By Jared Mayer (Law Clerk, Supreme Court of New Jersey)
Jared Mayer
The Bankruptcy Code constrains bankruptcy courts’ equitable powers, yet bankruptcy courts have often used those powers in ways that go beyond the Code’s text. This conflict creates tensions between various bankruptcy goals. The Code provides ex ante certainty and contains substantive policy choices, which equity threatens to compromise by allowing bankruptcy judges to override the text. Without equity, however, bankruptcy proceedings would provide parties with occasions to gain positional advantages in bankruptcy, thereby allowing them to unilaterally capture value at those other parties’ expense.
Drawing on insights from equity theory, this Essay identifies a role that equity can play to balance these interests. This Essay proposes an “equity canon” for bankruptcy courts to use when interpreting the Bankruptcy Code: judges should interpret unclear provisions by disregarding interpretations that would lead to inequitable outcomes. Equity theorists have illuminated equity’s role in combating opportunistic evasions of the law that cannot be identified and prevented ex ante. This is particularly important in bankruptcy. While bankruptcy proceedings are designed to maximize the estate’s value, parties nonetheless have incentives to capture value for themselves. Bankruptcy courts can use the equity canon to combat parties’ opportunistic exploitation of the Code while respecting the Code’s primacy.
By Jassmine Girgis (University of Calgary, Faculty of Law)
Jassmine Girgis
This chapter explores the evolution of corporate rescue in both Canada and the U.S. The timing and specific circumstances surrounding the legislation’s enactment were different in each country, but the underlying concepts and goals within the broader context of bankruptcy legislation were the same. Both countries had experienced the profound effects of business failure on directly impacted stakeholders, as well as on surrounding communities, and they recognized that saving companies would protect investments, preserve jobs, maintain the supplier and customer base, and prevent the wider impact of bankruptcy on society. To that end, both countries devised proceedings to restructure and rehabilitate financially distressed companies, allowing them to re-emerge with new debt or equity structures and continue operating as going concerns. Historically, traditional restructurings – that is, proceedings in which the debtor company engages in lengthy negotiations with its creditors to restructure its debt obligations and business operations, all under the supervision of the court – were used extensively, dissolving unsuccessful companies while allowing others to emerge and continue operating. But these proceedings were slow, expensive, and cumbersome, and as changes in technology, firm assets, the economy and financial instruments modified the ways companies operated, and globalization altered their business methods and interactions with the community, a different process emerged. Rather than rescuing companies, this new process liquidated or merged them with other companies, and though traditional restructurings continued to occur, they have largely given way to sales or liquidations. Importantly, these emerging liquidation proceedings did not occur under bankruptcy or receivership regimes, but under the statutes that governed restructurings. They also occurred without meaningful consideration as to how this shift affects the public interest goals of the legislation. The first part of this chapter discusses what happened: the history of these statutes, the reasons traditional restructurings emerged, and the eventual move to liquidations. The second part explores the three broad reasons liquidation plans replaced restructuring. First, an increase in secured debt left secured creditors in control of the financially distressed debtor corporations, and secured creditors typically prefer liquidation over restructuring. Second, the decline in the manufacturing and industrial era and growth of a service-oriented economy impacted firm assets; assets became less firm-specific and more fungible. Finally, increasingly complex financial instruments altered the composition of creditors; creditors at the table now include hedge funds and other non-traditional lenders, and they may be motivated by factors beyond saving the distressed company or maximizing its asset value. The third part of this chapter addresses the consequences of using rescue legislation to liquidate companies. First, the governing legislation was not meant to be used in this way, and stakeholders in these expedited sales do not have the benefit of the procedural and substantive safeguards that arise in restructuring proceedings. Second, it is arguable that these liquidation proceedings do not fulfil the public policy goals of restructuring legislation. Finally, embedded within public policy is the concept of value-maximization, but what ‘value’ means and how it can be maximized, is not static, and may have different connotations under traditional restructurings than under liquidations. The last part considers the most feasible way forward for each country: where does corporate rescue go from here? This section examines whether the bankruptcy forum should be abandoned in favour of non-bankruptcy legislation or private contracts, or whether the answer lies in improving the current legislative schemes. Although many do not want to see restructuring legislation overhauled, they do recognize that this legislation was enacted under different circumstances, in a different market, when corporations looked vastly different than they do today, and that to remain relevant, it must come to reflect today’s society and corporations. Doing so requires reconceptualizing how liquidation fits into the public policy goals of the statute and reassessing the concept of value to determine what it should encompass.
By Lynn M. LoPucki (Security Pacific Bank Distinguished Professor of Law, UCLA School of Law)
Lynn M. LoPucki
The bankruptcy courts that compete for big cases frequently ignore the Bankruptcy Code and Rules. This Article documents that lawlessness through a detailed examination of the court file in Belk, Inc.—a one-day Chapter 11—and a series of empirical studies.
Chapter 11’s lawlessness reached a new extreme in Belk. Belk filed in Houston on the evening of February 23, 2021. The court confirmed the plan at ten o’clock the next morning, and the parties consummated the plan that same afternoon. Almost none of Chapter 11’s procedural requirements were met. The court did not give creditors notice of the disclosure statement or plan confirmation hearings until after those hearings were held. Belk filed no list of creditors’ names and addresses, no schedules, no statement of financial affairs, and no monthly operating reports. No creditors’ committee was appointed, no meeting of creditors was held, and none of the professionals filed fee applications. The ad hoc groups that negotiated the plan failed to file Rule 2019 disclosures. Because no schedules were filed, no proofs of claim were deemed filed. Only eighteen of Belk’s ninety-thousand creditors filed proofs of claim, and Belk apparently just made distributions to whomever Belk considered worthy.
The procedural failures in Belk are just the tip of the iceberg. The competing courts are ignoring impermissible retention bonuses, refusing to appoint mandatory examiners, failing to monitor venue or transfer cases, granting every request to reject collective bargaining agreements, and providing debtors with critical-vendor slush funds. The article is available here.
By Samir D. Parikh (Lewis & Clark Law School; Fulbright Schuman Scholar; Bloomberg Law; Fulbright Commission)
Samir D. Parikh
Modern mass tort defendants – including Johnson & Johnson, Purdue Pharma, USA Gymnastics, and Boy Scouts of America – have developed unprecedented techniques for resolving mass tort cases; innovation coupled with exploitation. Three weapons in this new arsenal are particularly noteworthy. Before a filing, divisive mergers allow corporate defendants to access bankruptcy on their terms. Once in bankruptcy, these mass restructuring debtors curate advantageous provisions in the Bankruptcy Code to craft their own ad hoc resolution mechanism implemented through plans of reorganization. This maneuver facilitates various questionable outcomes, including the third-party releases the Sackler family recently secured. Finally, in order to minimize its financial contribution to a victims’ settlement trust, a mass restructuring debtor can agree to convert its tainted business into a public benefit company after bankruptcy and devote future profits – no matter how speculative they may be – to victims.
The net effect of these legal innovations is difficult to assess because the intricacies are not fully understood. Debtors argue that these resolution devices provide accelerated and amplified distributions. And forum shopping has landed cases before accommodating jurists willing to tolerate unorthodoxy. The fear, however, is that mass tort victims are being exploited. The aggregation of these maneuvers may allow culpable parties to sequester funds outside of the bankruptcy court’s purview and then rely on statutory loopholes to suppress victim recoveries. Mass restructuring debtors are also pursuing victim balkanization – an attempt to pit current victims against future victims in order to facilitate settlements that may actually create disparate treatment across victim classes.
This Essay is the first to identify and assess the new shadowed practices in mass restructuring cases, providing perspective on interdisciplinary dynamics that have eluded academics and policymakers. This is one of the most controversial legal issues in the country today, but there is scant scholarship exploring improvement of the flawed machinery. This Essay seeks to create a dialogue to explore whether a legislative or statutory response is necessary and what shape such a response could take.
The full article will be available at 170 U. Pa. L. Rev. Online ___ (forthcoming 2021) and can be accessed here.
In Insys Liquidation Trust v. MeKesson Corporation (In re Insys Therapeutics, Inc.), No. 21-50176 (JTD), No. 21-50176, 2021 WL 3083325 (Bankr. D. Del. July 21, 2021), the United States Bankruptcy Court for the District of Delaware reminded practitioners to exercise caution when analyzing the scope of protections offered by critical vendor orders. The order at issue in Insys Therapeutics provided that “[t]he Debtors are authorized, but not directed . . . to maintain and administer the Customer Programs” and that “[n]othing contained . . . in this Final Order is intended to be or shall be construed as . . . (c) a waiver of any claims or causes of action that may exist against any creditor or interest holder.” These common provisions proved critical in the Court’s holding that “something more is required” to insulate critical vendors from preference liability.
In the opinion, the Court denied a motion to dismiss the complaint brought by a group of critical vendors for three reasons. First, the Court held that preferential payments that occur before the entry of a critical vendor order cannot be protected by a subsequent authorization to pay outstanding prepetition claims unless specifically provided in the order. Second, the permissive language of the critical vendor order did not support the vendors’ claim that the prepetition payments would necessarily have been authorized had they been made postpetition. Third, the critical vendor order expressly preserved the estates’ claims against critical vendors. Additionally, the Court analyzed and rejected application of the limited “critical vendor defense.”
The article discusses the Court’s holding in greater detail and offers practical considerations for practitioners. The full article is available here.
By Diana Bonfim (Banco de Portugal; Catholic University of Portugal – Catolica Lisbon School of Business and Economics) and Gil Nogueira (Bank of Portugal – Research Department)
Diana BonfimGil Nogueira
How does corporate reorganization affect labor outcomes in bankruptcy? The existing literature argues that corporate reorganization affects the reallocation of labor because it retains workers in bankrupt firms. In some cases, bankrupt firms remain alive for too long and retain workers inefficiently. In other cases, reorganization reduces the probability of inefficient liquidation.
In this paper we show that resource retention is not the only determinant of labor outcomes in bankruptcy. The decision process in bankruptcy creates a principal-agent problem between firms’ claimholders and other stakeholders (e.g., workers, suppliers). Claimholders decide bankruptcy outcomes but other stakeholders with limited say in the bankruptcy process are also affected by these outcomes.
Workers are among these stakeholders. They use job contracts with firms as a form of insurance in times of adversity. In the absence of corporate reorganization, workers lose these job contracts and experience persistent costs of job loss. Reorganization improves labor outcomes because it reduces the probability that workers lose the insurance provided by job contracts when the costs of job loss are high.
We test this hypothesis empirically using data from Portuguese reorganization cases. The institutional setting has several features that help design an adequate empirical strategy. First, reorganization cases are randomly allocated across judges. We use this random assignment as a source of variation in the probability of reorganization that is not affected by other factors that also influence workers’ careers. Second, Portuguese firms report financial statements annually, which we use to check whether reorganization affects labor reallocation to more productive or profitable firms. Finally, we link this data to a rich administrative employer-employee matched dataset, which allows us to track workers who eventually change jobs. This dataset is unique because it contains rich job descriptors. We use this data to establish a relationship between corporate reorganization and the scarring effect of bankruptcy on workers’ job functions.
We uncover three main findings. First, we measure the effect of corporate reorganization on the sorting of workers to productive and profitable firms. In five years, only about 20% of the workforce remains in reorganized firms. Many workers from reorganized firms find jobs with new employers. We find no evidence that reorganization affects the reallocation of labor to efficient or profitable firms.
Second, reorganization is an important source of labor insurance against negative productions shocks. In the short term, reorganization increases the probability that workers are employed. In the long term, reorganization increases wages and reduces the scarring effect of job downgrading that is often observed in recessions. Reorganization reduces the probability that workers move to less skill-intensive occupations and increases occupation wage premia.
Third, we show that reorganization improves job transitions to new employers. Reorganization increases the average time it takes to leave a firm that files for bankruptcy by one year. Reorganization reduces the probability that workers move to low-paying jobs and increases the probability that workers find high-paying jobs with new employers.
Overall, our results show that corporate reorganization is an important source of labor insurance in bankruptcy, thereby mitigating the scarring effect of job loss. The full article is available here.
The ongoing economic crisis caused by the COVID-19 pandemic has generated important proposals for addressing countries’ financial distress in the short to medium term. However, it has also made even more apparent the existing gaps in the global financial architecture writ large and highlighted the extent to which key actors pay closest attention to this infrastructure in situations of crisis. By then, of course, it is already too late.
This essay argues that the international community should use the energy generated in the current context to move toward ‘disaggregated sovereign bankruptcy’—which can be understood as a framework by which multiple processes at varying levels simultaneously support or instantiate a shared set of sovereign debt resolution principles and commitments. Such an approach moves beyond overly simplistic and binary framings of market-based versus statutory options, and instead conceives of improvements in the contractual realm, in the multilateral arena, and at the level of domestic legislation as complementary rather than competitive. The essay also clarifies that the explicit embrace of a more disaggregated framework for implementing debt resolution principles need not be disorganized. It argues in favor of establishing an international body purpose-built to recommend, coordinate, and facilitate steady, incremental progress in the architecture for dealing with sovereign debt across multiple vectors. Advocates of more rational debt restructuring should take steps now to adopt an infrastructure that would make future debt crises less severe and perhaps less likely—even when the spotlights are directed elsewhere.
By Steven T. Kargman (Kargman Associates/International Restructuring Advisors)
Steven T. Kargman
Venezuela is facing a veritable perform storm: a major humanitarian crisis, a collapsing economy, a sovereign debt crisis, and a political stalemate between the ruling Maduro regime and the opposition. Yet, if and when Venezuela tries to come to terms with these very serious challenges (probably under the auspices of a new Venezuelan government), Venezuela will first and foremost need to address the pressing social needs of the Venezuelan people, but it will also need to undertake the monumental task of rebuilding its national economy and restructuring its sovereign debt that has been estimated to be $150 billion or more.
In a new article entitled “Venezuela: Prospects for Restructuring Sovereign Debt and Rebuilding a National Economy Against the Backdrop of a Failing State,” I discuss the prospects for a sovereign debt restructuring as well as the major legal and policy challenges associated with a program of sovereign debt restructuring and national economic reconstruction. For any future sovereign debt restructuring, Venezuela will need to consider employing a broad range of restructuring tools, both old and new. Further, for any future economic reconstruction effort, Venezuela will need to consider strategies for rebuilding its national oil industry as well as strategies for diversification of its economy.
The article originally appeared in AIRA Journal, Vol. 34, No. 2 (May 2021) and is reprinted with the permission of its publisher, the Association of Insolvency & Restructuring Advisors (AIRA). The article can be found here. (The article was first posted on the CLS Blue Sky Blog of Columbia Law School (May 18, 2021) and is cross-posted here with the permission of the CLS Blue Sky Blog.)
By Steven T. Kargman (Kargman Associates/International Restructuring Advisors)
Steven T. Kargman
A new article entitled “The COVID-19 Pandemic and Emerging Market Restructurings: The View One Year Later” provides an overview of the challenging economic landscape that continues to face many emerging economies in the wake of the COVID-19 pandemic, and it also discusses current sovereign debt restructuring and corporate debt restructuring issues in the emerging economies.
The article provides an analysis of sovereign debt restructuring situations involving a serial defaulter (Argentina) and failing states (Venezuela and Lebanon). It also reviews the sovereign debt restructuring travails of an African state, Zambia, that may have implications for future sovereign debt restructurings in Sub-Saharan Africa in light of the intercreditor tensions that arose in the Zambian case between Chinese creditors and bondholders.
Even though corporate defaults in the emerging economies were fairly muted over the last year, many observers expect a surge of corporate defaults, restructurings, and non-performing loans (NPLs) in the emerging economies and developing countries in the coming years, particularly as the special COVID-related responses of governments come to an end. Nonetheless, if and when there is a sharp increase in insolvencies in emerging market jurisdictions, this could pose a major problem for the court systems in the emerging economies and developing economies given the limited capacity of many of these systems to deal with a large volume of cases. Thus, there may well be a need for greater reliance on out-of-court restructurings to address this expected surge in insolvency cases in the emerging economies and developing countries.
The article originally appeared in International Insolvency & Restructuring Report 2021/22 and is reprinted with the permission of its publisher, Capital Markets Intelligence. The article can be found here.
By Stewart B. Herman (Katten) and Timothy J. Lynes (Katten)
Stewart B. HermanTimothy J. Lynes
In King v. Bombardier Aerospace Corporation et al., the trustee sought under 11 U.S.C. §§ 547(b) and 550(a) to have the lessor disgorge rent that the debtor lessee had paid to the lessor under an English-law aircraft lease during the prepetition preference period using funds advanced to the debtor by its shareholder. Pursuant to §547(b), the trustee argued that the debtor had made the payment for an antecedent debt; the loan balance on what was alleged to be disguised secured financing rather than a true lease. The lessor asserted (i) the trustee had not sufficiently shown the nature and amount of the antecedent debt as required under § 547(b)(2), (ii) under § 547(c)(4) the lessor had provided the debtor subsequent new value after the debtor made the payment, (iii) under § 547(c)(2) that the debtor had made the payment in the ordinary course of business, and (iv) that under the earmarking doctrine the payment should not be clawed back because the payment had been funded by a loan from a third party (the debtor’s shareholder). The court found (i) the trustee had not satisfactorily shown the nature and amount of the antecedent debt, (ii) the lessor had sufficiently shown it added subsequent new value to the debtors, (iii) the lessor had not sufficiently shown the payment was in the ordinary course of business, under either the subjective test or the objective test, and (iv) the lessor had not sufficiently shown facts to support an earmarking defense. The article concludes by offering suggestions for structuring leases to survive preference claims. The full article is available here.
