The Costs of Corporate Bankruptcy: How Little We Know

Abstract

For almost as long as there have been bankruptcy laws, there have been complaints that the primary beneficiaries of these laws are insiders who administer the bankruptcy system. In recent decades, this line of criticism has carried with it an implicit criticism of bankruptcy courts, who are urged to more aggressively police the costs of bankruptcy. Indeed, at least one recent critic has unkindly suggested that the failure of the courts to control bankruptcy costs is the result of a corrupt bargain between bankruptcy courts and practitioners.

Rarely addressed is why bankruptcy courts regulate professional costs at all. In most areas of American law, a professional is accountable solely to its client. Complaints about excessive cost might result in a separate malpractice action, but a client who thinks they have been overcharged for the defense of their speeding ticket will find little relief in traffic court. Why is bankruptcy different?

This paper begins to look at this question with brief overview of the concept of bankruptcy costs, traditionally divided between direct and indirect costs. I next turn to a consideration of the process for overseeing bankruptcy costs. I briefly trace the history of court control of compensation in corporate bankruptcy, and then detail the current legal structure. The final part of the chapter then surveys the existing understanding of chapter 11 cost, and concludes with a some thoughts on the important questions that remain unanswered.

In short, we know a bit about direct costs, but very little about any other sort of costs. Moreover, what we know is almost entirely lacking in context. This makes it quite hard to understand if the existing system of cost regulation is either useful or justified.

Keywords: Chapter 11, financial distress costs, professional fees, attorneys fees, bankruptcy, fees

JEL Classification: G33, K22, K29, K39, K40