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ABI update 1: Restructuring Chapter 11

The USA’s Chapter 11 procedure has served as a model for insolvency and reorganisation legislation throughout the world. Recently, several European countries (such as Italy, Spain and Germany) have used Chapter 11 as an example for the enactment of their insolvency rescue proceedings. Despite its popularity however, Chapter 11 is currently subject to a study of reform, initiated by the American Bankruptcy Institute (ABI).

There appear to be a number of reasons for the reform of Chapter 11. First of all, the basic model of Chapter 11 was introduced in 1978. It assumes the presence of asset value above the secured debt, but asset value is often not present in many of today’s Chapter 11 cases: since the U.S. Bankruptcy Code’s enactment, there has been a marked increase in the use of secured credit, placing secured debt at all levels of the capital structure. The debt and capital structures of most debtor companies are more complex, with multiple levels of secured and unsecured debt, often governed by equally complex inter-creditor agreements.

Also, the market in the USA has changed. It is acknowledged that the growth of distressed debt markets and claims trading introduced another factor, which was absent when the 1978 Code was enacted. The nature of businesses has changed: Chapter 11 was developed in an era when the biggest employers were manufacturers with domestic operations. Today, many of the biggest employers are service companies. Many of the remaining American manufacturers are less dependent on hard assets, and more dependent on contracts and intellectual property as principal assets. The U.S. Bankruptcy Code does not clearly provide for the treatment of such assets and affected counterparties.

Furthermore, debtors are much more often multinational companies than 35 years ago, with the means of production and other operations offshore, constituting international law and choice of law implications. Today’s “debtor” is likely to be a group of related, often interdependent, entities.

Finally, the original intention of Chapter 11, being the rehabilitation of businesses, and the preservation of jobs and tax bases at the state, local and federal level, is eroded. Presently, the emphasis is “maximization of value” as an equal, sometimes competing or even exclusive goal, e.g. by using “fire sales” in the meaning of Section 365.

The ABI Commission deems it worthwhile to learn in what way certain countries have enacted their versions of certain topics in their legislation. It has therefore also been suggested establishing an Advisory Committee on Comparative Law with the task to report on developments regarding business financial distress in several countries, where it seems that their legislation has been inspired by “Chapter 11 as example”. Professor Bob Wessels is chairing the Committee, and will coordinate all the work with Dr. Rolef de Weijs, University of Amsterdam. The report will explain how the topics mentioned are dealt with in Austria, Australia, Belgium, Canada, France, Germany, Italy, Japan, Korea, the Netherlands, PR of China, Spain, England and Wales.