Building Legal Indexes to Explain Recovery Rates: An Analysis of the French and English Bankruptcy Codes

Abstract

In this paper, we test the characteristics of bankruptcy procedures that are likely to generate recoveries for the creditors. Such recoveries are related to the performance of bankruptcy law as they stem from the procedures’ ability to preserve the value of bankrupt firms, as basis of creditors’ repayment. We give elements of answer by taking into consideration two countries that are good representatives of the two main legal systems prevailing in Europe: France (Civil Law) and England (Common Law).

In order to identify the characteristics of bankruptcy procedures that generate recoveries, we build 132 original legal indexes accounting for the main functions of bankruptcy law that were highlighted initially by Hart (2000). Namely, we measure the accessibility of the procedures, their ability to disclose public information, the level of protection of the debtor’s assets, the coordination of the claimants and their decision power under bankruptcy, and the sanction of faulty management. We show that the French procedures are more protective of the debtor’s assets and favor more the coordination of claims. In England, we find strong opposition between the liquidation and the reorganization procedures: the former ones prioritize the protection of secured claims, while unsecured creditors benefit from higher decision power under the latter ones.

We then use an original database of 833 French and English bankrupt SMEs to measure the recovery rates that are generated by each procedure. By controlling for the value of assets, the structure of claims, the origins of default, and the firm characteristics, we first isolate the bankruptcy rules that are associated with higher recovery rates: namely, accessibility of the procedure, protection of the debtor’s assets, protection of claims, and sanctions against faulty management. On the contrary, information disclosure under bankruptcy has negative impact on total recoveries, probably due to the breach in confidentiality.

Keywords: bankruptcy, recoveries, legal indexes

JEL Classification: G33, K22