would not confirm a plan by bondholders to auction off the timberlands that secure their $714 million debt.

"The credible and persuasive evidence at the confirmation hearing establishes that the reorganized entities are reasonably expected to be stable, creditworthy, able to pay their debts as they mature, able to comply with all non-bankruptcy environmental laws with regard to the regulatory approvals of ownership and operation, and assume all environmental obligations," Schmidt wrote in his ruling.

In an afternoon court session Friday, however, issues were raised that could affect whether Mendocino Redwood can seal the deal. A multimillion-dollar claim filed by bond holders in the case emerged as a sticking point that needs resolution.

The initial news of the ruling was a relief to many Palco employees, whose fate has been uncertain at best. While some questions and concerns remain regarding the way forward, workers were generally upbeat.

Bert Silva, a 31-year Palco employee and current shipping and inventory supervisor, said he felt it was the best possible outcome to the bankruptcy.

"It's almost like you've been underwater and under pressure for so long -- it's almost like you're decompressing," Silva said.

Silva was on board when Maxxam Inc. CEO Charles Hurwitz seized control of the company in an unfriendly takeover in 1985. Silva said he's been through more layoffs than he can count, and said that the prospect of working for a stable company is great.

"We couldn't have asked for anybody better to take us over," Silva said.

There remain worries about wages Mendocino Redwood will pay employees and whether there may be layoffs in store if the plan becomes effective, however, Silva said.

The judge did require some changes to the Mendocino plan, filed jointly with Palco creditor Marathon Structured Finance Fund. Schmidt told attorneys that he wanted Palco's litigation against the state over the Headwaters Forest deal left with the bondholders, with any recovery shared by the noteholders and other creditors.

Mendocino Redwood Chairman Sandy Dean said lawyers were going through the judge's 119-page ruling to make sure they understand the changes.

"Today's ruling was a really positive step forward," Dean said. "We want to once again express our thanks to all the people in Humboldt County and beyond who have supported us because we think that's made a difference in the process."

But issues sprung up as potentially serious hurdles in an afternoon court hearing Friday. Attorney David Neier for Marathon said that a claim of about $300 million filed by the noteholders may have to be paid on top of the $510 million "hard cap" set by Schmidt in his ruling.

"It really is a complete road block for our plan," Neier said.

While noteholders' attorney Zack Clement said bondholders would try to work with Marathon and Mendocino on the issue, he did say the claim was important.

"The reason we filed the claim is we think we're owed the money," Clement said.

But Schmidt voiced frustration that neither side had made it clear that the issue was so critical in earlier hearings, and put the remainder of the case on a fast track, scheduling most of the outstanding items for Friday.

"I feel somewhat snookered, if you know what I mean," Schmidt said. "I'm not blaming anyone. I feel like I'm being hit from both sides on this issue."

Among the issues Schmidt will take up Friday are an anticipated request of the noteholders on a stay while it pursues an appeal, and a request to pass the ruling to another court for appeal. Clement said that those motions would be filed mid-week.

In ruling against the bond holders' plan, Schmidt said it was infeasible and laden with conflicts of interest between the largest noteholder -- billionaire investor Andy Beal -- and the other noteholders. He also said the plan doesn't provide enough certainty, and questioned whether regulatory approval could be attained by the potential future buyer.

Schmidt wrote that even Beal Bank's uncertain bid of $603 million, when reduced by the expenses of a long auction process, would leave noteholders short by millions compared to the Mendocino Redwood plan.

He also wrote that Sierra Pacific Industries' recent bid proposal for the Scotia mill is highly speculative.

The decision comes after Palco's 18 months in bankruptcy. Palco's own plans to reorganize were withdrawn in recent months, plans which generated major controversy in Humboldt County. Palco and its parent company Maxxam Inc. then put their support behind Mendocino Redwood and Palco creditor Marathon Structured Finance Fund.

Mendocino's plan looks to blend the timber and lumber operations of the company, while Marathon restructures the town of Scotia. Mendocino Redwood is owned by San Francisco's Fisher family, which started the Gap chain of clothing stores.

Mendocino and Marathon will pay the noteholders $530 million in cash for the land, which Schmidt valued at $510 million.

The plan will provide $580 million in cash and convert $160 million of debt into equity. Debt obligations would be cut by $625 million and trade creditors would get 75 to 90 percent of claims.

Mendocino said it would seek Forest Stewardship Council certification for the new operation -- as it has for its 230,000 acres in Mendocino County -- and invest $7.5 million in the Scotia mill to improve its flexibility.

If the bondholders cannot get a stay against the ruling, and the outstanding claim issue is resolved, it is possible that Mendocino Redwood could close on the deal shortly thereafter.

"We're certainly in the end game now," said Palco CEO George O'Brien, "and that's a good thing."

O'Brien said that Palco has enough money to continue operating, and is continuing to mill and sell lumber.

Palco inventory clerk Joe Timmerman has worked for the company since 1976, and raised his family in Scotia. For many of those years, a cloud of uncertainty hung over him and other employees, he said.

"We knew this time was coming," Timmerman said of the bankruptcy case filed Jan. 18, 2007.

But he said that while he and others worked for Palco and Maxxam, it doesn't mean they supported everything the companies did. At the same time, he believed in the industry -- and still believes there is potential for the rare commodity of redwood to provide stability in the region.

"Whether I have a job here tomorrow or not, I'm glad it's going to be here for somebody," Timmerman said.

Palco decision: Reactions at a glance

"Today's decision in the Pacific Lumber bankruptcy case is good news for the people of California. I commend U.S. Judge Schmidt for his consideration of the principles I articulated in order to preserve the historic Headwaters Forest Agreement, and I hope this decision will establish a strong precedent that weighs both the economic and environmental benefit of long-term sustainability and preservation." -- Gov. Arnold Schwarzenegger.

"I am pleased to hear of Mendocino's success. They share our long-term view of forest management and have a proven track record of performance. I think that will bring stability back to the forest products business here in Humboldt County. I look forward to working closer to them as our southern neighbor." -- Neal Ewald, vice president and general manager of Green Diamond Resource Co.

"Judge Schmidt's decision today is a victory for the employees, the town of Scotia and the people of Humboldt County. MRC will protect local jobs and the environment, make sure local vendors receive payment they are owed and promise long-term stability for the region." -- U.S. Rep. Mike Thompson, D-St. Helena.

"MRC inherits a landscape that has suffered grievously from more than two decades of serious abuse. We appreciate MRC's background in restoration-focused forestry, and want to work with MRC to build a truly sustainable timber company for the long term. MRC needs to make dramatic changes from Pacific Lumber's practices to fulfill the commitments they have made." -- Sam Johnston, Environmental Protection Information Center.

"This is about as good an outcome as we could have hoped for. It sounds like the judge really did his homework. I'm looking forward to a forest that is wisely tended, and a mill that can generate good and steady jobs." -- Assemblywoman Patty Berg, D-Eureka.