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TerreStar Networks Inc. and its creditors on Monday sparred over who should backstop a rights offering in the satellite phone company's bankruptcy plan, as a contentious fight over TerreStar's Chapter 11 process continued.

Judge Sean H. Lane of U.S. Bankruptcy Court in Manhattan heard arguments and the questioning of witnesses. TerreStar is asking Lane to approve would-be parent EchoStar Corp.'s (SATS) proposal to backstop the rights offering that would fund TerreStar's bankruptcy exit. An ad-hoc group of TerreStar's senior secured noteholders has proposed its own backstopping plan.

After a full day of testimony and arguments, Lane didn't rule on the EchoStar agreement, adjourning the hearing until Wednesday. Earlier this month, Lane held off ruling on whether a plain-language reading of TerreStar's overall bankruptcy plan, in which the EchoStar backstopping agreement is a key element, could go to creditors for a vote. That hearing is now also set for Wednesday.

Creditors have objected to the plan, saying among other things that the case is moving along too quickly, benefits EchoStar too much, and gives no guidance as to what EchoStar will do with TerreStar once it owns it.

EchoStar said it would backstop $100 million of a $125 million rights offering to fund TerreStar's bankruptcy exit. The ad-hoc creditors have responded with a plan to backstop the entire $125 million, and with lower fees.

TerreStar lawyer Arik Preis of Akin Gump Strauss Hauer & Feld LLP said creditors are arguing so much because they're upset the company isn't worth more, and are complaining about the timing because they're waiting and hoping that a better offer comes along.

Preis said that under the ad-hoc group's proposal, which was not being formally considered by the court Monday, any member could walk away if it didn't like language in TerreStar's bankruptcy plan.

"That's not a commitment, that's an out," Preis said.

Major creditor Harbinger Capital Partners, Philip Falcone's hedge-fund firm, also objected to the EchoStar backstop agreement, as did the company's official committee of unsecured creditors.

Reston, Va.-based TerreStar, which is trying to build the first satellite smartphone, filed for Chapter 11 in Manhattan in October with a plan calling for secured noteholders like EchoStar to swap more than $850 million in debt for nearly all the equity in a reorganized TerreStar. More junior creditors, however, will get just pennies on the dollar and existing equity holders are set to get nothing.

Patrick J. Nash, Jr., of Kirkland & Ellis LLP, a lawyer for the ad-hoc creditors, said it's understandable that EchoStar doesn't know what it will do once it controls TerreStar, but that fact makes it more important for creditors to have "robust" rights. The ad-hoc group, which says it owns about $335 million worth of TerreStar debt, would be among the parties getting shares of a reorganized TerreStar.

TerreStar says it's also exploring a sale of its assets to see if it can attract more value for creditors. Last week, The Wall Street Journal reported that MetroPCS Communications Inc. (PCS) is one of the parties interested in TerreStar's assets.

"We've been talking to bidders," Preis said in court Monday, adding that he couldn't discuss details since those talks are confidential.

Creditors argued that if Lane approved the backstop agreement with EchoStar, it might make bidders trying to buy TerreStar think it's a waste of time to try and buy a company so close to emerging from bankruptcy.

Preis, the TerreStar lawyer, addressed creditors' concerns that a bidder would also have to pay a $3.25 million fee to EchoStar if the EchoStar-TerreStar plan were terminated.

"We don't believe any bidder is going to be chilled by what is the equivalent of a quarter of a penny on the dollar more," Preis said.

TerreStar launched its first satellite in July of last year and is still planning to build a second. To fund the second satellite, the telecommunications company tapped a $100 million credit line from Harbinger and EchoStar.

Harbinger and EchoStar are also among the largest holders of TerreStar's publicly traded parent company, which didn't file for Chapter 11 protection.

(Dow Jones Daily Bankruptcy Review covers news about distressed companies and those under bankruptcy protection.)

-By Joseph Checkler; Dow Jones Newswires; 212-416-2152; joseph.checkler@dowjones.com

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