Creditors' Ball: The 'New' New Corporate Governance in Chapter 11

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Abstract
In the 1980s and early 1990s, many observers believed that the American corporate bankruptcy laws were desperately inefficient. The managers of the debtor stayed in control as "debtor in possession" after filing for bankruptcy, and they had the exclusive right to propose a reorganization plan for at least the first four months of the case, and often far longer. The result was lengthy cases, deteriorating value and numerous academic proposals to replace Chapter 11 with an alternative regime. In the early years of the new millennium, bankruptcy could not look more different. Cases proceed much more quickly, and they are much more likely to result in auctions or other sales of assets than in previous decades. This transformation is due in part to a change in the major corporations that file for bankruptcy. Rather than industrial, bricks-and-mortar firms, many of the new debtors are knowledge-based firms with transient assets. Much more important, however, has been the adjustments creditors have made in an effort to reassert control in bankruptcy. In this Article, I focus on the two most important contractual developments: lenders' use of debtor-in-possession financing agreements as a governance lever; and the so-called pay-to-stay arrangements which give key managers bonuses for meeting specified performance goals (such as quick emergence from bankruptcy or the sale of important assets). Both of these developments can be seen as adjustments by creditors to counteract bankruptcy's interference with the shift in control rights that would ordinarily occur at the time of financial distress. As I have discussed elsewhere, chapter 11 functioned somewhat like an antitakeover device in the 1980s. Creditors have now neutralized its effects. Of the two new contractual approaches, pay-to-stay agreements have proven much more controversial, prompting heated complaints about excessive managerial pay in cases like Enron, Polaroid and Kmart. The controversy is similar in o
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