Restructuring Argentina’s Sovereign Debt: Navigating the Legal Labyrinth

For almost two years, Argentina has been facing a severe economic recession and has not had the ability to access international capital markets. This has been due to several factors, including a general capital flight from emerging markets following the U.S. Federal Reserve’s interest rate hikes throughout 2018, and the country’s persistent fiscal deficits and macroeconomic imbalances. The crisis moreover comes at a time when the risk of a global economic slowdown has sharply increased.

All of this has left Argentina vulnerable to a sovereign debt crisis. The president elect, Alberto Fernandez, has stated that once he takes office … Read more

Household Debt Overhang and Unemployment

Personal bankruptcy is pervasive in the U.S.—about one in 10 Americans will declare bankruptcy in his lifetime.1 Under the U.S. bankruptcy code, households are protected by limited liability. That is, they can discharge their debt and still keep a substantial amount of their assets. Such limited-liability protection distorts the incentives of indebted households, just as it distorts the incentives of indebted firms in corporate finance. In our forthcoming paper,  we investigate how this distortion can affect the labor market. In particular, we ask the following questions. How does limited-liability debt distort household labor supply, and how does this affect aggregate … Read more

Bankruptcy Hardball

By many accounts, we have entered an era of unprecedented contentiousness in debtor-creditor relations.  For an example of the new status quo, consider the recent actions of PetSmart, a perfectly normal American corporation struggling with debt from a leveraged buy-out gone sour.  The textbook account of corporate governance would suggest that PetSmart’s board of directors would respond to this financial distress by seeking to improve the underlying business or, perhaps, by filing for Chapter 11 bankruptcy to maximize the value of the firm for the benefit of creditors.  Instead, PetSmart’s board authorized a transaction that seems shocking for a firm … Read more

Why Do Bankrupt Firms Have Such Complex Capital Structures?

Complex capital structures are prevalent in many recent high-profile Chapter 11 bankruptcy cases.  One recent example is Toys ‘R’ Us, whose debt structure was, as characterized by Bloomberg Businessweek, “as complex and precarious as a Jenga tower. [1]” It included dozens of subsidiary entities, with separate debt facilities against entities owning the intellectual property, the real estate, and international operations, among other asset groups.  Why do capital structures become fragmented and complex in this way, and what are the implications for bankruptcy law?

In my working paper, Disagreement and Capital Structure Complexity,  I suggest one reason why a firm’s … Read more

How Bankruptcy Law Affects Digital Assets

In the last few years, an increasing number of digital platforms have launched initial coin offerings (ICOs). ICOs are primarily studied from the perspective of securities laws. In a new paper, however, I examine how bankruptcy law applies to entities that have tokens in their investment portfolios. What happens, for example, if a debtor that owns tokens becomes insolvent and is subject to insolvency proceedings? How can tokens be made available to the debtor’s creditors? How can the bankruptcy stay be preserved? And how can rules against fraudulent conveyances be enforced?

In general, when insolvency proceedings are opened against a … Read more

Insider Trading: Are Insolvent Firms Different?

Are insolvent firms different from solvent firms with respect to insider trading law and policy? Formally, the law does not change. But economic realities and non-securities law duties do. As a result, the insider trading landscape changes considerably. The law is more permissive in some ways, and more constraining in others, as troubled instruments trade.

One difference is the level of regulation of trading in the residual claims of the firm. In solvent firms, the residual claims are equity securities, and equity securities are subject to the full ambit of trading restrictions.

In insolvent firms, non-equity claims such as trade … Read more

The Enduring Distinction Between Business Entities and Security Interests

Why are security interests and legal entities both widely used?  The prevailing answer in legal scholarship is that both bodies of law exist to partition assets for the benefit of designated creditors.[1] This view is not merely an academic matter; rather, it is exemplified by many financial products, such as asset securitizations. In a standard securitization, a sponsor corporation transfers some of its assets to an entity, which borrows money from creditors and passes the money back to the sponsor as consideration for the assets. This entity is not a prototypical business with an active management and going concern … Read more

Valuation Disputes in Corporate Bankruptcy

In bankruptcy, as in corporate law, valuation drives disputes. Prior bankruptcy scholarship points to disagreements about valuation and judicial valuation error as key drivers of Chapter 11 outcomes, including the decision whether to reorganize the distressed firm or sell it off pursuant to a Section 363 sale. Avoiding valuation disputes and valuation errors is also the underlying driver of most proposed reforms to Chapter 11, from Douglas Baird’s mandatory auctions to Lucian Bebchuk’s options approach.

In a new paper, we undertake a detailed examination of bankruptcy court opinions involving valuation disputes. We study all reported cases filed between 1990 and … Read more

Toys ‘R’ Us and Bankruptcy: Death by Disruption, Not Debt

As Toys ‘R’ Us heads for liquidation, a common refrain has it that the toy retailer failed to successfully reorganize in Chapter 11 because it took on too much debt.  The 2005 leveraged buyout (LBO) of Toys ‘R’ Us by a group of investors led by KKR Group, Bain Capital, and Vornado Realty Trust is a particular target for blame.  But this ignores the larger issue, of which the LBO and the subsequent bankruptcy are merely symptoms.  In short, Toys ‘R’ Us collapsed, like many companies have, because of a failure to innovate.

Unmanageable debt and capital structures – though … Read more

The Bankruptcy Partition

Corporate bankruptcy law is built around the idea of replicating the hypothetical bargain that would occur among creditors of a firm if they could all negotiate ex ante. By the common account, the creditors in that bargain would agree on a set of rules that maximize value. In our working paper, “The Bankruptcy Partition,” we introduce an important qualification to this idea. When investors gather to invest in a common venture, their focus is on maximizing the value of that particular venture, rather than maximizing their total wealth as a group. The focus of the hypothetical creditors’ bargain, then, is … Read more

Gibson Dunn Discusses the Supreme Court’s Ruling on Bankruptcy Code’s “Safe Harbor”

On February 27, 2018, the U.S. Supreme Court issued a decision in Merit Management Group, LP v. FTI Consulting, Inc. (No. 16-784), settling a circuit split regarding the “safe harbor” provision in § 546(e) of the Bankruptcy Code. That section bars the avoidance of certain types of securities and commodities transactions that are made by, to or for the benefit of covered entities including financial institutions, stockbrokers and securities clearing agencies.

Circuits had split regarding whether the safe harbor protects a transfer that passes through a covered entity, where the entity only acts as a conduit and has no beneficial … Read more

How Preliminary Examiners Could Improve Corporate Governance for Companies in Bankruptcy

In my article Chapter 11, Corporate Governance and the Role of Examiners, I propose a possible solution to corporate governance problems caused by the debtor-in-possession model of Chapter 11 bankruptcy proceedings.

Agency and Law Enforcement Problems in Chapter 11

Corporate governance does not have many advocates in bankruptcy proceedings. In a Chapter 11 action, managers run the company and have to take many heterogeneous interests into account. However, they do not always have incentives to do so. Depending on the circumstances, management relies either on the shareholders or on the influential creditors. The latter – hedge funds, private equity … Read more

Latham & Watkins Discusses Venezuelan Debt Dilemma

On November 2, 2017, President Maduro of the Bolivarian Republic of Venezuela announced the creation of a presidential commission, headed by Vice President El Aissami, for the “refinancing and restructuring” of Venezuela’s external debt, estimated at between US$100-150 billion.1 Foreign creditors have been invited to a meeting on November 13, 2017 in Caracas with Mr. El Aissami to start negotiations.

On November 3, 2017, the government of Venezuela announced its “absolute and responsible commitment to continue upholding the obligations [of Venezuela and Petróleos de Venezuela, S.A. (PdVSA)].”2 At the same time, PdVSA reported that it had executed a … Read more

The Empty Idea of “Equality of Creditors”

For 200 years, the equality of creditors norm—the idea that similarly situated creditors should be treated similarly—has been widely viewed as the most important principle in American bankruptcy law, rivaled only by our commitment to a fresh start for honest but unfortunate debtors.   Back in her law professor days, Senator Elizabeth Warren once said that she knew her students could recite the equality of creditors principle in their sleep, because she’d heard them do it in her 8:30 a.m. classes.

Yet if we look at current bankruptcy practice, creditor equality seems to be rapidly disappearing.  The departures from equality in … Read more

Tracing Equity: How the Bankruptcy Code Respects State Law Entitlements

Law and economics scholars have long argued that efficiency is best served when a firm’s capital structure is arranged as a single, hierarchical value waterfall. In such a regime, claimants with seniority are made whole before the next-junior stakeholders receive anything. To implement this single waterfall approach, those scholars envision a property-based mechanism: a blanket lien on all of a firm’s assets, and therefore all of its value (including as a going-concern).  This view informs current proposals for contractual bankruptcy and relative priority. Coincident with this scholarship, lawyers, scholars, and judges have largely accepted at face value the proposition that … Read more

Bankruptcies, Bailouts, and the Politics of Corporate Reorganization

Bankruptcy law has evolved over the centuries as an orderly way to deal with dying firms. However, during the recent recession, many policy experts, officials, and legislators advocated sidestepping the bankruptcy process and resorting to so-called bailouts.

Bailouts have been praised for reducing systemic risk and transforming failed firms into going concerns. Alan Krueger and Austan Goolsbee expressed that view in their paper, “A Retrospective Look at Rescuing and Restructuring General Motors and Chrysler.” However, in our recent paper, “Bankruptcies, Bailouts, and Some Political Economy of Corporate Reorganization,” we argue that defending bailouts on the grounds that they transform dead … Read more

Was Justice Scalia’s Judicial Philosophy Right for the Bankruptcy Code?

Much has been written about U.S. Supreme Court Justice Antonin Scalia’s interpretive philosophy and his overall impact on the law.  But surprisingly little attention has been paid to his contributions to modern bankruptcy law.

In an article about Justice Scalia’s legacy, I argue that bankruptcy law is a prime area in which to develop and refine Scalia-centric debates about the proper interaction between the judicial and legislative branches.  The complex and lengthy Bankruptcy Code reliably produces a dazzling array of interpretive questions for courts to resolve. Meanwhile, the absence of any intermediate force to channel interpretation (such as an administrative … Read more

Bankruptcy on the Side

Side agreements between creditors of a corporate debtor can dictate how those creditors act when the debtor files for bankruptcy. For example, intercreditor agreements commonly include a promise by one party to remain silent – to waive some procedural right that the party would otherwise have under the Bankruptcy Code – at potentially crucial points in the reorganization process. Because these agreements can alter bankruptcy outcomes even for those outside of the agreement, they are controversial. In a forthcoming article, “Bankruptcy on the Side,” we provide a framework for analyzing these agreements.

Using simplified examples, we show that side agreements … Read more

How Creditors Affect Resource Allocation at Firms in Technical Default

A central topic in financial economics is how the allocation of cash flow and control rights among providers of corporate finance should evolve with firm performance. Theoretically, allowing for a transfer of control to creditors when a firm is in default can alleviate agency problems resulting from the separation of ownership and control, as well as conflicts of interest between debt and equity holders (Jensen and Meckling, 1976).[1] Empirical evidence confirms that governance by creditors has profound effects on not only bankrupt firms (Gilson, 1990), but also a broad spectrum of firms that are merely in technical default.[2]Read more

Wachtell Lipton Discusses Corporate Bankruptcy and Restructuring for 2016 and 2017

Last year was an active but uneven one in the world of corporate bankruptcy and restructuring. On the one hand, default rates in the U.S. remained at relatively muted levels, with the continuation of low interest rates and strong (if sometimes volatile) capital markets. At the same time, as we anticipated a year ago, 2016 was also marked by distress among oil-and-gas exploration companies, “brick and mortar” retailers and municipal issuers in Puerto Rico.

Although commodity prices have stabilized, we expect companies in the oil and gas sector to face continued pressure in 2017. The pressure on traditional retailers, including … Read more