Antibankruptcy

Yale Law Journal

Volumn 119, Issue 4, 2010, Pages 648-699

  Baird, Douglas G ^a   Rasmussen, Robert K ^b  

^a UNIVERSITY OF CHICAGO LAW SCHOOL   (United States)

^b UNIVERSITY OF SOUTHERN CALIFORNIA   (United States)

Author keywords

[No Author keywords available]

Indexed keywords

EID: 77649128167     PISSN: 00440094     EISSN: None     Source Type: Journal    
DOI: None     Document Type: Article

References (224)

1. See Seth Lubove, A Bankrupt's Best Friend, FORBES, Apr. 1, 1991, at 99.
2. For a discussion of United's Chapter 11, see David Armstrong, United Plan Approved: Reorganization Will Let Airline Emerge from Bankruptcy, S.F. CHRON., Jan. 21, 2006, at C1.
3. For a discussion of Kmart's, see Michelle M. Harner, The Corporate Governance and Public Policy Implications of Activist Distressed Debt Investing, 77 FORDHAM L. REV. 703, 725-27 (2008).
4. Budget used Chapter 11 to effect a sale. See Terry Brennan, Judge OKs Budget Sale to Cendant, DAILY DEAL, Nov. 9, 2002, available at 2002 WLNR 3561147.
5. See Recovery Rate Hits 50 Percent as Enron Creditors Receive More Than $6 Billion in Special Distributions, INVESTMENT BUS. WKLY., June 16, 2008, at 164 ("Today's distribution pushes the total amount returned to creditors past $20 billion, almost triple the amount originally anticipated. With this distribution, Enron creditors now are receiving 50.3 cents on the dollar and Enron North America Corp.... creditors are receiving 50 cents on the dollar, both excluding gains, interest and dividends."). Financial institutions that participated in the off-balance sheet vehicles that masked Enron's financial condition were forced to make substantial settlements. See id. (reporting a $1.866 billion settlement by Citigroup to resolve the claims of Enron's general creditors against it).
6. For the fate of Enron's executives, see Kristen Hays, A Sordid Chapter on Enron Ending: Kenneth Rice Is the Final Figure To Be Punished After Pleading Guilty to Crimes in the Scandal, HOUSTON CHRON., June 18, 2007, at A1 (reporting that eight Enron former executives are serving prison terms of up to twenty-four years after reaching plea agreements).
7. In this paper, our focus is on the largest cases, those involving hundreds of millions or billions of dollars. The dynamic of small cases is utterly different and one cannot extrapolate from one to the other. See Douglas G. Baird, Arturo Bris & Ning Zhu, The Dynamics of Large and Small Chapter 11 Cases: An Empirical Study (Yale Int'l Ctr. for Fin., Working Paper No. 05-29, 2007), available at http://ssrn.com/abstract=866865 (showing that capital structures of small and large cases are dramatically different).
8. Some of these changes have been underway for a time, but remained largely invisible during a period of enormous liquidity. In the early part of this decade, selling even the largest businesses on the market was usually an option. See Douglas G. Baird & Robert K. Rasmussen, Reply: Chapter 11 at Twilight, 56 STAN. L. REV. 673, 679 (2003) (reporting that, apart from the instances in which Chapter 11 was used to implement a deal arranged outside of bankruptcy, there were sixty-seven large reorganization cases in 2002 and fifty-two were sales of one kind or another).
9. See Marshall S. Huebner & Benjamin A. Tisdell, As the Wheel Turns: New Dynamics in the Coming Restructuring Cycle, in THE AMERICAS RESTRUCTURING AND INSOLVENCY GUIDE 2008/2009, at 77, 78 (2008) ("Twenty-five years ago... [t]he major creditor participants in corporate reorganisations were usually large commercial banks and other institutional creditors (e.g., insurance companies), indenture trustees representing bondholders and the debtors' vendors.").
10. See generally Michelle M. Harner, Trends in Distressed Debt Investing: An Empirical Study of Investors' Objectives, 16 AM. BANKR. INST. L. REV. 69, 93 (2008) ("Distressed debt investors with different investment strategies but the same investment target may lead to potential conflicts among creditors.");
11. Stephen J. Lubben, Credit Derivatives and the Future of Chapter 11, 81 AM. BANKR. L.J. 405, 407 (2007) ("The operation of chapter 11 is premised on a perception of ownership that may no longer exist or is at the very least threatened by the expansion of credit derivatives.");
12. Harvey R. Miller, Chapter 11 in Transition-from Boom to Bust and into the Future, 81 AM. BANKR. L.J. 375, 390 (2007) ("Distressed debt traders have different motivations and objectives than the old line relationship banks and trade creditors.... The explosion of distressed debt trading marked the end of the relationships that had been a major support structure of the reorganization paradigm of 1978.").
13. Karl Denninger, GM: Bankrupt, UNLESS., The Market Ticker, Apr. 1, 2009, http://market-ticker.denninger.net/archives/921-GM-Bankrupt,-UNLESS.....html (speculating that GM bondholders were refusing to renegotiate because their bonds are backed by AIG credit default swaps that will pay in full if GM files for bankruptcy).
14. To cast things in the language of game theory, there were many possible equilibrium agreements, but comparatively few were focal points. For the classic discussion of focal points, see THOMAS C. SCHELLING, THE STRATEGY OF CONFLICT 57-58 (1960).
15. In the recent Adelphia reorganization, for example, infighting among at least twelve unofficial groups of creditors resulted in seven proposed reorganization plans, and professional fees and expenses initially sought by these twelve groups alone totaled over $100 million. See Huebner & Tisdell, supra note 6, at 80.
16. For a discussion of the "empty core" and how it relates to corporate reorganizations, see infra Part IV.
17. For a discussion of the anticommons problem, see Michael A. Heller, The Tragedy of the Anticommons: Property in the Transition from Marx to Markets, 111 HARV. L. REV. 621 (1998).
18. See also MICHAEL HELLER, THE GRIDLOCK ECONOMY: HOW TOO MUCH OWNERSHIP WRECKS MARKETS, STOPS INNOVATION, AND COSTS LIVES (2008) (identifying anticommons problems in a variety of settings);
19. Lee Anne Fennell, Commons, Anticommons, Semicommons (Univ. of Chi. Law & Econ., Olin Working Paper No. 457, 2009), available at http://ssrn.com/abstract=1348267 (exploring the relationship among commons, anticommons, and semicommons).
20. See THOMAS H. JACKSON, THE LOGIC AND LIMITS OF BANKRUPTCY LAW 10-11 (1986) (noting that the role of bankruptcy to solve "a common pool problem" is "largely unquestioned").
21. Tort claimants are comparatively rare. See Elizabeth Warren & Jay Lawrence Westbrook, Contracting Out of Bankruptcy: An Empirical Intervention, 118 HARV. L. REV. 1197, 1227-30 (2005) (excluding mass product liability cases, tort claims are present in as few as one percent of bankruptcy cases). Other types of claimants (most notably tax claimants) loom large in smaller cases, but this Article focuses exclusively on the largest cases. While small Chapter 11s make up the vast majority in number, the total assets are overwhelmingly concentrated in a small handful of large cases. For a discussion of the empirical differences and the different dynamics between large and small cases, see Baird et al., supra note 4.
22. See 11 U.S.C. § 506 (2006) (determining secured status);
23. id. § 507 (giving administrative expenses priority over most unsecured claims).
24. See id. § 101(5) (defining "claim" for purposes of the Bankruptcy Code as generally any "right to payment").
25. See id. § 502(b)(2) (disallowing claims for unmatured interest).
26. See id. § 726(b) (providing for pro rata distributions in Chapter 7 liquidations). Chapter 11 accomplishes this through requirements placed on the plan of reorganization. See infra note 21.
27. See 11 U.S.C. § 1102.
28. See id. § 503(b)(3)(F) (including as administrative expenses of the estate the expenses incurred by members of the creditors' committee).
29. Only substantially similar claims can be placed in the same class for purposes of voting on the plan, everyone in a class must be treated identically, and the plan cannot provide different treatment to classes at the same priority level. See id. § 1122(a) (requiring that claims in the same class must be "substantially similar"); id. § 1123(a)(4) (requiring that the plan provide for the same treatment for each claim of a particular class "unless the holder of a particular claim or interest agrees to a less favorable treatment"); id. § 1129(b)(1) (mandating that, unless a class consents, it cannot be unfairly discriminated against). For a discussion of classification and related issues, see In re Dow Corning Corp., 244 B.R. 634, 644 (Bankr. E.D. Mich. 1999), which stated that "[c]laims may be classified together only if they are 'substantially similar' to one another" and "substantially similar claims may not be classified separately when it is done for an illegitimate reason."
30. There are a few exceptions, of course. Some claims (such as those of the tax collector, 11 U.S.C. § 507(a)(8), and those of workers for unpaid wages, id. § 507(a)(4)(A)), are given priority. But these are the exception and they do not figure significantly in large cases. See Baird et al., supra note 4, at 20-23.
31. See JACKSON, supra note 13, at 11-19.
32. Burke Gappmayer, Protecting the Insolvent: How a Creditor's Committee Can Prevent Its Constituents from Misusing a Debtor's Nonpublic Information and Preserve Chapter 11 Reorganizations, 2006 UTAH L. REV. 439, 440 ("The balance between the creditors' need for disclosure and the debtor's need for confidentiality is struck in Chapter 11 proceedings by the appointment of a creditors' committee that is made up of specific creditors and is given access to all of the debtor's information, including nonpublic information.").
33. One of the authors discussed the central role valuation plays in Chapter 11 at length in Douglas G. Baird & Donald S. Bernstein, Absolute Priority, Valuation Uncertainty, and the Reorganization Bargain, 115 YALE L.J. 1930 (2006).
34. See David Arthur Skeel, Jr., The Nature and Effect of Corporate Voting in Chapter 11 Reorganization Cases, 78 VA. L. REV. 461, 523, 525-26 (1992).
35. 11 U.S.C. § 1102(b)(1).
36. Id. § 1103(c)(2).
37. Id. § 1103(a) (giving the committee, subject to court approval, the power to employ "attorneys, accountants, or other agents").
38. Id. § 330(a)(1).
39. See, e.g., In re Drexel Burnham Lambert Group, Inc., 138 B.R. 717, 722 (Bankr. S.D.N.Y. 1992) (noting that the fiduciary duty "extends to the class as a whole, not to its individual members").
40. 11 U.S.C. § 330(a)(1)(A) (providing for "reasonable compensation for actual, necessary services rendered by the trustee, examiner, ombudsman, professional person, or attorney"); id. § 1103(a) (authorizing the committee to hire professionals).
41. See supra note 7.
42. For a discussion of disclosure obligations in bankruptcy and, in particular, the way they contrast with disclosure obligations outside of bankruptcy, see Robert D. Drain & Elizabeth J. Schwartz, Are Bankruptcy Claims Subject to the Federal Securities Laws?, 10 AM. BANKR. INST. L. REV. 569 (2002).
43. For a discussion of how so-called "Chinese Walls" may be used to mitigate this problem, see infra note 86.
44. See Huebner & Tisdell, supra note 6, at 82 ("[M]embers of senior lender groups now frequently decline to receive company information so they can remain unrestricted and capable of purchasing and selling public subordinated debt. In some recent cases, only a handful of senior lenders have been willing to receive non-public information, making it impossible to include the vast majority of lenders in reorganisation plan negotiations.").
45. In re WorldCom, Inc., No. 02-13533, 2003 WL 23861928, at *11 (Bankr. S.D.N.Y. Oct. 31, 2003).
46. See Sullivan Plans To Plead Not Guilty to Fraud, TORONTO STAR, Sept. 17, 2003, at C12; see also In re WorldCom, 2003 WL 23861928, at *13 (noting the "loss of individuals with institutional knowledge").
47. In re WorldCom, 2003 WL 23861928, at *13.
48. See Douglas G. Baird, Substantive Consolidation Today, 47 B.C. L. REV. 5, 15 (2005) ("Substantive consolidation lacks the solid foundation one usually expects of doctrines so firmly embedded in day-to-day practice.").
49. See William H. Widen, Prevalence of Substantive Consolidation in Large Bankruptcies from 2000 to 2004: Preliminary Results, 14 AM. BANKR. INST. L. REV. 47, 53 (2006).
50. In re Owens Corning, 419 F.3d 195, 208-09 (3d Cir. 2005) (noting that there is nearly unanimous consensus among appellate courts that substantive consolidation is a remedy to be used "sparingly").
51. See Chaim J. Fortgang & Thomas Moers Mayer, Trading Claims and Taking Control of Corporations in Chapter 11, 12 CARDOZO L. REV. 1, 1-3 (1990) (describing claims trading in various bankruptcies dating back to 1986);
52. Robert K. Rasmussen & David A. Skeel, Jr., The Economic Analysis of Corporate Bankruptcy Law, 3 AM. BANKR. INST. L. REV. 85, 101 n.71 (1995) (citing statistics on the growth of the claims trading market from the mid-1980s into the mid-1990s).
53. See, e.g., In re Allegheny Int'l, Inc., 100 B.R. 241, 243-44 (Bankr. W.D. Pa. 1988).
54. W. Andrew P. Logan III, Claims Trading: The Need for Further Amending Federal Rule of Bankruptcy Procedure 3001(e)(2), 2 AM. BANKR. INST. L. REV. 495, 501-02 (1994) (describing the decision of the Rules Committee to remove claims trading from judicial oversight to promote a liquid market in claims).
55. There is, for example, nothing comparable to the Williams Act. See Pub. L. No. 90-439, 82 Stat. 454 (1968) (codified as amended at 15 U.S.C. §§ 78m(d)-(e), 78n(d)-(f)) (requiring, among other things, disclosure of holding more than five percent of the equity of a publicly traded company).
56. See Harvey R. Miller & Shai Y. Waisman, Does Chapter 11 Reorganization Remain a Viable Option for Distressed Businesses for the Twenty-First Century?, 78 AM. BANKR. L.J. 153, 181 (2004) (noting that "distressed debt trading has grown to proportions never contemplated at the time of the enactment of the Bankruptcy Reform Act");
57. Glenn E. Siegel, Introduction: ABI Guide to Trading Claims in Bankruptcy (Part 2), 11 AM. BANKR. INST. L. REV. 177, 177 (2003) ("Perhaps nothing has changed the face of bankruptcy in the last decade as much as the newfound liquidity in claims.... Now, in almost every size case, there is an opportunity for creditors to exit the bankruptcy in exchange for a payment from a distressed debt trader...."); see also Paul M. Goldschmid, Note, More Phoenix Than Vulture: The Case for Distressed Investor Presence in the Bankruptcy Reorganization Process, 2005 COLUM. BUS. L. REV. 191 (discussing the growing importance of the role that distressed debt investors play in Chapter 11).
58. See Alon Brav et al., Hedge Fund Activism, Corporate Governance, and Firm Performance, 63 J. FIN. 1729 (2008) (noting that hedge funds engage in new forms of active investment in corporations); Marcel Kahan & Edward B. Rock, Hedge Funds in Corporate Governance and Corporate Control, 155 U. PA. L. REV. 1021 (2007) (noting the recent emergence of hedge funds taking an active part in acquiring and managing corporations).
59. For example, of the fifty-seven companies that were public at the time they filed for bankruptcy and confirmed reorganization plans in 2005, twenty-six were in bankruptcy for over a year, and one was in bankruptcy for almost seven years. See NEW GENERATION RESEARCH, THE 2006 BANKRUPTCY YEARBOOK AND ALMANAC 46-47 (Kerry A. Mastroianni ed., 2006).
60. 11 U.S.C. § 362(a) (2006). Over time, some exceptions have emerged, most notably for suppliers of goods within twenty days before the filing of the bankruptcy petition. Id. § 503(b)(9).
61. See, e.g., In re Kmart Corp., 359 F.3d 866 (7th Cir. 2004) (disallowing immediate payment of "critical vendors" in the absence of a showing that the payment benefited unsecured creditors as a group).
62. As one of us has discussed elsewhere, whether the market for claims is in fact sufficiently liquid, however, is itself subject to doubt. See Douglas G. Baird, The Bankruptcy Exchange, 3 BROOK. J. CORP. FIN. & COM. L. (forthcoming Jan. 2010).
63. For a discussion of the benefits of claims trading, see Frederick Tung, Confirmation and Claims Trading, 90 NW. U. L. REV. 1684, 1701-03 (1996).
64. Id. at 1701.
65. Id. at 1702.
66. See Baird & Bernstein, supra note 25, at 1949 (showing how large creditors acquire private information about the debtor).
67. For example, just days after essentially buying Kmart out of Chapter 11 bankruptcy for nearly $1 billion, hedge fund ESL Investments sold some of Kmart's undervalued real estate assets for $900 million. ESL ultimately profited over $3 billion from selling off Kmart properties. See Marty Bernstein, Hey, What's This Guy Up To?, WARD'S DEALER BUS., Dec. 1, 2008, at 33, available at http://www.wardsdealer.com/ar/auto_hey_whats_guy/index.html.
68. See Harner, supra note 2, at 725-27. Other recent examples of investors acquiring debt to exercise control include Loews Cineplex Entertainment Corp., Maidenform Brands, Inc., McLeodUSA Inc., National Equipment Services, Inc., New World Pasta Company, Rand McNally & Co., Regal Entertainment Group, and XO Communications, Inc. See id. at 707.
69. Id. at 726; see also PR Newswire, Edward S. Lampert Appointed Chairman of the Board, Kmart, HIGHBEAM RES., May 6, 2003, http://www.highbeam.com/doc/1G1-131714851.html (announcing the appointment of Lampert); Steven T. Mnuchin, http://people.forbes.com/ profile/steven-t-mnuchin/70724 (last visited Dec. 13, 2009) (stating his position as Vice Chairman of ESL at the time); The Next Warren Buffett?, BUSINESSWEEK, Nov. 22, 2004, http://www.businessweek.com/magazine/content/04_47/b3909001_mz001.htm (describing Thomas Tisch as a member of the Tisch family, which was a large investor in ESL); William C. Crowley, http://people.forbes.com/profile/william-c-crowley/8783 (last visited Dec. 13, 2009) (describing his position as President and Chief Operating Officer of ESL).
70. The fight in FiberMark is set out in detail in Report of Harvey R. Miller as Examiner, In re FiberMark, Inc., 349 B.R. 385 (Bankr. D. Vt. 2006) [hereinafter Miller Report].
71. Id. at 27.
72. General Electric's secured claim was left unimpaired, and it stipulated to an adequate protection order early in the case. See Disclosure Statement With Respect to Amended Joint Plan of Reorganization Under Chapter 11, Title 11, United States Code of FiberMark, Inc., et al. as Debtors at 7-8, In re FiberMark, Inc., No. 04-10463 (Bankr. D. Vt. Nov. 1, 2005).
73. For a brief account of the history and prepetition debt structure of FiberMark, see Miller Report, supra note 60, at 27.
74. See In re FiberMark, Inc., 330 B.R. 480, 489-93 (Bankr. D. Vt. 2005).
75. See Miller Report, supra note 60, at 2, 4.
76. Id. at 22.
77. Id. at 28.
78. See id. at 4. The trade creditor eventually sold its claim to Silver Point. As part of the sale, the trade creditor agreed to remain on the creditors' committee as an agent of Silver Point. Id. at 10, 21.
79. Id. at 4.
80. The extent to which minority shareholders must rely on contract varies by state. Compare Nixon v. Blackwell, 626 A.2d 1366, 1379-81 (Del. 1993) (en banc) (noting that minority investors must protect themselves through contract as the "tools of good corporate practice are designed to give a purchasing minority stockholder the opportunity to bargain for protection before parting with consideration"), with Brodie v. Jordan, 857 N.E.2d 1076 (Mass. 2006) (noting that under Massachusetts law shareholders of closely held corporations owe fiduciary duties to one another and the majority cannot frustrate the "minority's reasonable expectations of benefit" from their ownership of shares). See generally Ronald J. Gilson & Jeffrey N. Gordon, Controlling Controlling Shareholders, 152 U. PA. L. REV. 785 (2003) (exploring the limited ways in which legal doctrine constrains the actions of controlling shareholders).
81. 11 U.S.C. § 1129(a)(7) (2006).
82. Miller Report, supra note 60, at 2-3.
83. Id. at 98-99.
84. Id. at 69-70.
85. Id. at 4.
86. Id. at 4-5. This ability to acquire such a significant stake in the company without attracting the attention of other major investors illustrates how opaque the claims trading market can be, even to those who participate in it on a regular basis.
87. Id. at 302.
88. Id. at 4 (stating that AIG and Post own thirty-five percent of debt); id. at 8 (stating that Silver Point owns more than fifty percent of debt).
89. Id. at 5-8.
90. See Peter Lattman, Bankrupt, FORBES, Oct. 31, 2005, at 60 (calling FiberMark "a controversial, 'ugly' Chapter 11 proceeding" and summarizing much of Miller's report), available at http://www.forbes.com/forbes/2005/1031/060.html.
91. See id. at 62.
92. See Terry Brennan, Turmoil Over, FiberMark Exits, DAILY DEAL, Jan. 5, 2006, available at 2006 WLNR 222106.
93. Sometimes a hedge fund will be allowed to participate on the committee and be allowed to trade provided it erects a "Chinese Wall" that blocks information acquired while sitting on the committee from being used. In practice, however, these walls have proved porous. See Daniel Sullivan, Comment, Big Boys and Chinese Walls, 75 U. CHI. L. REV. 533, 557 (2008) (noting that "trading walls are not a panacea and there are certain harms they cannot prevent"). Such a screening wall was used in the FiberMark bankruptcy. Silver Point agreed to join the committee only on the condition that it be allowed to continue trading in debtor's notes, so the court entered an order establishing the wall. See Miller Report, supra note 60, at 5.
94. See Huebner & Tisdell, supra note 6, at 78.
95. See Douglas G. Baird & Thomas H. Jackson, Corporate Reorganizations and the Treatment of Diverse Ownership Interests: A Comment on Adequate Protection of Secured Creditors in Bankruptcy, 51 U. CHI. L. REV. 97, 106-07 (1984).
96. See Edward S. Adams, Governance in Chapter 11 Reorganizations: Reducing Costs, Improving Results, 73 B.U. L. REV. 581, 599 (1993);
97. Jay Lawrence Westbrook, The Control of Wealth in Bankruptcy, 82 TEX. L. REV. 795, 844-45 (2004).
98. See JACKSON, supra note 13, at 181-89 (asserting that secured creditors should receive the value of their rights, but the decision as to the fate of the corporation should be left to the general creditors).
99. Syndicated loans grew from $137 billion in 1987 to more than $1 trillion dollars in 1997. See Steven A. Dennis & Donald J. Mullineaux, Syndicated Loans, 9 J. FIN. INTERMEDIATION 404, 407 (2000). For a general discussion of syndicated lending, see ANDREW FIGHT, SYNDICATED LENDING (2004); and AGASHA MUGASHA, THE LAW OF MULTI-BANK FINANCING: SYNDICATED LOANS AND THE SECONDARY LOAN MARKET (2007).
100. For a discussion of loan syndication and typical structures, see Katerina Simons, Why Do Banks Syndicate Loans?, NEW ENG. ECON. REV., Jan.-Feb. 1993, at 45, 46, available at http://www.bos.frb.org/economic/neer/neer1993/neer193c.pdf.
101. See Amir Sufi, Information Asymmetry and Financing Arrangements: Evidence from Syndicated Loans, 62 J. FIN. 629, 633 (2007) ("[T]he lead arranger typically holds a larger share of the loan than any of the participants.").
102. See Simons, supra note 92, at 47-48.
103. See Sufi, supra note 93, at 663-65 (concluding that lead arrangers retain a larger portion of the loan when information asymmetry concerns are greatest, such as when the borrower is opaque). A number of factors, including the legal rights available to creditors in a particular jurisdiction, affect the composition of the lending syndicate. See Benjamin C. Esty & William L. Megginson, Creditor Rights, Enforcement, and Debt Ownership Structure: Evidence from the Global Syndicated Loan Market, 38 J. FIN. & QUANTITATIVE ANALYSIS 37 (2003) (suggesting a relation between syndicate structure and legal risk).
104. For a discussion of how loan covenants empower banks, see Douglas G. Baird & Robert K. Rasmussen, Private Debt and the Missing Lever of Corporate Governance, 154 U. PA. L. REV. 1209, 1227-36 (2006).
105. See Sufi, supra note 93, at 632-33.
106. Baird & Rasmussen, supra note 96, at 1211-12.
107. See Sufi, supra note 93, at 633.
108. See id. ("[T]he lead arranger typically also acts as the 'agent' bank that monitors the firm, governs the terms of the loan, administers the drawdown of funds, calculates interest payments, and enforces financial covenants.").
109. See Dennis & Mullineaux, supra note 91, at 407-10.
110. See Simons, supra note 92, at 49 ("[T]he lead banks' concern with maintaining their reputations in the marketplace may lead them not only to avoid abuses but to promote risky loans even less aggressively than safe loans.").
111. See Agasha Mugasha, The Secondary Market for Syndicated Loans: Loan Trading, Credit Derivatives, and Collateralized Debt Obligations, 19 BANKING & FIN. L. REV. 199, 199 (2004) (noting that regular participants in the secondary loan market include banks and other financial institutions such as insurance companies, pension funds, and mutual funds).
112. Barry Bobrow, Mercedes Tech & Linda Redding, An Introduction to the Primary Market, in THE HANDBOOK OF LOAN SYNDICATIONS AND TRADING 157, 168 (Allison Taylor & Alicia Sansone eds., 2006) ("Hedge funds represented 29 percent of the primary market for institutional loans with spreads of LIBOR + 400 basis points or higher in 2005.").
113. See Meredith Coffey et al., The Secondary Loan Market, in THE HANDBOOK OF LOAN SYNDICATIONS AND TRADING, supra note 104, at 393, 415-16 (noting that from 2000 to 2005 hedge fund trading in the syndicated loan market has risen from ten percent of JP Morgan's trading volume to nearly thirty percent of the total trading volume).
114. A. Burak Güner, Loan Sales and the Cost of Corporate Borrowing, 19 REV. FIN. STUD. 687, 689-90 (2006) (explaining why borrowers may dislike loan sales and suggesting that borrowers receive lower interest rates when they allow banks to sell participations in the loans); Sang Whi Lee & Donald J. Mullineaux, Monitoring, Financial Distress, and the Structure of Commercial Lending Syndicates, 33 FIN. MGMT. 107, 118 (2004) (indicating consent on reselling the loan is required in fewer than half of the syndications). The options provided to banks by the secondary loan market are in many ways similar to the options that claims trading in bankruptcy provides to the holders of claims.
115. See Mugasha, supra note 103, at 201 ("Secondary loan trading has increased tenfold in the last five years.").
116. See, e.g., Jonathan Keehner, Caroline Salas & Jason Kelly, Harrah's Owners Said To Hedge Against Bankruptcy (Update 1), BLOOMBERG, Mar. 13, 2009, http://www.bloomberg.com/ apps/news?pid=newsarchive&sid=aJzJ_THa9Pck (noting that private equity firms that held equity in Harrah's bought debt to gain control over the potential bankruptcy should Harrah's fail).
117. See Circuit City Unplugged: Why Did Chapter 11 Fail To Save 34,000 Jobs?: Hearing Before the Subcomm. on Commercial and Administrative Law of the H. Comm. on the Judiciary, 111th Cong. 10-24 (2009) [hereinafter Miller Testimony] (statement of Harvey R. Miller, Senior Partner, Weil, Gotshal & Manges LLP) (observing, in the context of retailer bankruptcies, that financial institutions and members of lender syndicates have adopted a more distant and shorter term relationship with debtors).
118. For a discussion of the kind of monitoring in which banks engage, see Christopher James, Some Evidence on the Uniqueness of Bank Loans, 19 J. FIN. ECON. 217 (1987); and Frederick Tung, Leverage in the Board Room: The Unsung Influence of Private Lenders in Corporate Governance, 57 UCLA L. REV. 115 (2009).
119. See 12 U.S.C. § 1843(a), (c)(2) (2006) (allowing banks to hold equity that has been converted from debt, but presumptively limiting the holding period to two years). For a discussion of the limits on banks to invest in, deal, and underwrite securities, see RICHARD SCOTT CARNELL, JONATHAN R. MACEY & GEOFFREY P. MILLER, THE LAW OF BANKING AND FINANCIAL INSTITUTIONS 130-34 (4th ed. 2009).
120. D.K. Sarasvathy et al., Perceiving and Managing Business Risks: Differences Between Entrepreneurs and Bankers, 33 J. ECON. BEHAV. & ORG. 207 (1998) (noting that bankers begin by identifying the return they seek and then focus on minimizing risks).
121. Of course, one should not exaggerate these differences. Since the repeal of the Glass-Steagall Act, the differences between banks and hedge funds have diminished, but the process has been one in which banks have become more like hedge funds rather than the other way around. The effect is to magnify the changes that hedge funds have brought to the scene.
122. Hedge funds look for the fulcrum security-the one that gives it control of the reorganization. They are equally content with owning secured and unsecured debt.
123. See, e.g., Baird & Jackson, supra note 88, at 106-08 (discussing the bias of secured creditors towards liquidation and the bias of junior parties for delay).
124. In Part III, we take account of the rise of credit default swaps. See infra Part III. These new investment vehicles can provide another reason for a party holding a part of a syndicated loan to favor a formal default rather than a workout.
125. See Miller Testimony, supra note 109, at 14 ("The chapter 11 process, as contemplated in 1978, has been overwhelmed by marginalization of the debtor in possession, expansion of creditor (particularly secured creditor) control, the increasing imposition of creditor-designated chief restructuring officers (CROs), claims trading, more complex debt and organizational structures, and short-term profit motivation.").
126. CORRY SILBERNAGEL & DAVIS VAITKUNAS, MEZZANINE FINANCE 6-7 (2006), http://pages.stern.nyu.edu/~igiddy/articles/Mezzanine_Finance_Explained.pdf.
127. See id. at 6.
128. See Marc Hanrahan & David Teh, Second Lien Loans, in THE HANDBOOK OF LOAN SYNDICATIONS AND TRADING, supra note 104, at 109 (noting that second lien loan financings are now a widely used financing tool, often selected by borrowers in lieu of unsecured high-yield debt or traditional unsecured mezzanine financing).
129. See id.
130. In 2003, second lien issuance in the North American market totaled just under $8 billion, but the amount was over $29 billion in 2006. Gary D. Chamblee, Reducing Battles Between First and Second Lien Holders Through Intercreditor Agreements: The Role of the New ABA Model Intercreditor Agreement Task Force, 12 N.C. BANKING INST. 1, 1 (2008) (citing statistics from the Loan Pricing Corporation). Although the market continued to grow, reaching $15.21 billion in the second quarter of 2007 alone, the credit crunch that hit the financial markets dropped the total back to $4.56 billion for the fourth quarter of 2007. Id.
131. See Hanrahan & Teh, supra note 120, at 110 n.3 (noting that collateralized debt obligation and collateralized loan obligation funds have started incorporating second lien loans into their portfolios since 2003).
132. See Harner, supra note 2, at 715 n.45; see also Cynthia Futter & Anne E. Wells, What To Expect from Hedge Funds Today and in the Future: An Overview and Insolvency Perspective, 29 CAL. BANKR. J. 213, 221 (2007) (noting that hedge funds "have virtually created new financial markets, including the so-called second lien market").
133. See Hanrahan & Teh, supra note 120, at 112 ("The concern [of first lien lenders] in times past has been that the existence of other secured creditors and their rights in collateral could result in complications for first lien lenders in the event of a workout or bankruptcy.").
134. See U.C.C. § 9-609 (2000).
135. See Chamblee, supra note 122 (discussing typical clauses in intercreditor agreements).
136. Mark N. Berman & Jo Ann J. Brighton, Handbook On Second Lien Loans And Intercreditor Agreements (2009);
137. C. Edward Dobbs, Negotiating Points in Second Lien Financing Transactions, 4 DEPAUL BUS. & COM. L.J. 189 (2006) (summarizing the significant issues faced in intercreditor agreements); see also Chamblee, supra note 122 (discussing common provisions of the ABA model intercreditor agreement); George H. Singer, The Lender's Guide to Second Lien Financing, 125 BANKING L.J. 199 (2008) (discussing common provisions of intercreditor agreements and issues that may arise should the debtor file for bankruptcy).
138. See BERMAN & BRIGHTON, supra note 128, at 64-65 (noting that it is common for second lien lenders to agree to this provision); Chamblee, supra note 122, at 18 (indicating that the ABA Model Intercreditor Agreement permits sales by the senior lender under § 363 of the Bankruptcy Code without consent of the second lien lender as long as the interest of the second lien lender attaches to the proceeds); see also Dobbs, supra note 128, at 218-19 (observing that the parties will negotiate over whether the intercreditor agreement will contain a clause prohibiting the second lien holder from objecting to a § 363 sale).
139. See Dobbs, supra note 128, at 211-15.
140. First lien holders agreed to concessions to avoid litigation over intercreditor agreements in In re Calpine, No. 05-60200 (Bankr. S.D.N.Y. Dec. 20, 2005), which was discussed in Calpine Reaches Settlement with Second Lien Debtholders, REUTERS, Feb. 1, 2008, http://www.reuters.com/article/pressRelease/idUS227576+01-Feb-2008+PRN20080201, which noted what second lien holders extract in exchange for giving up whatever rights they have under an intercreditor agreement. See In re Dura Auto. Sys., No. 06-11202 (Bankr. D. Del. Oct. 30, 2006); Legal Advisory: Intercreditor/Subordination Agreements in the Second Lien Generation, BRACEWELL & GUILIANI, July 20, 2007, http://www.bracewellgiuliani.com/index.cfm/fa/news.advisory/item/a38118cd-0fd5-4517-b263-9b01149c40c4/IntercreditorSubordination_Agreements_in_the_Second_Lien_Generation.cfm ("Disputes under intercreditor agreements can be postponed (and avoided) through consensual resolutions, as occurred in the Dura Automotive case where the parties agreed to provide the second lien lenders (represented by Bracewell) with adequate protection treatment in the form of current cash payment of interest during the bankruptcy case, which the intercreditor agreement, if enforceable, did not permit."). Conflicts between first-and second-lien holders loomed large as well in In re Meridian Automotive Sys., Inc., No. 65-11168 (Bankr. D. Del. Apr. 23, 2005). See Judge OKs Meridian Financing Changes, AFTERMARKET NEWS, Sept. 22, 2006, http://www.aftermarketnews.com/Item/29395/judge_oks_meridian_financing _changes.aspx. Similar problems arose in In re New World Pasta, No. 04-02817 (M.D. Pa. filed May 10, 2004), and In re ACR Management LLC, No. 04-27848 (W.D. Pa. filed June 14, 2004). See Mark Berman & Jo Ann J. Brighton, Second-Lien Financings Part IV: Good, Bad, and Ugly, 25 AM. BANKR. INST. J. 5 (2006), available at http://www.nixonpeabody.com/ publications_detail3.asp?ID=1402.
141. For example, in In re American Remanufacturers, No. 05-20022 (Bankr. D. Del. Nov. 7, 2005), the second lien holders objected to the debtor-in-possession financing package offered by the first lien holders. The bankruptcy court preliminarily agreed with the objections, the first lien holders eventually withdrew their financing offer, and the case converted to a Chapter 7 liquidation. See Mark Berman & Jo Ann J. Brighton, Second-Lien Financings Part II: Good, Bad, and Ugly, 25 AM. BANKR. INST. J. 24, 24-25, 57 (2006).
142. Under the Code, secured creditors receive the value of their collateral first. After that, the administrative costs of bankruptcy are paid. See supra note 15 and accompanying text. A case is said to be "administratively insolvent" when there are insufficient funds to pay off the administrative expenses.
143. For an excellent discussion of the issues surrounding carve-outs, see Richard B. Levin, Almost All You Ever Wanted To Know About Carve Out, 76 AM. BANKR. L.J. 445 (2002).
144. For example, a provision that takes away from the second lienholder its right to vote on the plan of reorganization is suspect. See Dobbs, supra note 128, at 221 n.64 (setting out the differing views of courts on whether junior creditors can give up voting rights in bankruptcy).
145. Unsecured creditors and equity holders can take little solace in the rise of hedge fund activism in bankruptcy. While these funds may not have the liquidation bias normally associated with the senior bank, they are not charitable institutions. They seek to control the fulcrum security, and ensure that all of those who hold investments with a lower priority receive no interest in the reorganized company.
146. George W. Kuney, Hijacking Chapter 11, 21 EMORY BANKR. DEV. J. 19, 24-25 (2004) ("[S]ecured creditors capitalizing upon agency problems to gain the help of insiders and insolvency professionals [have] effectively take[n] over-or 'hijack[ed]'-the chapter 11 process and essentially create[d] a federal unified foreclosure process."); Stephen J. Lubben, The "New and Improved" Chapter 11, 93 KY. L.J. 839, 841-42 (2005) ("[I]t is not clear that this development promotes social welfare. Rather, lender control may only benefit lenders."); Harvey R. Miller & Shai Y. Waisman, The Creditor in Possession: Creditor Control of Chapter 11 Reorganization Cases, 21 BANKR. STRATEGIST 1, 2 (2003) ("The exercise . . . of remedial rights given secured creditors upon the occurrence of default, in effect, puts those creditors in control of the debtor/borrower."); Westbrook, supra note 89, at 799 ("[W]idespread adoption of a privatized system depending upon dominant security interests is as undesirable as it is unlikely.").
147. Miller Testimony, supra note 109, at 11-12 (detailing commonly approved provisions in DIP financing orders, including: "requiring the debtor in possession to hire a CRO . . . [c]ash-flow covenants that . . . can compel the sale of assets or downsizing[,] [p]rovisions giving the lender control over disposition of the debtor's assets[,] . . . negative covenants that constrain management flexibility[, and] . . . [p]rovisions that subject the debtor's plan of reorganization to some form of lender control").
148. Scott D. Cousins, Postpetition Financing of Dot-Coms, 27 DEL. J. CORP. L. 759, 793 (2002) ("Regardless of whether the DIP lender is also the prepetition lender, DIP orders often vacate the automatic stay upon the declaration of an event of default and after the expiration of a short period of time . . . .").
149. See Restructuring Terms: Hedge Fund Roll-Ups Steamroll Creditors, WESTLAW BUS., July 1, 2009, http://currents.westlawbusiness.com/Articles/2009/07/20090724_0041.aspx?cid=&src=WBSignon.
150. We see exactly this problem in the Lyondell reorganization, where various hedge funds such as Silver Point and Appaloosa competed vigorously to gain shares of the DIP loan. See Tiffany Kary, Lyondell Case Shows Bankruptcy Loans Are Available for a Price, BLOOMBERG, Feb. 4, 2009, http://www.bloomberg.com/apps/news?pid=newsarchive&sid=azqyUe8pwuUM.
151. See, e.g., Dobbs, supra note 128, at 202 (setting out the "remedy block" first lienholders seek and limits second lienholders try to place on them).
152. See 11 U.S.C. § 501(a) (allowing equity security holders to file an interest); id. § 506 (2006) (distinguishing between secured claims and unsecured claims); see also id. § 1129(b) (defining the cram down procedure for secured claims, unsecured claims, and interests). In recent years, the Bankruptcy Code has been amended so that many varieties of swap and derivative transactions entered into by the debtor are excepted from bankruptcy altogether. See, e.g., id. §§ 362(b)(27), 555, 556.
153. Fischer Black & Myron Scholes, The Pricing of Options and Corporate Liabilities, 81 J. POL. ECON. 637, 649-53 (1973) (deriving a valuation formula for options and applying it to corporate liabilities); Robert C. Merton, Theory of Rational Option Pricing, 4 BELL J. ECON. & MGMT. SCI. 141, 141-42 (1973) (extending the Black-Scholes theory of option pricing). For an accessible discussion of how financial innovation alters our perception of capital structures, see Alvin C. Warren, Jr., Commentary, Financial Contract Innovation and Income Tax Policy, 107 HARV. L. REV. 460, 465-70 (1993).
154. Douglas G. Baird & Robert K. Rasmussen, The End of Bankruptcy, 55 STAN. L. REV. 751, 751-52 (2002).
155. See Baird & Rasmussen, supra note 96, at 1217 ("The line between debt and equity is an entirely permeable one, in terms of both cash flow rights and control rights.").
156. Frank H. Easterbrook & Daniel R. Fischel, The Economic Structure Of Corporate Law 63-67 (1991).
157. See Baird & Rasmussen, supra note 96, at 1209 ("When a business stumbles, creditors typically enjoy powers that public shareholders never have, such as the ability to replace the managers and install those more to their liking.").
158. See, e.g., EASTERBROOK & FISCHEL, supra note 147, at 68 ("As residual claimants,shareholders have the appropriate incentives . . . to make discretionary decisions.").
159. See Lubben, supra note 7, at 405 n.2.
160. See id. at 411 (listing bankruptcy, failure to pay, and restructuring as typical credit events). For more information on credit derivatives, see generally Frank Partnoy & David A. Skeel, Jr., The Promise and Perils of Credit Derivatives, 75 U. CIN. L. REV. 1019 (2007), explaining the basics of credit derivatives and the ways in which they can be used.
161. See Gillian Tett & Paul J. Davies, Unbound: How a Market Storm Has Seen Derivatives Eclipse Corporate Bonds, FIN. TIMES (London), Aug. 8, 2007, at 11 ("[T]he CDS market is now 10 times larger than the tangible cash bonds on which they [sic] are supposed to be based."); International Swaps and Derivatives Association, Summaries of Market Survey Results, http://www.isda.org (follow "Surveys & Market Statistics" hyperlink; then follow "Summaries of Market Survey results" hyperlink; then follow "2008 Year-End" hyperlink) (last visited Sept. 5, 2009) ("The notional amount outstanding of credit default swaps (CDS) was $38.6 trillion at year-end, down 29 percent from $54.6 trillion at mid-year 2008. CDS notional outstanding for the whole of 2008 was down 38 percent from $62.2 trillion at year-end 2007.").
162. Partnoy & Skeel, supra note 151, at 1023 (noting that credit default swaps give banks a method of shedding risk without the costs of negotiating the syndications and working with other banks and without sharing the benefits of the loan).
163. See id. at 1024 (describing the view of Alan Greenspan and others that credit default swaps serve as a "shock absorber" and provide systemic benefits).
164. See Sufi, supra note 93, at 640 (showing that the largest lead syndicators are all banks).
165. For a discussion of the industry that services hedge funds, see Steve Bills, JPM Buys Into Hedge Fund Middle Office, AM. BANKER, Feb. 14, 2006, at 1 (discussing JP Morgan's strategy for competing in the business of servicing hedge funds).
166. Indeed, the proponents of credit default swaps have touted their ability to reduce the risk to the banking system. See supra note 154. But see Partnoy & Skeel, supra note 151, at 1040 (noting that credit default swaps also raise systemic concerns because a "rush to unwind a vast array of interconnected contracts could create serious liquidity problems in the financial markets"). Credit default swaps have in fact been blamed for the current financial meltdown. See, e.g., Matthew Philips, The Monster that Ate Wall Street: How 'Credit Default Swaps'-an Insurance Against Bad Loans-Turned from a Smart Bet into a Killer, NEWSWEEK, Oct. 6, 2008, at 46.
167. See Lubben, supra note 7, at 411 ("The debtor on the referenced obligation is not a party to the swap, and in most cases is unaware of the transaction.").
168. Henry T.C. Hu &Bernard Black, Equity and Debt Decoupling and Empty Voting II: Importance and Extensions, 156 U. PA. L. REV. 625, 731 (2008) (describing how debt holders, like equity holders, may have negative economic ownership through derivative ownership that results in an incentive to act against the interest of other creditors).
169. See Partnoy & Skeel, supra note 151, at 1034-35 (describing an analogous situation in the Tower Automotive bankruptcy where it was believed that hedge funds blocked a restructuring plan because a default would benefit their short positions in Tower stock).
170. See 11 U.S.C. § 501 (2006); FED. R. BANKR. P. 3001-05.
171. In light of the recent financial crisis, Treasury Secretary Timothy Geithner proposed regulating the trading of derivatives, which includes credit default swaps. See Letter from Timothy F. Geithner, Sec'y of the Treasury, to Harry Reid, Senate Majority Leader (May 13, 2009), available at http://www.financialstability.gov/docs/OTCletter.pdf. This proposal, while addressing some problems with the extant market, would not require the public disclosure of the owners of credit default swaps.
172. See Lubben, supra note 7, at 427 (indicating that creditors holding credit default swaps may try to "jump the gun" by filing an involuntary petition to trigger default).
173. See Complaint, In re Lyondell Chem. Co., 402 B.R. 57 (Bankr. S.D.N.Y. 2009) (No. 09-10023).
174. See Lyondell Seeks To Stop Note Holders from Taking Action, REUTERS INDIA, Feb. 10, 2009, http://in.reuters.com/article/rbssEnergyNews/idINBNG38261720090209.
175. See id.
176. See Burning Down the House: Why Credit-Default Swaps Make Restructuring Harder To Pull Off, ECONOMIST, Mar. 7, 2009, at 80.
177. See supra note 151 and accompanying text.
178. Of course, credit default swaps make it next to impossible for the creditors to agree to a prepackaged or prearranged bankruptcy. The bankruptcies of Chrysler and General Motors were able to be prearranged only because the federal government was able both to fund the cases and to cajole recalcitrant parties not to oppose the deals.
179. See DEBRA GRASSGREEN & MAXIM LITVAK, FIRST DAY MOTIONS (2d ed. 2006); A. Mechele Dickerson, Privatizing Ethics in Corporate Reorganizations, 93 MINN. L. REV. 875, 909-10 (2009) ("First-day orders are entered in virtually all large reorganizations on an expedited basis in order to address time-sensitive matters such as obtaining DIP financing, using cash collateral, paying certain creditor claims, and retaining key executives." (footnotes omitted)).
180. See Dickerson, supra note 170, at 911 (documenting the trend in recent years of large firms entering bankruptcy with a prenegotiated arrangement to sell the business).
181. The most conspicuous example is the Lehman Brothers bankruptcy. While major assets were sold in the first week of the case, the credit derivatives involving Lehman were settled weeks later. Compare Simon Bowers, Lehman Fallout: Derivatives Worth Hundreds of Billions Start To Unwind, GUARDIAN (London), Oct. 11, 2008, at 3 (reporting on the beginning of the unwinding of $200 billion in Lehman derivatives in mid-October), with Ben White & Eric Dash, Barclays Reaches $1.75 Billion Deal for Lehman Unit, N.Y. TIMES, Sept. 17, 2008, at C1 (reporting Barclays's purchase of the bulk of Lehman's assets only two days after Lehman filed for Chapter 11).
182. This current problem of sorting out who owns what after a credit event could be ameliorated were Congress to require the central clearing of derivatives as proposed by Secretary Geithner. See supra note 162.
183. Edward R. Morrison & Joerg Riegel, Financial Contracts and the New Bankruptcy Code: Insulating Markets from Bankrupt Debtors and Bankruptcy Judges, 13 AM. BANKR. INST. L. REV. 641, 655 n.93 (2005). The major difference between a total return swap and a credit default swap is that the protection payer in a credit default swap purchases only the credit risk associated with the loan, whereas the total return receiver gets all the economic exposure of the loan.
184. Michael C. Jensen &William H. Meckling, Theory of the Firm: Managerial Behavior, Agency Costs and Ownership Structure, 3 J. FIN. ECON. 305 (1976) (showing that central problems of corporate finance are the agency problems that arise when ownership and control are separated).
185. See Huebner & Tisdell, supra note 6, at 81-82 ("[N]ominal holders of claims are increasingly participating out or hedging their exposures (using outright participations or swaps). As a result, the apparent creditors of the troubled firm may not be the real parties in interest or even have the decision-making authority with respect to the claims they appear to own. This makes it increasingly difficult to communicate with the ultimate decision makers in the creditor body in order to negotiate a restructuring.").
186. See Hu & Black, supra note 159, at 732-35 (discussing the need for disclosure of hidden debt hedges by creditors in bankruptcies).
187. See Baird, supra note 52.
188. Gary D. Libecap & Dean Lueck, The Demarcation of Land and the Role of Coordinating Institutions (Nat'l Bureau of Econ. Research, Working Paper No. 14942, 2009) (reporting a study indicating that land in areas that use a centralized land demarcation system has a higher value than land in areas using the indiscriminate metes and bounds system), available at http://www.adislab.net/docs/SeminaireADIS0809/20090609-LibecapLueck -Demarcation.pdf.
189. Thomas W. Merrill &Henry E. Smith, Optimal Standardization in the Law of Property: The Numerus Clausus Principle, 110 YALE L.J. 1 (2000).
190. On the rise of sales of companies as a going concern, see Baird & Rasmussen, supra note 5.
191. Even in the days of abundant liquidity, it was still the case that the sale of very large companies was difficult to pull off. The market for two hundred million dollar companies is more robust than is the market for two billion dollar companies. For the largest companies, hedge funds need to pool their resources together. See Brent Shearer, Leading the M&A Pack: Private Equity's Party Is in Full Swing . but for How Much Longer?, MERGERS & ACQUISITIONS: THE DEALMAKER'S J., Nov. 2006, at 28 (discussing how funds form "clubs" to do larger deals).
192. For a discussion of how focal points play an important role in the context of bargaining between two parties, see H. Peyton Young, The Economics of Convention, 10 J. ECON. PERSP. 105, 116-21 (1996).
193. See Baird & Rasmussen, supra note 5, at 692.
194. See Baird, supra note 40, at 15 ("Substantive consolidation lacks the solid foundation one usually expects of doctrines so firmly embedded in day-to-day practice.").
195. Many practices in modern Chapter 11 are well known to insiders, but inaccessible to anyone else. For example, the fees of the indenture trustee are always paid, even though the Bankruptcy Code allows such fees only in the event of a "substantial contribution" in a case. 11 U.S.C. § 503(b)(5) (2006). Experienced lawyers know not to expend any energy fighting them. The fees are routinely, indeed invariably, included in the plan, without inquiry into whether the indenture trustee's contribution was in fact "substantial." Junior associates sometimes find out about this feature of modern bankruptcy practice in a hazing ritual akin to the one in which the newest apprentice in a French restaurant is sent to retrieve soufflé weights lent to a rival. Aspiring bankruptcy lawyers are instructed to go to plan negotiations and to be unyielding on the question of allowing fees for the indenture trustee, only to be surprised when they are not taken seriously.
196. See In re Adelphia Commc'ns Corp., 368 B.R. 140, 146 (Bankr. S.D.N.Y. 2007).
197. An "empty core" exists when three or more parties cannot reach a stable agreement with each other because some other agreement always exists that at least one party prefers. In other words, at least one person will always defect from any tentative agreement that might be made and, hence, none ever is reached. Low transaction costs create a frictionless environment in which agreements cannot stick. For an accessible introduction to the problem of the empty core, see Lester G. Telser, The Usefulness of Core Theory in Economics, 8 J. ECON. PERSP. 151 (1994). The problem of the empty core may require some qualification of the Coase theorem, as it is premised on the idea that parties can reach agreement with one another if transaction costs are low enough and information is perfect. See Varouj A. Aivazian & Jeffrey L. Callen, The Coase Theorem and the Empty Core, 24 J.L. & ECON. 175 (1981) [hereinafter Aivazian & Callen, The Coase Theorem]; Varouj A. Aivazian & Jeffrey L. Callen, The Core, Transaction Costs, and the Coase Theorem, 14 CONST. POL. ECON. 287 (2003) (expanding upon the argument that the Coase Theorem may break down when faced with an empty core). But see R.H. Coase, The Coase Theorem and the Empty Core: A Comment, 24 J.L. & ECON. 183 (1981) (arguing that the empty core and the Coase Theorem can be reconciled through penalty clauses and time constraints).
198. Of course, in principle, it is possible for the court to keep the bankruptcy open and resolve each of the claims as best it can. In many cases, however, quite apart from the difficulty of determining the value of the claims, there is an efficiency loss from delay. In Adelphia's case, for example, even after the sale of the assets, the failure to get a plan of reorganization approved would require a premature IPO of stock received in the sale. ACC Bondholders Group v. Adelphia Commc'ns Corp. (In re Adelphia Commc'ns Corp.), 361 B.R. 337, 353 (S.D.N.Y. 2007).
199. A class accepts a plan when a majority in number and two-thirds in amount of the claims in a class vote in favor of it, see 11 U.S.C. § 1126(c) (2006), and when a class accepts a plan, the judge can confirm it without going through the "cramdown" procedure. See id. § 1129(a)(8).
200. For a description of the provisions in Chapter 11 that bring this about, see supra text accompanying notes 15-22.
201. See supra text accompanying notes 60-86. 195. 11 U.S.C. § 1123(a)(4).
202. For a description of how low transaction costs actually create empty core problems and how this relates to the Coase Theorem, see supra note 190. Barry Adler has suggested a reorganization mechanism in which junior creditors propose a plan that could include a take-it-or-leave-it offer for the senior creditor. Barry E. Adler, Game-Theoretic Bankruptcy Valuation (N.Y.U. Law & Econ. Research Paper Series, Working Paper No. 07-03, 2007), available at http://ssrn.com/abstract=954147. Such a mechanism might avoid the empty core problem, as the ability to make take-it-or-leave-it offers dramatically narrows the range of possible equilibrium agreements.
203. Note that although Supplier is due $10, a plan can be confirmed so long as Supplier receives what it would have received in a liquidation. See 11 U.S.C. § 1129(a)(7)(A)(ii).
204. As a secured claimholder, HedgeFund is entitled to its full claim up to the value of the underlying collateral, in this case all of Firm's assets. See id. § 506.
205. In this hypothetical, we have abstracted away many of the difficulties confronting modern reorganization practice. We have replaced shape-shifting creditors holding varying agendas with single actors, each of whom has a transparent economic interest.
206. For a discussion and formal proof of the conditions necessary under these assumptions, see Aivazian & Callen, The Coase Theorem, supra note 190, at 179-80.
207. Michael J. de la Merced, Delphi Is Said To Have a New Deal To Leave Bankruptcy, N.Y. TIMES, July 17, 2009, at B2 (describing long and unsuccessful negotiations with shifting coalitions). Only when the government sought to engineer a sale of Delphi to a private equity firm at what the existing lenders thought was a bargain price did an agreement arise under which the existing lenders took control of the company.
208. If HedgeFund and Manager worked together and left Supplier out, HedgeFund and Manager would have only $19 to split between themselves. If Supplier and Manager worked together, they would be left with only $10 to split.
209. See, e.g., David A. Skeel, Jr., Debt's Dominion: A History Of Bankruptcy Law In America 214-15 (2001).
210. The relevant statutory text is set out in 11 U.S.C. § 1125(b) (2006). For a discussion of relevant bankruptcy practice, see Daniel J. De Franceschi, Delaware Bankruptcy Court Announces Bright-Line Rule for Use of Lock-up Agreements in Chapter 11 Cases, 22 AM. BANKR. INST. J. 16 (2003).
211. For a narrow reading of § 1125(b), see Century Glove, Inc. v. First American Bank of New York, 860 F.2d 94, 100-03 (3d Cir. 1988), which interprets "solicitation" narrowly so as not to inhibit negotiations. See also In re Snyder, 51 B.R. 432, 437 (Bankr. Utah 1985) ("The terms 'solicit' and 'solicitation' . . . must be interpreted very narrowly to refer only to a specific request for an official vote either accepting or rejecting a plan of reorganization. The terms do not encompass discussions, exchanges of information, negotiations, or tentative arrangements . . . .").
212. See 11 U.S.C. § 1126(e).
213. See Douglas G. Baird, The Elements Of Bankruptcy 265-68 (4Th Ed. 2006).
214. See, e.g., In re Kmart Corp., 359 F.3d 866, 871 (7th Cir. 2004) ("Answers to contemporary issues must be found within the Code (or legislative halls). Older doctrines may survive as glosses on ambiguous language enacted in 1978 or later, but not as freestanding entitlements to trump the text."); Perlman v. Catapult Entm't, Inc. (In re Catapult Entm't, Inc.), 165 F.3d 747, 754 (9th Cir. 1999) ("Policy arguments cannot displace the plain language of the statute; that the plain language . . . may be bad policy does not justify a judicial rewrite.").
215. See Kevin A. Kordana & Eric A. Posner, A Positive Theory of Chapter 11, 74 N.Y.U. L. REV. 161, 168-69 (1999).
216. See 11 U.S.C. § 366.
217. See id. § 503(b)(9) (classifying such payment as an administrative expense).
218. See Richard Beales, Delphic Dealings, breakingviews.com, June 10, 2009, http://www.breakingviews.com/2009/06/10/delphi.aspx?sg=nytimes.
219. See Lynn M. LoPucki & Joseph W. Doherty, Bankruptcy Fire Sales, 106 MICH. L. REV. 1 (2007) (providing empirical evidence suggesting sales in bankruptcy yield lower values than when firms reorganize).
220. See Andrei Shleifer & Robert W. Vishny, Liquidation Values and Debt Capacity: A Market Equilibrium Approach, 47 J. FIN. 1343 (1992) (showing that liquidation sales yield lower prices than actual value in best use as similarly situated firms are likely to be experiencing financial distress as well).
221. See In re Chrysler LLC, 405 B.R. 84 (Bankr. S.D.N.Y. 2009). The bidding procedures in Chrysler have been criticized because of the way in which the consideration offered by the only bidder consisted not only of cash, but also assumption of specified unsecured obligations of the business. For a critique, see Mark J. Roe & David A. Skeel, Assessing the Chrysler Bankruptcy (Univ. of Pa. Law Sch. Pub. Law Research Paper No. 09-17, 2009), available at http://ssrn.com/abstract=1426530.
222. Nancy Miller, Judge Rules with Rod, Impish Smile, USA TODAY, Mar. 25, 1992, at 5B (discussing how Judge Pollock threatened to dismantle the brokerage firm on his own if the parties did not reach a deal).
223. See ACC Bondholders Group v. Adelphia Commc'ns Corp. (In re Adelphia Commc'ns Corp.), 361 B.R. 337, 368 (S.D.N.Y. 2007).
224. For an example of a case in which the bankruptcy judge brought an end to a case through a sale in which the judge assessed competing noncash bids, see Contrarian Funds, LLC v. Westpoint Stevens, Inc. (In re Westpoint Stevens, Inc.), 333 B.R. 30, 55 (S.D.N.Y. 2005).