Creditor Control and Conflict in Chapter 11

42 Pages Posted: 28 Aug 2009  

Kenneth Ayotte

University of California, Berkeley - School of Law

Edward R. Morrison

Columbia Law School

Multiple version iconThere are 2 versions of this paper

Date Written: August 28, 2009

Abstract

We analyze a sample of large privately and publicly held businesses that filed Chapter 11 bankruptcy petitions during 2001. We find pervasive creditor control. In contrast to traditional views of Chapter 11, equity holders and managers exercise little or no leverage during the reorganization process. 70 percent of CEOs are replaced in the two years before a bankruptcy filing, and few reorganization plans (at most 12 percent) deviate from the absolute priority rule to distribute value to equity holders. Senior lenders exercise significant control through stringent covenants, such as line-item budgets, in loans extended to firms in bankruptcy. Unsecured creditors gain leverage through objections and other court motions. We also find that bargaining between secured and unsecured creditors can distort the reorganization process. A Chapter 11 case is significantly more likely to result in a sale if secured lenders are oversecured, consistent with a secured creditor-driven fire-sale bias. A sale is much less likely when these lenders are undersecured or when the firm has no secured debt at all. Our results suggest that the advent of creditor control has not eliminated the fundamental inefficiency of the bankruptcy process: resource allocation questions (whether to sell or reorganize a firm) are ultimately confounded with distributional questions (how much each creditor will receive) due to conflict among creditor classes.

Keywords: creditor, control, conflict, chapter 11, bankruptcy, equity, lenders, Ayotte, Morrison

Suggested Citation

Ayotte, Kenneth and Morrison, Edward R., Creditor Control and Conflict in Chapter 11 (August 28, 2009). The Journal of Legal Analysis, Vol. 1, No. 2, pp. 511-551, Summer 2009. Available at SSRN: https://ssrn.com/abstract=1463413

Kenneth Ayotte (Contact Author)

University of California, Berkeley - School of Law ( email )

215 Boalt Hall
Berkeley, CA 94720-7200
United States

Edward R. Morrison

Columbia Law School ( email )

435 West 116th Street
New York, NY 10025
United States

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