As for the judges, new concerns to deal with insolvency by preventative means bring some issues newly towards the centre of the stage. An important challenge for the judges is to develop the law in a manner that allows banks and others to assist troubled companies where this is in the general interests of creditors. At the same time, the judges must be concerned to avoid such assistance being used in a self-serving manner so that it prejudices the interests of creditors who are not procedurally involved – as where unsecured creditors’ interests may be harmed by banks using intensive care processes to protect themselves at the expense of others (for example by insisting on excessively low-risk strategies when more enterprising behaviour would be more reasonable and would benefit unsecured creditors).

Finally, mention must again be made of the new actors that have become involved in rescues. As noted already, the modern emphasis on prevention and rescue has been accompanied by the advent of new specialists: turnaround professionals, company doctors, risk consultants, solutions providers, independent business reviewers, asset-based lenders, private equity providers and others.134 These parties offer their services to assist both major lenders and companies when troubles are encountered. Their role is often dual – to scrutinise and monitor on behalf of a major lender and also to assist with the devising and implementation of turnaround solutions. Their growth in number and importance is a measure of the current advancement of concerns to deal with insolvency risks by preventative approaches.

Comparing approaches to rescue

In analysing English rescue procedures it is helpful to consider how other jurisdictions deal with the central challenges of rescue.135 The purpose of such comparisons is not to argue that English law should follow other countries but to set out key choices with clarity and to show that there may be a wide variety of ways to achieve rescue objectives.136

134See MacDonald, ‘Turnaround Finance’; Finch, ‘Doctoring in the Shadows’.

135For comparative analyses of rescue, see K. Gromek Broc and R. Parry, Corporate Rescue: An Overview of Recent Developments (2nd edn, Kluwer, London, 2006); L. S. Sealy, ‘Corporate

Rescue Procedures: Some Overseas Comparisons’ in F. Macmillan (ed.), Perspectives in Company L aw (Kluwer , London, 19 95 ); IS 2000, A nnex A; Bro wn, Corp orate R and 25.

136For general discussions of the desirable features of insolvency regimes see the World Bank,

Principles and Guidelines for Effective Insolvency and Creditors’ Rights Systems (World Bank, Washington D.C., 2001) and United Nations Commission on International Trade Law (UNCITRAL), Legislative Guide on Insolvency Law (United Nations, New York, 2005);

What then are the important issues to consider in such a comparison? A first must be the priority that an insolvency regime gives to rescue. Is, for instance, insolvency law seen merely as a means of debt collection for creditors or does it place importance on rescue to the extent that creditors’ rights are placed on the procedural back burner or even modified? Can the regime be said to be creditor or debtor friendly?137 Does it, for example, involve a moratorium on the enforcement of creditors’ rights and does it allow broad access to the rescue process? A second issue is whether the regime is fault-based. Does it, for instance, treat the directors as responsible for corporate troubles to the extent that they are seen as blameworthy and in need of tight regulation and monitoring?138 Does it give priority to setting down heavy penalties for directors who misbehave?

A third key consideration relates to the managerial and oversight functions within rescue processes and to whom these are allocated. Regimes may be placed under the control of the courts, the directors, independent professionals or even the market, and they will have quite different characteristics. A court-driven rescue approach, for instance, will tend to be characterised by formality but alternative rescue regimes will rely more heavily on contractual or negotiated forms of dealing.

A fourth issue is whether the rescue process as a whole is focused or diverse. A focused process will rely on a small number of procedures and gateways to rescue whereas the diverse system of rescue may involve a host of different processes and philosophies.

Finally, an important comparative dimension is the financial context within which rescues operate. Rescue opportunities and processes may be heavily influenced by the structures that are available in a jurisdiction for raising corporate finances. Here the informal conventions governing such matters as banking arrangements may be as important as formal statutory structures. A further issue is how the law of a country or its

W. McBryde, A. Flessner and S. Kortmann, Principles of European Insolvency Law (Kluwer, Deventer, 2003).

137On creditor-oriented and debtor-oriented regimes, their comparative efficiency and the governance structures of firms see Franken, ‘Creditor and Debtor Oriented Corporate Bankruptcy Regimes’.

138Hunter contrasts a ‘rescue culture’ – marked by a bias in favour of preserving businesses – with old notions ‘that the insolvent trader should be regarded as morally defective, and that individuals, partnerships and corporations who or which cannot pay their debts must, as part of the settled scheme of things, be made bankrupt or wound up’: Hunter, ‘Nature and Functions of a Rescue Culture’, p. 499.

278 the quest for turnaround

bankers makes provision for funding within the rescue context: is, indeed, any special regime available for rescue purposes?

We will see, in the chapters that follow, that present English rescue procedures might be portrayed as giving strong priority to the protection of creditor interests and limited priority to rescue; as quite heavily faultbased and oriented to the control of errant directorial conduct; and as reliant on strong supervision of directors by independent insolvency practitioners and the courts. The English system is also quite diverse in so far as a number of rescue processes and gateways (informal and formal) may have relevance to a troubled company and it is set within a financial system that strongly favours the secured creditor.

The corporate insolvency regime encountered in the USA offers a set of contrasting characteristics and it is worth outlining these, as well as noting the alleged strengths and weaknesses of the US approach.139 Chapter 11 of the United States Bankruptcy Code (dating from the Bankruptcy Reform Act 1978) is a ‘reorganisation’ procedure whose policy objective is strongly oriented to the avoidance of the social costs of liquidation and the retention of the corporate operation as a going concern.140 There is no requirement that the debtor be insolvent or near insolvent in order to apply for Chapter 11 protection: the process is an instrument for debtor relief, not a remedy for creditors.141 As in England,

139Chapter 7 of the US Bankruptcy Code is the most common form of bankruptcy. It is a liquidation proceeding in which the debtor’s non-exempt assets are sold by the Chapter 7 trustee and the proceeds distributed according to the Code’s priorities. It is available for individuals, couples, partnerships and corporations.

140For comparison of Chapter 11 with the UK law see G. McCormack, ‘Control and Corporate Rescue – An Anglo-American Evaluation’ (2007) 56 ICLQ 515; McCormack, ‘Super-priority New Financing and Corporate Rescue’ [2007] JBL 701; J. Armour, B. Cheffins and D. Skeel, ‘Corporate Ownership Structure and the Evolution of Bankruptcy Law’ (2002) 55 Vand. L Rev. 1699; R. Broude, ‘How the Rescue Culture Came to the United States and the Myths that Surround Chapter 11’ (2001) 16 IL&P 194; J. L. Westbrook, ‘A Comparison of Bankruptcy Reorganisation in the US with Administration Procedure in the UK’ (1990) 6 IL&P 86; G. Moss, ‘Chapter 11: An

Englis h Lawyer’ s C r i ti q u e ’ ( 19 98) 11 Inso lvency Intell igence 17 ; M os Bankruptcy Cultures: Rescue or Liquidations? Comparisons of Trends in National

Law – England’ (1997) 23 Brooklyn Journal of International Law 115; R. Connell,

‘Chapter 11: The UK Dimension’ (1990) 6 IL&P 90; Carruthers and Halliday, Rescuing Business, ch. 11; J. Franks and W. Torous, ‘Lessons from a Comparison of US and UK Insolvency Codes’ in J. S. Bhandari and L. A. Weiss (eds.), Corporate Bankruptcy: Economic and Legal Perspectives (Cambridge University Press, Cambridge, 1996).

141See generally P. Lewis, ‘Corporate Rescue Law in the United States’ in Gromek Broc and Parry, Corporate Rescue, p. 333.

a central purpose of the process is to preserve the value of the enterprise where this is likely to be greater than the liquidation value. Chapter 11 is, however, to English eyes highly sympathetic to the debtor, almost always started by a voluntary petition by the debtor and marked by the following characteristics.

There is an automatic moratorium or stay on enforcement of claims against the company and its property. This is triggered by the filing of a Chapter 11 petition. Secured creditors and landlords will usually initiate court action to seek to lift the stay but the moratorium will be upheld if the court finds that the debtor has provided the creditor with ‘adequate protection’ of their property interests. (This usually consists of periodic payments.) The debtor, in turn, must seek court permission to use cash as he is subject to a lien. Such issues, however, are often resolved by the parties by means of an agreement that is approved by the court. There is provision in Chapter 11 for ‘cramdown’ whereby a plan that is confirmed by the court may be imposed on a class of objecting creditors. (Generally a secured class may be crammed down if it receives the value of its collateral plus interest.) Objecting creditors are shielded by the ‘best interest’ test under which the court must be satisfied that each objecting creditor will receive, under the plan, as much as they would in liquidation. There is, in addition, a ‘feasibility’ test under which the court must find that the debtor is reasonably likely to be able to perform the promises it makes in the plan. It is nevertheless the case that in US law prior legal rights may be more dramatically affected than in England in order to effect a reorganisation and a new start for the company. Even unliquidated and unaccrued liabilities, for instance, can be restructured and constrained in Chapter 11.142 In English administration there is no division of creditors into classes and there is nothing equivalent to the US notion of class cram-down.

An important cultural difference between England and the USA concerns the issue of fault, as Moss has observed:

In England insolvency, including corporate insolvency, is regarded as a disgrace. The stigma has to some extent worn off but it is nevertheless still there as a reality. In the United States business failure is very often thought of as a misfortune rather than wrongdoing. In England the judicial bias towards creditors reflects a general social attitude which is

142Westbrook, ‘Comparison of Bankruptcy’, p. 89. On the effect of the US Bankruptcy Abuse Prevention and Consumer Protection Act 2005 (BAPCPA 2005) see Lewis, ‘Corporate Rescue Law in the US’.

inclined to punish risk takers when the risks go wrong and side with creditors who lose out. The United States is still in spirit a pioneering country where the taking of risks is thought to be a good thing and creditors are perceived as being greedy.143

This cultural difference is reflected in the allocation of managerial and control functions. Under Chapter 11, the pre-petition management may remain in control throughout the proceedings,144 though in law the bankruptcy estate vests not in the debtor company but in a separate conceptual entity: the debtor in possession (DIP).145 The DIP is akin to a

143Moss, ‘Chapter 11’, p. 18; see also Carruthers and Halliday, Rescuing Business, p. 246; Westbrook, ‘Comparison of Bankruptcy’, p. 143, who argues that in the USA business failure is more readily seen as ‘the inevitable downside of entrepreneurship and risk’. See also M. Draper, ‘Taking a Leaf out of Chapter 11?’ (1991) 17 Law Society Gazette 28.

144The debtor in possession can, however, be a team of corporate salvage experts employed to reorganise the company or a new management team appointed after the financial troubles have started. In practice figures suggest that considerably more than half of US managers lose their jobs within two years of filing for Chapter 11, a stark contrast with the normal turnover figure of around 6–10 per cent per two years: see Broude, ‘How the Rescue Culture Came to the United States’; K. Ayotte and E. Morrison, ‘Creditor Control and Conflict in Chapter 11’ (8 January 2008), Columbia University Center for Law and Economics Studies, Research Paper Series No. 321 (available at http://ssrn.com/abstract=1081661) – 80 per cent of CEOs were replaced before or soon after bankruptcy filing (in a sample studied of privately and publicly held business that filed for Chapter 11 in 2001). Stuart Gilson of Harvard Business School has also been quoted as stating that around 80 per cent of chief

executives and a high proportion of senior managers lose their jobs in a Chapter 11

‘Lessons from a Comparison’, pp. 459–60. On the difficulties of replacing poor managers in DIP regimes see L. LoPucki, ‘The Debtor in Full Control – System Failure Under Chapter 11 of the Bankruptcy Code (First and Second Installments)’ (1983) 57 Am. Bankruptcy LJ 99 and 247; M. Bradley and M. Rosenzweig, ‘The Untenable Case for Chapter 11’ (1992) 101 Yale LJ 1043.

145 See Brown, Corporate Rescue, pp. 753–5. On DIP systems and their merits/demerits see D. Hahn, ‘Concentrated Ownership and Control of Corporate Reorganisations’ [2004] 4 JCLS 117; McCormack, ‘Control and Corporate Rescue’; R. Nimmer and R. Feinberg, ‘Chapter 11 Business Governance: Fiduciary Duties, Business Judgement, Trustees and Exclusivity’ (1989) 6 Bankruptcy Development Journal 1; E. Adams, ‘Governance in Chapter 11 Reorganisations: Reducing Costs, Improving Results’ (1993) 73 Boston University LR 581; L. LoPucki and G. Triantis, ‘A Systems Approach to Comparing US and Canadian Reorganization of Financially Distressed Companies’ in J. Ziegel (ed),

Current Developments in International and Comparative Corporate Insolvency Law

(Clarendon Press, Oxford, 1994); D. Boshkoff and R. McKinney, ‘The Future of Chapter 11’ (1995) 8 Insolvency Intelligence 6; Franks and Torous, ‘Lessons from a Comparison’; Broude, ‘How the Rescue Culture Came to the United States’.

England for attracting new finance in times of trouble by means of statutory super-priority funding arrangements.

The part to be played by a company’s shareholders also differs somewhat in the USA and England, and again reflects differing attitudes to corporate distress. In the USA, the shareholders have historically been given a role in rescue proceedings, although this influence may be waning.150 The inclusion of shareholders has been said to flow from a commitment to the entrepreneurial ethic and, again, a belief that financial troubles often stem from external forces. It produced an emphasis on preserving not merely the business but the troubled company itself. In England, the tendency is to view the prior shareholders as at least in part responsible for the company’s troubles (along with their directors) and to have interests that can be treated as having expired once a formal legal insolvency proceeding has started. The products of rescues tend to reflect this divergence of approach. In England most insolvency practitioners tend to look to sell the business but in the USA it can be the case that a rescue produces an agreed composition between the company and its creditors with the former equity owners keeping some ownership.

The parts played by professionals also differ. In English administrations a key individual is the insolvency practitioner. This is the person who, rather than the directors, runs the rescue operation. Rescues under the English system tend to be dominated by a small number of Londonbased specialist accountants. In the US system, with its DIP regime, bankruptcy tends to be locally operated and to involve lawyers rather than accountants.

The level of court supervision involved in the rescue process is also linked to the above factors. In English administration (before and after the Enterprise Act 2002) the central role of the independent insolvency practitioner means that little court supervision is required. In the USA the power of the DIP and the possibility of cram-down are balanced by

150Ayotte and Morrison, ‘Creditor Control’, argue that creditor control is pervasive and that in contrast to the traditional view of Chapter 11, equity holders and managers exercise little or no leverage during the reconstruction process. On secured credit and control rights in Chapter 11 see G. McGlaun, ‘Lender Control in Chapter 11: Empirical Evidence’ (5 February 2007), available at http://ssrn.com/abstract=961365. For an analysis of those who control Chapter 11 (formally and functionally) see S. Lubben, ‘The New and Improved Chapter 11’ (30 November 2004), Seton Hall Public Law Research Paper No. 2.

considerable court protections for creditors in the reorganisation. In short, the US regime is closely regulated by the Bankruptcy Court whereas English administration relies more heavily on the administrator’s discretion and the agreement of the creditors.

In terms of legal focus, the US rescue system is concentrated on the Chapter 11 reorganisation, whereas in England a number of insolvency processes possess a rescue function: notably schemes of arrangements under sections 895–9 of the Companies Act 2006, company voluntary arrangements under the Insolvency Act 1986, and administrations. As will be seen below, the use of a variety of procedures raises issues of consistency and coherence in the English system.

Finally, note should be taken of the different financial contexts within which the Chapter 11 and English rescue procedures operate. In England it is usual for companies to raise a good portion of their capital by resort to bank loans secured by floating charges. This is consistent with English judicial and legislative policy which encourages financing through secured loans at interest rates that are reduced by giving secured creditors high levels of protection. In the USA, financing is more often achieved through the bond market and the secured creditor ‘does not enjoy the general sympathy of the public or the courts’.151 Where credit is obtained contractually through hire purchase or retention of title arrangements, the English courts tend to approach rights issues with a high respect for the sanctity of contract, whereas US courts look more directly to the need to protect parties collectively in a rescue scenario.

Chapter 11 procedures have been criticised on a number of fronts.152 A first concern has been the delay and expense involved. Delay is inevitable since Chapter 11 gives debtors 120 days after filing so as to propose a reorganisation plan. This is followed by sixty further days to obtain creditor and shareholder approval. Extensions to such periods have in the past been frequent and it was usual for creditors to be held at bay for one or more years. The Bankruptcy Abuse Prevention and

151Moss, ‘Chapter 11’, p. 18.

152On Chapter 11 and its weaknesses see e.g. ‘Symposium on the Future of Chapter 11’, Boston College Law School Working Paper 134 (Boston College, Boston, 2005); LoPucki and Triantis, ‘Systems Approach’; Bradley and Rosenzweig, ‘Untenable Case for Chapter 11’; Boshkoff and McKinney, ‘Future of Chapter 11’; M. Galen with C. Yang, ‘A New Page for Chapter 11?’ Business Week, 25 January 1993, p. 2; Brown,

Corporate Rescue, pp. 768–72.

Consumer Protection Act (BAPCPA) 2005, however, prohibits extensions of the debtor’s exclusive period in which to file a Chapter 11 plan beyond eighteen months after the start of Chapter 11 proceedings (plus two extra months to permit solicitation).153

Why do Chapter 11 cases take so long to process?154 A major reason is that the professionals have few incentives to act quickly. Chapter 11 is based on judicial oversight and lawyers’ fees accordingly tend to be very considerable. Under the old Bankruptcy Code, courts linked such fees to creditors’ returns, but the present regime allows market rates to be charged for services rendered.155 The BAPCPA 2005 amendments, however, sought to address some of these issues and bankruptcy judges are now charged to manage the case actively to reduce cost and delay. This includes holding ‘status conferences’ as are ‘necessary to further the expeditious and economical resolution of the case’.156

The expenses of litigation tend, furthermore, to be fuelled where the DIP approach leaves managers in control of a company since this may produce a lack of trust between creditors and management: a position that often gives rise to litigation that stands to be paid for out of the estate.

The US judges could place Chapter 11 processes under a tighter rein, but bankruptcy judges are ill-placed to do this because of their workloads. In any event, judges who are in doubt about a Chapter 11 case have tended to opt for the line of least resistance, which was to give the parties more time to think, often granting significant extensions, sometimes of periods of over two years. As for shareholders, their inclination will tend to be to wait rather than liquidate since they have little to lose by this. As for workforces, the indications are that firms tend to have shed half of their workers before a plan is confirmed. These results have prompted some commentators to argue that the millions and millions of dollars

153For a critique of the BAPCPA 2005 reforms see G. Lee and J. Bannister, ‘Taming the Beast’ (2005) 21 Sweet & Maxwell’s Company Law Newsletter 1. See also A. Kornberg,

‘The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 – A Primer on Those Changes Affecting Business Bankruptcies’ (2006) 3 International Corporate Rescue 33.

154Note Justice Small’s ‘Fast Track Chapter 11’: see Boshkoff and McKinney, ‘Future of Chapter 11’.

155See Galen, ‘A New Page for Chapter 11?’, p. 3. For a recent and comprehensive empirical study of professional fees in Chapter 11 see S. Lubben, ‘ABI Chapter 11 Professional Fee Study’ (1 December 2007), Seton Hall Public Law Research Paper No. 1020477, available at http://ssrn.com/abstract=1020477.

15611 USC s. 105(d)(1). See further Lewis, ‘Corporate Rescue Law in the US’.

spent on lawyers and accountants might have been better used to repay creditors through swifter liquidations.157

The utility of Chapter 11 for small companies has been particularly subjected to question. The National Bankruptcy Review Commission argued in 2000 that for small firms Chapter 11 is too long and costly. This line of argument is supported by statistics that reveal that Chapter 11 produces a far higher success rate for large firms than for small firms.158

Lengthy Chapter 11 proceedings give rise to further concerns. One often-voiced comment is that unhealthy distortions of competition can result in some markets. It has thus been argued that when seven US airlines filed for Chapter 11 protection in the 1990s they were able to keep capacity levels artificially high and slash fares to below-cost levels (since their creditors could not enforce). The healthy competitors of these airlines were, as a result, placed under extreme and unfair financial pressures.159 The effect of long Chapter 11 moratoria has also been said to prevent insolvency law from fulfilling an important function: the weeding out of companies who use resources inefficiently so as to allow the redeployment of those resources for more efficient uses and to leave

157See Bradley and Rosenzweig, ‘Untenable Case for Chapter 11’. On studies confirming a sharp increase (between 1994 and 2002) in the use of Chapter 11 for liquidation but which nevertheless report that ‘equity owners still retain an interest going forward in a majority of cases’, see J. Westbrook and E. Warren, ‘Chapter 11: Conventional Wisdom and Reality’ University of Texas Law, Public Law Research Paper No. 125, available at http://ssrn.com/abstract=1009242.

158A study by Edith Hotchkiss at Boston College, Massachusetts, examined 200 public companies that emerged from Chapter 11. She found 40 per cent to suffer from operating losses for the next three years and a third of the sample had to restructure their debt a second time, often under court protection: reported in Financial Times, 3 October 2001. Note, however, that amendments were made to small business bankruptcy cases by the BAPCPA 2005, e.g. the small business debtor now has a 180-day exclusivity period (50 per cent longer than the 120-day norm for other Chapter 11 cases): see Lewis, ‘Corporate Rescue in the US’.

159See C. Daniel, ‘Airlines Seek Shelter in a Storm’, Financial Times, 19 October 2004; Galen, ‘A New Page for Chapter 11?’ p. 2. Franks and Torous also note ‘serious concern’ in the USA that Chapter 11 is used by some firms to secure competitive advantages: see Franks and Torous, ‘Lessons from a Comparison’, p. 463. Broude, however, cautions that a Chapter 11 filing may fail to produce a competitive advantage because, even when it reduces costs, it affects sales and market positions: ‘you’ll think twice before buying a laptop made or sold by a company that is in Chapter 11’ (‘How the Rescue Culture Came to the United States’, p. 197). Other commentators have recounted how airlines in Chapter 11 in the early 1990s (for example, Continental, Pan American, Eastern) found that the Chapter 11 stigma discouraged passengers: ‘Going Bust for Survival’, Financial Times, 3 October 2001.

the field to those firms who are able to act efficiently. Here there is a contrast with the Canadian Companies’ Creditors Arrangement Act (CCAA) under which the courts are more likely to terminate reorganisation proceedings at an early stage: for example, on failure to gain a creditors’ vote.160

The DIP regime gives further grounds for concern. An important worry is that Chapter 11 allows existing managers to trigger the process. This renders Chapter 11 open to abuse as a device employed not for genuine reasons of reorganisation but in order to reap a market advantage or for another purpose. It has been suggested that Chapter 11 is open to use, inter alia, to settle tort liabilities or legal judgments; to reduce labour costs; to reject pensions obligations; or to resolve environmental damage liabilities.161 The absence of an early scrutiny of the reorganisation plans by an independent professional (as in English administration) or a court (as in Canada) means, first, that ‘abuses’ of Chapter 11 for tactical reasons are not picked up and, second, that proposals that have no real chance of success are allowed to run. The latter scenario means that the early liquidation of non-viable companies is prevented. Where, as in Canada, there is more aggressive court screening of applications for protection, this not only brings more rapid liquidation in hopeless cases but also encourages the firm’s managers to produce and disseminate, at an early date, a body of information about the financial condition of a debtor and a reasoned case for the proposal. This points to a further difficulty of DIP. It is the debtor who draws up financial statements in order to file for Chapter 11 and such a debtor may be liable to present a misleading picture of the company’s profitability. Chapter 11 procedures

160See G. Triantis, ‘The Interplay between Liquidation and Reorganisation in Bankruptcy: The Role of Screens, Gatekeepers and Guillotines’ (1996) 16 International Review of Law and Economics 101 at 112. The BAPCPA 2005, as noted above, limited the DIP’s ability to obtain potentially unlimited extensions to its initial 120-day exclusive period to file a plan: s. 1121(d) states that the period cannot extend beyond eighteen months from the order for relief. On corporate rescue procedures in Canada see Brown, Corporate Rescue, ch. 24; ‘CCAA v Chapter 11’, Cassels Brock, Business Reorganization Group e-communiqué, vol. 9, no. 5, June 2005. Canadian bankruptcy law has been undergoing reform: the amending Bill-C12 received the Royal Assent on 14 December 2007 and the new laws are predicted to come into force in December 2008.

161See C arruthers and H allidayRes c, uing B usin es s, p. 266, and K. Delaney, Strategic Bankruptcy: How Corporations and Creditors Use Chapter 11 to their Advantage

can be criticised as not creating, as in Canada, scrutiny processes that will favour the production of early, accurate information. This, in turn, conduces to a lack of trust and to higher litigation costs.

A further worry about Chapter 11 may seem exaggerated. To leave the old managers at the helm of a firm may be ‘like leaving an alcoholic in charge of a pub’162 but corporate troubles do not always stem from mismanagement and, where managers have performed poorly, creditor pressure in the USA will tend to have resulted in the introduction of new managers at an early stage of the reorganisation. The Chapter 11 process, as has been noted, tends to be associated with high managerial turnover and ‘is not a safe haven for management’.163

In other respects, however, there may be cause for concern about the role of the managers under Chapter 11. Some commentators argue that such managers are poorly disciplined by the Chapter 11 regime.164 A key objective of Chapter 11 is to solve problems of financial distress but the regime may be so soft on managers that it fails to correct the underlying inefficiencies of which the financial distress was a mere manifestation. If a regime gives strong rights to creditors (as English insolvency law does) those creditors will have an incentive to monitor managers and will be able to punish managerial slackness by demanding changes of underperforming staff. The same creditors will be able to prompt restructuring and asset divestments that enhance efficiency. Managers, in short, will be kept on their toes by the looming presence of the empowered creditor.165 Chapter 11 may be said to blunt this disciplinary role of creditors by its orientation towards rescue rather than enforcement.

This point can, however, be exaggerated. As already noted, creditors in the USA can bring pressure to bear so as to institute managerial changes, and a number of other factors may give managers an incentive to act efficiently. Firms may operate salary schemes that incentivise efficiency, shareholders may monitor managers, and the market for corporate control, as well as that for managerial talent, may again create healthy

162Moss, ‘Chapter 11’, p. 19. For a comparison of the UK’s management replacing scheme and the US’s DIP approach see McCormack, ‘Control and Corporate Rescue’.

163Carruthers and Halliday, Rescuing Business, p. 265; S. Gilson, ‘Management Turnover and Financial Distress’ (1989) 25 Journal of Financial Economics 241; LoPucki and Whitford, ‘Corporate Governance’; Broude, ‘How the Rescue Culture Came to the United States’.

164See e.g. Triantis, ‘Interplay between Liquidation and Reorganisation’, p. 104.

165Ibid.

incentives.166 In relation to one worry, though, it is less easy to find reassurance. Chapter 11 may induce even operationally efficient managers to run unjustifiably high business risks. Within Chapter 11 the managers are liable to identify their interests with those of the equity holders and may be likely to indulge in speculative business actions. If these succeed, the benefits will flow to the shareholders but, if they fail, the creditors will bear the losses and the reorganised estate reduces in value. Managers have little to lose from such high-risk activity. In one reported US case the company officials sought to save the business by resorting to the gaming tables of Las Vegas.167

From an English perspective, there are perhaps three final reservations about Chapter 11.168 The first is that the US Code gives the shareholders some role in the rescue process. Moss argues: ‘Where in reality there is nothing properly left for shareholders this seems to enable them to use blocking tactics so as to extract value from the situation in which equitably they should receive none.’169 It should be noted, however, that Chapter 11 is a procedure which is not triggered by insolvency or near insolvency, and it may accordingly be responded that shareholders do have a genuine interest until the point of insolvency arises. A way out of this problem would be to provide that where a Chapter 11 filing does happen to involve a company that is in insolvency or likely to become insolvent, the court should be empowered to reduce the role of the shareholders. A second reservation about Chapter 11 concerns the latter’s complex system of classes: a system designed to offer protection to creditors who may suffer from cram-down. The US classes regime makes for a drawn-out process that is legalistic and does not conduce to the quick sale of a going concern: a position that sits oddly with Chapter 11’s strong rescue orientation.170

166The BAPCPA 2005 introduced new scrutiny over, and limitations on, the circumstances in which debtors may pay senior managers bonuses (or KERPs – Key Employee Retention Plans) in order to induce them to remain with the company. The hope was to stop managers rewarding themselves excessively for working through Chapter 11 and to link any bonuses closely to the requirements of the company: see Lee and Bannister, ‘Taming the Beast’, p. 2. On posited unintended consequences of the reforms – ‘The law reduces both the carrots given to managers and the sticks they wield without putting much in their place’ – see Gapper, ‘The Danger of Rewriting Chapter 11’.

167Re Tri-State Paving, discussed in Boshkoff and McKinney, ‘Future of Chapter 11’.

168See Moss, ‘Chapter 11’. 169 Ibid., p. 18.

170For a view that Chapter 11 has lost its role as a device for the protection of equity, see J. Ayer, ‘Goodbye to Chapter 11: The End of Business Bankruptcy as We Know It’ (Mimeo, Institute of Advanced Legal S tudies, 2 001).

A final ‘English’ worry may relate to the tension in Chapter 11 between rescue of a company and rescue of a business. Preservation of the company may reflect a US concern to encourage investment in entrepreneurial enterprises but in England more emphasis might be placed on saving the business, preserving employment and protecting the wider business community from the fallout of an insolvency. English administrative receivership was (and still is where applicable)171 well suited to rescuing the business alone and indeed, the post-Enterprise Act 2002 administration procedure prioritises rescuing the business in those circumstances where this will lead to a better result to creditors as a whole than either rescuing the company as a going concern or effecting a winding up.172 There may, moreover, be good grounds for adopting this position, one of which may be that shareholders are liable to be lowercost risk bearers than employees or business partners since, inter alia, they are liable to be able to spread risks and absorb losses more efficiently than the latter.

A look at the US position should not, however, blind us to the approaches that other jurisdictions adopt, nor should lessons be learned exclusively from the US experience. Other countries have their own special characteristics.173 The South African system, for instance, relies very heavily on judicial supervision.174 There is no floating charge in South Africa and no receivership, but the regime of judicial management involves the court appointment of an insolvency practitioner to take control of the business with the object of paying the company’s debts and restoring the company to financial success. The process involves the courts throughout, with the master supervising the judicial manager and even calling creditors’ meetings. The narrowness and expertise of this

171See Insolvency Act 1986 ss. 72A, 72B–72G and further ch. 8 below.

172See Insolvency Act 1986 Sch. B1, para. 3’s ‘hierarchy of objectives’: M. Phillips and J. Goldring, ‘Rescue and Reconstruction’ (2002) Insolvency Intelligence 76. The effect of

these provisions is that the administrator is not obliged to rescue the company at all costs – rescuing the company (as a going concern) gives way to other arrangements (e.g. rescue of the business or part thereof) if these would give a better result to creditors as a whole (see para. 3(3)(b)). On rescuing the business within the company and rescuing a ‘balance sheet insolvent company’ see further R. Stevens, ‘Security after the Enterprise Act’ in J. Getzler and J. Payne (eds.), Company Charges: Spectrum and Beyond (Oxford University Press, Oxford, 2006) pp. 155–7.

173See Sealy, ‘Corporate Rescue Procedures’.

174On reform developments see further A. Loubser, ‘South African Corporate Rescue’ in Gromek Broc and Parry, Corporate Rescue, pp. 316–17. See also p. 315, where the author reviews the failings of judicial management as ‘highlighted in a substantial number of publications’.

process has led most lawyers and businessmen to prefer to use the scheme of arrangement procedure that resembles that set out in the English Companies Act 2006 ss. 895–9.175

Many noteworthy features are, of course, shared by different regimes. The French and German systems, for instance, have a single entry point to the insolvency process and the company is then assessed for the most appropriate outcome.176 This contrasts with the English system in which rescue procedures may be triggered by directors, floating charge holders or creditors according to a number of procedures. In some countries the rescue mechanism is triggered by petition to the court with the company having to be insolvent (as, for example, in Australia)177 or likely to be insolvent (for example, in Germany and Ireland). In England there is a requirement of likely insolvency for some procedures, but the US Chapter 11 involves no requirement of current or near insolvency at all.178

Countries vary on the priority they give to rescue and the balance they effect between creditor and debtor interests. In Japan, for instance, equity and employees are a primary consideration and informal rescues rather than legal bankruptcy procedures are the norm.179 Banks and trading partners with shares will usually attempt to effect a rescue, and commitments over a number of years are not uncommon. If, however, matters are resolved in court, the legal process looks to give returns to creditors. In Germany there is also a strong emphasis on the informal resolution of

175See Close Corporations Act 69 of 1984 s. 72: a special composition procedure that is more suitable for small businesses, being straightforward and less costly than judicial management. See Loubser, ‘South African Corporate Rescue’, p. 315.

176IS 2000, p. 39. On German insolvency reforms see E. Ehlers, ‘Statutory Corporate

by the German Parliament.) On French insolvency reforms see P. J. Omar, ‘Reforms to the Framework of Insolvency Law and Practice in France: 1999–2006’ in Gromek Broc and Parry, Corporate Rescue, p. 111.

177On Australia see A. Keay, ‘The Australian Voluntary Administration Regime’ (1996) 9 Insolvency Intelligence 41; Keay, ‘Australian Insolvency Law: The Latest Developments’ (1998) 11 Insolvency Intelligence 57; P. Lewis, ‘Trouble Down Under: Some Thoughts on the Australian–American Corporate Bankruptcy Divide’ [2001] Utah L Rev. 189; Corporate Insolvency Laws: A Stocktake (Australian Joint Committee on Corporations and Financial Services, 30 June 2004) paras. 5.3–5.41. The Corporations Amendment (Insolvency) Act 2007 implemented a range of changes including amendments (aimed at addressing several technical issues) to the voluntary administration procedures: see Sch. 4 of the 2007 Act, Fine-tuning voluntary administration.

178IS 2000, p. 39.

179Brown, Corporate Rescue, pp. 831–2. See also H. Oda, ‘Japan’s Case for Reform’,

Financial Times, 6 October 1998.

problems and staying out of court by relying on support from the banks. Creditors in Germany may opt either for a straight liquidation, for a reorganisation or for a restructuring by transfer.180 Creditors can veto any plans drawn up by the court and firm, but shareholders play no part in the process.

In France the law used to be hard on creditors. In the redressement judiciaire process a court-appointed official will help managers to draw up a plan and the law is directed towards the securing of jobs by keeping troubled firms alive. Creditors have no say over which plan the court accepts and the broad body of creditors have one representative (court-appointed) during negotiations. French law thus offers a stark contrast with English law which puts creditors first. The reforms of 2005, however, introduced a new rescue procedure – ‘preservation’ – where creditors are given a say in the approval of the rescue plan through the use of creditors’ committees but only, it must be said, regarding businesses above a certain threshold.

It has been noted that as far as running the formal rescue process is concerned, English law places the insolvency practitioner in a prime position, whereas Chapter 11 can give the DIP a central role. Bankers, as floating charge holders, are also given leading insolvency roles in New Zealand,181 Australia, Ireland and Sweden. The Irish and German regimes place the insolvency practitioner at centre stage, though in the glare of a judicial spotlight, and creditors make the final decision. In France the courts make the key decisions. Voting arrangements also vary markedly across regimes.182 In English administration a simple majority of creditors (by value of claims) is required but in a company voluntary

arrangement or a scheme of arrangement a 75 per cent by value majority is required.183 In the USA a two-thirds majority of the value and number

is required, whereas in Germany it is a simple majority. In Irish examinations the majority has to be numerical, representing also a 75 per cent majority by value of claims represented at the creditors’ meeting. In France the court decides the final outcome, and in some countries (for

180See further Ehlers, ‘Statutory Corporate Rescue Proceedings in Germany’.

181See D. Brown, ‘Corporate Rescue in New Zealand’ in Gromek Broc and Parry, Corporate Rescue, p. 262: ‘Unlike the UK, New Zealand did not adopt the concept of an “administrative receiver” … the Receiverships Act 1993 (NZ) applies to all types of receiver, whether the grantor is personal or corporate, and whether out of court or appointed by the court.’

182See Omar, ‘Reforms to the Framework of Insolvency Law and Practice in France’; Brown, Corporate Rescue, chs. 24 and 25.

183A majority in number voting is also required in a CVA.