Bankruptcy-Remote Structuring: Reallocating Risk Through Law

Bankruptcy-remote structuring – structuring an entity to protect it from internal or external factors that might prevent it from paying its debts as they come due or make it the subject of a bankruptcy case – is crucial to a wide range of important business and financial deals. Investors in securitization, project finance, covered bonds, oil-and-gas and mineral production payments, and other types of structured finance transactions – valued at many trillion of dollars of securities outstanding – require both the entity issuing securities and the transaction itself to be structured as bankruptcy remote. Public service commissions and other regulators … Read more

How the Balance of Power Is Changing in the Resolution of Corporate Financial Distress

Among those who study corporate financial distress and reorganization, the notion that senior lenders are in control is deeply ingrained. Celebrated papers in the law and corporate finance literatures attribute lender influence during periods of distress to blue-sky contracting practices.[1] When extending credit, senior lenders take a blanket lien on the borrower’s assets, and the borrower agrees to strict financial maintenance and other covenants. The covenants are designed to hem in the borrower. If its performance declines or it wants to pursue new opportunities that materially alter risk, the borrower has to renegotiate. Lenders use renegotiations to force changes … Read more

Sovereign Debt Restructuring for Emerging Economies in Turbulent Times

In a new article, I discuss the impact of the currently turbulent global economic environment on the prospect for sovereign debt defaults and restructurings in emerging economies.  I also review three types of emerging markets sovereigns that may be at risk of such defaults and restructurings: countries adversely affected by the economic fallout from the war in Ukraine (e.g., Egypt), countries weighted down by debt incurred in connection with China’s Belt and Road Initiative (BRI) (e.g., Sri Lanka), and countries that have had ongoing sovereign debt problems (e.g., Argentina and Venezuela).

First, it is important to put recent global economic … Read more

Debevoise Discusses Key Questions Recent Crypto Bankruptcy Filings May Answer

One of the key unresolved questions surrounding crypto-custodian bankruptcy proceedings under the U.S. Bankruptcy Code is whether or not digital assets that are held by a crypto exchange on behalf of platform users could be viewed as the exchange’s corporate assets in the proceeding, which in turn could be used to satisfy debts of other creditors.[1]  As we explained in a recent article, such determinations are fact specific and turn on various factors such as: 1) the intent of the parties, as reflected in, for example, the terms of any custodial or other agreements that exist between the … Read more

Consumer Responses to Corporate Bankruptcy

Distressed firms may avoid an otherwise beneficial Chapter 11 reorganization because they fear losing customers.  In our recent paper, we use two experiments to estimate the effect of corporate bankruptcy on consumer demand for a bankrupt firm’s products. We find that learning about a Chapter 11 bankruptcy filing reduces a consumer’s willingness to pay for the bankrupt firm’s products by 18-35 percent, depending on the industry.

We consider three reasons why consumers might care about a corporate bankruptcy. First, consumers might worry that a bankruptcy could lead to liquidation, preventing them from taking advantage of warranties, return policies, reward … Read more

Hedge Funds Versus Private Equity in Hostile Restructurings

July 31, 2020, was an ill-fated day for financier Dan Kamensky. It began on a bright note, as his billion-dollar hedge fund stood to profit from a possible settlement in Neiman Marcus’ bankruptcy.[1] Not only had the Official Committee of Unsecured Creditors on which he served reached a tentative settlement from which they would receive shares in one of Neiman’s valuable subsidiaries, but it looked like Kamensky’s hedge fund could be in the exclusive position to purchase discounted shares from other unsecured creditors who wanted to cash out right away. That is, until 3:15 P.M. that day, when he … Read more

Environmental Protection and Sovereign Debt Restructuring

Some countries have a compelling argument for why they should not be expected to join the planetary effort to fight climate change. These are countries facing the need to restructure their external debt. By definition, sovereigns that cannot pay what they are already contractually obligated to pay will not have excess cash to devote to environmental conservation or other measures to assist with limiting climate change. As incongruous as it may sound, however, it is precisely this subset of countries undergoing a debt restructuring that may have an alternative avenue for funding these projects.

Background

Most modern sovereign debt restructurings … Read more

Wachtell Lipton Discusses Corporate Bankruptcy and Restructuring: 2021-2022

While the Covid‑19 pandemic continued into 2021, the sharp rise in corporate bankruptcies that we saw in 2020 did not.  Due to unprecedented government assistance and the continued availability of credit at historically low interest rates, companies that survived 2020 were generally able to avoid Chapter 11 in 2021, even in industries significantly impacted by the pandemic.

The biggest story line of 2021 was the use of Chapter 11 by companies facing large volumes of tort litigation.  Although Chapter 11 has for decades been used as a tool to resolve mass tort situations, especially in asbestos-related cases, the range and … Read more

How Holdouts Put Restructuring at Risk

Corporate creditors, perhaps like Americans generally, like to think of themselves as rugged individuals who also work within a communal system.  The fundamental tension is clearest at the point of default: Too much individuality, and a small minority of creditors can block a useful deal that would get the debtor-firm back on track.  But too much collective process, and the majority can bulldoze the minority, forcing it to take outsized losses when the majority cuts a side deal with the firm and its managers.

The restructuring system – comprised of chapter 11 of the Bankruptcy Code, parts of the securities … Read more

Competing Approaches to Director Liability in the Zone of Insolvency

When should directors be held liable for their company’s distressed financial condition? In a recent article, we show that the answer varies widely across legal regimes. We focus on the zone of insolvency, a phase in the company’s life when its financial condition is unstable and deteriorating, but it has yet to enter a formal bankruptcy proceeding (and theoretically may never enter such a proceeding).

There are two main approaches to dealing with directors’ actions when their company is in this zone. Under the American and Canadian approach, directors are generally held to the same corporate law standards that … Read more

Shocking Business Bankruptcy Law

In a recent essay, Shocking Business Bankruptcy Law, I discuss how crisis is used strategically to push legal boundaries in large chapter 11 cases in ways that are not readily reversed. I focus primarily on two phenomena. The first is bankruptcy à la carte. Chapter 11 is akin to a fixed price meal; it offers extraordinary perks as part of a broader package meant to promote objectives with diffuse beneficiaries. In bankruptcy à la carte, parties such as lenders and distressed company acquirers extract the perks provided in the Bankruptcy Code without having to endure the oversight, … Read more

COVID to Test Bankruptcy Infrastructure

The COVID pandemic prompted  global economic problems that many predicted would lead to an unprecedented number of corporate bankruptcies. The predictions were wrong, largely because governments responded with extraordinary measures. Congress, for example, pumped trillions of dollars into the U.S. economy in the form of both grants and loans, and the Federal Reserve kept interest rates historically low. Companies received enough money to continue operating despite their lack of cash flow, yet many were left with unprecedentedly large amounts of debt on their balance sheets.

Perhaps a robust economy will allow the companies to grow out of their debt burden. … Read more

The Inequities of Equitable Subordination

Sitting as courts of equity, bankruptcy judges have embraced an exceptionalist role whereby they exercise widespread discretion in deciding cases. The doctrine of equitable subordination epitomizes bankruptcy exceptionalism and its potential for market distortion.

The doctrine originated as a remedial measure to give innocent creditors of insolvent debtors priority over creditors that engage in malicious misconduct. The Supreme Court introduced equitable subordination in a bankruptcy case in which a parent company virtually preyed upon its subsidiary, effectively driving it into insolvency. The Court ruled that the subsidiary’s preferred shareholders should have priority over the parent’s intercompany debt claims against the … Read more

Venezuela: Prospects for Restructuring Sovereign Debt and Rebuilding a National Economy

Venezuela is facing not only a grave humanitarian crisis, but an acute financial and economic one as well–including a massive debt burden.  Moreover, Venezuela is in the throes of an extended political stalemate between the forces aligned with the regime of Nicolás Maduro and those led by opposition leader and so-called “interim” Venezuelan president Juan Guaidó.  However, as long as the Maduro regime remains in power, it seems unlikely that Venezuela will be able to negotiate a restructuring deal with its foreign creditors, due in no small part to certain restrictions provided for in the current U.S. sanctions regime vis-à-vis … Read more

Bankruptcy Shopping: Domestic Venue Races and Global Forum Wars

The United States Bankruptcy Code gives debtors wide discretion to reorganize in the venue of their choice. These lenient venue selection rules long have allowed bankruptcy courts in the District of Delaware and the Southern District of New York to dominate the market for large Chapter 11 cases, though recently the Southern District of Texas has also begun to attract a large number of cases.

Critics of liberal venue rules charge that bankruptcy districts are engaged in a “race to the bottom” as judges compete for blockbuster cases. Others counter that competition for cases improves efficiency and predictability as judges … Read more

The Government Tools for Responding to Market Distress

In the spring of 2020, as the Covid-19 pandemic shut down economies around the world, pressure arose for governments to respond to the growing threat of pandemic-related market distress. In the United States, the initial proposals for government action varied in nature and focus. Some proposals targeted the financial system while a few targeted small businesses and individuals. Others were intended to bail out large businesses and specific industries. Still other proposals took a more institutional focus. In the context of bankruptcy law, many experts imagined building up the bankruptcy system as a primary bulwark against a seemingly imminent wave … Read more

How Principal Reduction Through Mortgage “Cramdown” Affects Household Distress

The U.S. experienced an unprecedented number of home foreclosures during the Great Recession of 2007-2009. To limit defaults and deadweight losses, the government implemented various policies that reduced monthly payments by homeowners (i.e., Home Affordable Modification Program) and facilitated mortgage refinancing (i.e., Home Affordable Refinancing Program). These initiatives had modest success. An alternative policy proposal that was not implemented during the Great Recession would have allowed mortgage “cramdown” by judges as part of the Chapter 13 bankruptcy process. The proposal passed the House of Representatives but failed in the Senate. In these restructurings, the underwater portion of the mortgage is … Read more

Bankruptcies and the Covid-19 Crisis

The COVID-19 pandemic has disrupted normal life and triggered massive economic slowdowns. In the United States, consumer spending has dropped dramatically and unemployment temporarily hit the highest levels since the Great Depression. As a result, many experts have projected a massive number of consumer and business bankruptcy filings in the coming months.

In our recent paper, “Bankruptcy and the COVID-19 Crisis,” we track bankruptcy filings in the U.S. using real-time data on the universe of filings. Historically, bankruptcy filings have closely tracked the business cycle and unemployment rates. However, we show that this relationship has reversed during the COVID-19 crisis … Read more

O’Melveny & Myers Discusses Predatory Priming

Priming transactions have been increasing in frequency during the current pandemic restructuring cycle.  Priming usually involves the debtor shifting collateral and assets away from their core lending group to support new tranches of debt that are structurally or directly senior to their existing lenders.  Holders who are not included in the priming tranche are left with their investments further underwater and their restructuring options more limited if the priming “fix” doesn’t turn the debtor’s business around.  Some priming transactions have recently become more aggressive and involve a subset of lenders rigging a majority to improve their positions over minority lenders.  … Read more

Puerto Rico; Act III

In 2017, Puerto Rico and certain of its affiliates filed “bankruptcy” petitions under Title III of the Puerto Rico Oversight, Management, and Economic Stability Act (“PROMESA”).  These cases are pending in the U.S. District Court for  Puerto Rico; however, under the law Judge Laura Taylor Swain in New York was appointed to preside over the cases.  My new paper – Puerto Rico; Act III – provides an overview of where things stand  and where they might be heading.

PROMESA is a bankruptcy law, with various bells and whistles attached. In addition to its restructuring provisions, the law creates the Financial … Read more