Recent Business Bankruptcy-Related Articles of Interest Available for Downloading from SSRN (October 2006)

The following business bankruptcy-related papers, arranged by abstract ID number, can be downloaded from the Social Science Research Network:

***

Univ. of Chicago Business School's Joshua D. Rauh: "Risk Shifting versus Risk management: Investment Policy in Corporate Pension Plans."  (Abstract ID: 931237)

***

Univ. of Cambridge's Geoff Meeks and J.G. Tulip Meeks: "Self-fulfilling Prophecies of Failure: The Endogenous Balance Sheets of Distressed Companies." (Abstract ID: 931096)

***

Bartlit Beck Herman Palenchar & Scott LLP's J.B. Heaton: "Solvency Tests."  (Abstract ID: 931026)

***

Chapman University School of Law's Daniel B. Bogart: "Unexpected Gifts of Chapter 11: The Breach of a Director's Duty of Loyalty Following Plan Confirmation and the Postconfirmation Jurisdiction of Bankruptcy Courts." (Abstract ID: 930161)

***

University of Chicago Law School's M. Todd Henderson: "Paying CEOs in Bankruptcy: Executive Compensation When Agency Costs are Low."  (Abstract ID: 927081)

***

Ohio State University Dept. of Finance's Bernadette A. Milton: "How has CEO Turnover Changed? Increasingly Performance Sensitive Boards and Increasingly Uneasy CEOs" (Abstract ID: 924751)

***

Yale Law School's Yair Jason Listokin: "Paying for Performance in bankruptcy: Why CEOs Should be Compensated with Debt." (Abstract ID: 924569)

***

Seton Hall University School of Law's Stephen Lubben: "Choosing Corporate Bankruptcy Counsel." (Abstract ID: 781367)

***

Abstracts for each of these papers follows:

 

Joshua D. Rauh, "Risk Shifting versus Risk management: Investment Policy in Corporate Pension Plans."  (Abstract ID: 931237):

Firms financed with debt face conflicting incentives with respect to the management of cash flow risks. Risk reduction can benefit liquidity constrained firms, but increased risk taking can increase the value of shareholders' equity through asset substitution when firms are close to default. In this paper I examine these conflicting motivations in a setting where risk shifting incentives should be particularly strong: the investment of defined benefit pension plans sponsored by U.S. companies. Empirically, firms with poorly funded pension plans allocate a greater share of pension fund assets to safer securities such as government debt and cash, whereas well-funded plans invest more heavily in volatile asset classes such as equity. Among large public firms, those with better credit ratings allocate greater shares of pension fund assets to equity and smaller shares to government debt and cash. These relations hold both in the cross-section and within firms and plans over time. The higher the probability of bankruptcy, the safer the observed pension fund asset allocation. Furthermore, the realized investment return volatility of plans that eventually terminate in financial distress is no greater than that of plans that do not terminate. I conclude that the incentive to limit the cash flow risk from pensions plays a considerably larger role than risk shifting in explaining pension fund investment policy among U.S. firms.

***

Geoff Meeks and J.G. Tulip Meeks, "Self-fulfilling Prophecies of Failure: The Endogenous Balance Sheets of Distressed Companies." (Abstract ID: 931096):

This paper analyses a problem at the intersection of accounting, law and economics: the economically efficient operation of legal arrangements for company failure is undermined because valuations of assets and liabilities become unstable once a firm is distressed. The paper draws on the three disciplines to show the pivotal role of asset and liability valuations in answering the legal question, whether the firm is insolvent, and the economic question, whether the firm should fail, and its assets be redeployed to an alternative use. US and UK evidence reveals a disconcerting indeterminacy in these processes: the probability that a firm will fail affects significantly the valuations assigned to assets and liabilities; but at the same time the valuation of assets and liabilities itself determines the probability of failure. This balance sheet endogeneity is then shown to delay economically efficient management changes under debtor-oriented US Chapter 11, and to induce unnecessary costly bankruptcy with creditor-oriented UK receivership.

***

J.B. Heaton, "Solvency Tests."  (Abstract ID: 931026):

I explain the basic economic function of solvency tests and the relations among the three solvency tests applied in bankruptcy and corporate law. I also explain why solvency diagnoses can differ, depending on the test that is applied. While one of these tests - the ability to pay test - is probably best, it may suffer from significant measurement error in practice. Multiple solvency tests make sense because the costs of failing to detect insolvency when it exists exceed the costs of detecting insolvency when it does not exist.

***

 Daniel B. Bogart, "Unexpected Gifts of Chapter 11: The Breach of a Director's Duty of Loyalty Following Plan Confirmation and the Postconfirmation Jurisdiction of Bankruptcy Courts." (Abstract ID: 930161):

This article addresses the intersection of two aspects of chapter 11 jurisprudence: the fiduciary duties of directors and officers of the debtor and the post confirmation jurisdiction of bankruptcy courts. The article suggests that the normal application of fiduciary duties to confirmed debtors creates particular opportunities for directors and officers to act in a disloyal manner. The article examines two cases in particular. These include Bernstein v. Donaldson (In re Insulfoams, Inc.) and Cumberland Farms, Inc. v. Hasenotes (In re Cumberland Farms, Inc.) Traditionally, courts and commentators suggest that normal state fiduciary standards govern directors post confirmation. The article argues, however, that in certain scenarios directors may use the chapter 11 process to set the stage for disloyal behavior following confirmation of the plan of reorganization. In these instances, a federal, trustee-based standard of loyalty should apply to acts taken by directors post confirmation. The article also evaluates the various provisions of the Code that might permit a bankruptcy court to exercise post confirmation jurisdiction. The author notes that in his 2003 article, Resisting the Expansion of Bankruptcy Court Power, 35 Arizona St. L. J. 793 (2003), the author recanted his views of Section 105 of the Code, and acknowledged that this section is not a basis for post confirmation jurisdiction.

***

M. Todd Henderson, "Paying CEOs in Bankruptcy: Executive Compensation When Agency Costs are Low."  (Abstract ID: 927081):

Conventional wisdom suggests that high agency costs explain the (excessive) amounts and (inefficient) forms of CEO compensation. This paper offers a simple empirical test of this claim and the reform proposals that follow from it, by looking at pay practices in firms under financial distress, where agency costs are dramatically reduced. When a firm files for Chapter 11 or privately works out its debt with lenders, sophisticated investors consolidate ownership interests into a few large positions replacing diffuse and disinterested shareholders. These investors, be they banks or vulture investors, effectively control the debtor during the reorganization process. In addition, all the other players in compensation decisions - boards, courts, and other stakeholders - play a much more active role than for healthy firms. In other words, agency costs are much lower in Chapter 11 firms. Accordingly, if pay practices look the same in bankruptcy as they do in healthy firms, we can conclude that either (1) the current practices are efficient, or (2) that proposals to change executive compensation by reducing agency costs are incomplete. The data support one of these hypotheses: amounts and forms of compensation remain largely unchanged as agency costs are reduced, and look similar to those of healthy firms.

***

Bernadette A. Milton, "How has CEO Turnover Changed? Increasingly Performance Sensitive Boards and Increasingly Uneasy CEOs" (Abstract ID: 924751):

We study CEO turnover – both internal (board driven) and external (through takeover and bankruptcy) – from 1992 to 2005 for a sample of large U.S. companies. Annual CEO turnover is higher than that estimated in previous studies over earlier periods. Turnover is 14.9% from 1992 to 2005, implying an average tenure as CEO of less than seven years. In the more recent period since 1998, total CEO turnover increases to 16.5%, implying an average tenure of just over six years. Internal turnover is significantly related to three components of firm performance – performance relative to industry, industry performance relative to the overall market, and the performance of the overall stock market. Also in the more recent period since 1998, the relation of internal turnover to performance is more strongly related to all three measures of performance in the contemporaneous year. External turnover is not significantly related to any of the measures of stock performance over the entire sample period, nor over the two sub-periods. We discuss the implications of these findings for various issues in corporate governance.

***

Jason Listokin, "Paying for Performance in bankruptcy: Why CEOs Should be Compensated with Debt." (Abstract ID: 924569):

While managerial performance always plays a critical role in determining firm performance, a manager's importance assumes a heightened role in bankruptcy. A manager in bankruptcy both runs the firm and helps form a plan of reorganization. In light of this critical role, one would expect that bankruptcy scholarship would place considerable emphasis on the role of CEO compensation in incentivizing managerial performance in bankruptcy. The opposite is true, however. Bankruptcy scholars and practitioners tend to emphasize other levers of corporate governance, such as the role of Debtor-in-Possession financiers, rather than the importance of CEO compensation. This Article seeks to revive CEO compensation as an important governance lever in bankruptcy. First, the Article examines current ideas and practices of managerial compensation in bankruptcy and finds them wanting. The Article next proposes a novel bankruptcy compensation plan – debt compensation - that provides better incentives for managers to perform efficiently. By granting managers a fixed proportion of unsecured debt in the bankrupt firm, debt compensation creates value-enhancing incentives similar to the incentives created by the stock grants and stock options that are heavily employed by solvent firms to compensate managers.

***

Stephen Lubben, "Choosing Corporate Bankruptcy Counsel." (Abstract ID: 781367):

While several articles in the last decade have illuminated the basic costs that these professionals add to the chapter 11 process, little else is understood about the role of professionals in chapter 11. Even in the rarefied world of public-company bankruptcies, the basic question of how debtors choose bankruptcy counsel has never been the subject of any empirical inquiry. But the choice of counsel has important implications - most notably, because some have argued that debtor's counsel may steer cases to jurisdictions like Delaware and New York, with possible detrimental effects on the debtor's reorganization. This short paper investigates several questions related to the choice of debtor's counsel by examining a new sample of 275 large chapter 11 cases commenced in 2001 through early 2005. Among other things, I find that this market has many more participants than might have been expected. And debtor size only explains a small part of the decision to hire one of the leading law firms as bankruptcy counsel. In short, the market for corporate bankruptcy counsel defies easy, anecdotal explanation.

***

Special thanks to the folks at ssrn.com, who suggested we let people know of the following policies and procedures in respect of downloading papers from SSRN:

Anyone new to our system who clicks on the link to purchase the paper will be first asked to register their e-mail address on our system. This is something that is required before one can download. The registration is just a security feature and doesn't cost anything, nor will the e-mail address be used for any other purpose but for our system to be able to recognize the user in his use of our services.

Thanks also to our firm's crack part-time law clerk and full-time Northwestern U. student DeJohn Allen for helping assemble this post.

© Steve Jakubowski 2006