Taking Future Claims Seriously: Future Claims and Successor Liability in Bankruptcy

135 Pages Posted: 24 Jun 1998

See all articles by Frederick Tung

Frederick Tung

Boston University School of Law

Multiple version iconThere are 2 versions of this paper

Date Written: August 10, 1998

Abstract

Treatment of contingent tort liabilities when a business is sold presents a particular challenge for corporate and bankruptcy law. In this article, I focus on the precarious position of future tort claimants-those who may be harmed by a manufacturer's defective product after the manufacturer has sold its business and disappeared. By the time the future claimant's injury occurs, she may be left with no means of recovery. While the article focuses primarily on the bankruptcy sale context, a discussion of the nonbankruptcy context provides important background.

With respect to the nonbankruptcy context, I discuss the doctrine of successor liability and the controversy concerning its various proffered rationales. I conclude tentatively that a cost internalization approach is the most plausible. One consequence of a cost internalization approach is that its applicability in the insolvency context is questionable. If the manufacturer is insolvent at the time of sale, then any acquirer should take free of successor liability risk. Insolvency means that the manufacturer's equity capital has already been exhausted at the time of sale. Therefore, any costs shifted by virtue of the acquirer's discounted bid price would simply be shifted from one set of the manufacturer's creditors to another. While there is good reason to prefer future claimants over the manufacturer's shareholders-which under a cost internalization theory is the effect of successor liability if he manufacturer is solvent-there may not be good reason to prefer future claimants over other creditors of the manufacturer. This observation, coupled with the transaction costs that successor liability creates, suggests that the doctrine should not apply in the insolvency context.

In the bankruptcy sale context, proper treatment of future claims and any attendant successor liability rights is also an unsettled question.I argue (1) that future claims should always be accounted for in the bankruptcy proceeding in which a business is transferred, and (2) that once that is accomplished, attendant successor liability rights may properly be eliminated. Inclusion of future claimants in bankruptcy's common pool is necessary in order to provide complete relief to the debtor and assure survival of the going concern. It also vindicates bankruptcy's norm of equal treatment. Provided future claims are included in the bankruptcy distribution, that should be their exclusive remedy. They do not deserve a second recovery that post-bankruptcy successor liability would provide.

Neither of these prescriptions, however, is a given under current law.In the mass tort context, future claims are included in bankruptcy because they must be in order for the business to survive, but otherwise they are ignored. Recent reform proposals seem to condone such inconsistent, result-oriented treatment of future claims in bankruptcy, as theorists call for a "flexible" approach. I argue that in the bankruptcy sale context, a flexible approach merely enables exploitation of future claimants. Much like the situation outside of bankruptcy, a flexible approach enables other parties to leave losses with future claimants if that strategy will maximize returns to those other parties.

With respect to disposition of successor liability claims following bankruptcy, the courts are in disarray. That future claims are ordinarily ignored in bankruptcy has caused certain courts to proclaim that future claimants' successor liability rights may never be affected by bankruptcy. I suggest that this view stems from a misapprehension concerning the proper rationale for successor liability. From a cost internalization perspective, it becomes clear that as long as future claims are accounted for in bankruptcy, successor liability rights should not survive.

Finally, I discuss implementation of mandatory inclusion of future claims in the bankruptcy sale context. I propose a low cost alternative to the mass tort model, which I refer to as Commensurate Discounted Assumption.

JEL Classification: K20, K22, K29

Suggested Citation

Tung, Frederick, Taking Future Claims Seriously: Future Claims and Successor Liability in Bankruptcy (August 10, 1998). Available at SSRN: https://ssrn.com/abstract=92189 or http://dx.doi.org/10.2139/ssrn.92189

Frederick Tung (Contact Author)

Boston University School of Law ( email )

765 Commonwealth Avenue
Boston, MA 02215
United States

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