postings by Jason Kilborn

Merit v. FTI and the Missing Silver Bullet Argument?

posted by Jason Kilborn

On November 6, the Supreme Court will hear arguments in a case only a lawyer--and probably only a commercial or bankruptcy lawyer--could love, Merit Management Group v. FTI Consulting. Simplifying quite a bit, the issue is whether a payment by wire transfer (or presumably a check) is "made by" the bank who implements the funds transfer, or the customer who initiates the transfer. The issue arises from the safe harbor for securities contract-related settlement payments, insulating such transfers from avoidance (clawback) by a bankruptcy trustee, and the question whether a money transfer made by wire from the buyer of stock to the purchaser(s) was "made by or to ... a financial institution." 11 USC § 546(e). Several circuit courts have held the safe harbor applies even if the bank-transferor is a simple conduit, performing nothing more than the ministerial task of moving the money (so to speak) from buyer's account to seller's bank. The 7th Circuit held to the contrary in this case, noting that a letter might be said to be "sent by" either the sender or the Postal Service, but the former interpretation is more sensible and consonant with likely congressional intent in this context (again, vastly simplifying to prevent boring readers to death). 

Ordinarily I would leave it to those smarter than I to blog about these kinds of big-money cases, but after I was asked to write a little squib for the ABA about it, the extremely perceptive Henry Kevane of the famous insolvency firm Pachulski Stang in San Francisco saw my little piece and called me to ask about an argument relevant to the case. Did anyone point out, Henry asked me, that the definition of "financial institution" in section 101(22)(A) includes the bank's customer within the ambit of "financial institution" in cases where the bank is "acting as agent or custodian for a customer ... in connection with a securities contract"? Well, no, no one appears to have made this seemingly dispositive observation! A transferor bank implementing a wire transfer would certainly be acting as the customer's (account holder's) agent, and the whole point of the case is that the payment was made "in connection with a securities contract" (the same language in section 546(e)). If the Bankruptcy Code oddly defines the customer and the bank as both being a "financial institution" in this context, then regardless of who made the payment, it was made "by" and "to" a financial institution, since the same logic would apply on the recipient side, too. Hmmmmmmmm.

Continue reading "Merit v. FTI and the Missing Silver Bullet Argument?" »

A Quiet Revolution in Pension Reform

posted by Jason Kilborn

A historic vote was announced overnight that signals a new era for large pension reform. As is often the case, "reform" here means that ordinary, hard-working folks will suffer a significant amount of pain as big companies are relieved of some liabilities, but the hope is it will be less painful than the alternative. The revolution began in 2014, when Congress adopted the Multiemployer Pension Reform Act (MPRA).  The Pension Benefit Guaranty Corporation guarantees a portion of the benefits due to participants in pension plans that have become insolvent, but as a result, it is also facing a nearly $100 million shortfall in its ability to cover the projected volume of its existing guarantees. Congress attempted to avert disaster by allowing particularly large and especially distressed pension funds to slash benefits themselves in order to maintain solvency. Ordinarily, this extraordinary action would, if possible at all, require an insolvency filing and court oversight of some kind, but the MPRA allows plans who aggregate benefits for many companies (multiemployer plans) to apply to the Treasury Department for administrative permission to abrogate their pension agreements and cut benefits with no court filing or general reorganization proceeding. There are, of course, restrictions on the level of distress required for such a move and the degree of proposed cuts, but the MPRA allows large pension funds to reduce the pension benefits of thousands of beneficiaries with simple administrative approval. The plan participants get a vote on such proposals, but the law builds in a presumption: Treasury-approved cuts go into effect unless a majority of plan beneficiaries votes to reject the cuts.

Continue reading "A Quiet Revolution in Pension Reform" »

Old-Fashioned Insolvency Policy in India

posted by Jason Kilborn

It seems to me a sign of serious regulatory dysfunction when a government expressly uses bankruptcy law as a means of collection, rather than rescue or at least collective redress, with an aim to treating economic stagnation. I've seen several stories recently like this one, touting the new Indian insolvency law and government regulators' strategy of putting pressure on banks to use involuntary insolvency (creditors' petitions) to clean up the NPL problems of a series of major industrial firms. The notion that insolvency law is about collecting NPLs seems at best anachronistic, and likely at least a sign of major dysfunction in other law or policy.

The right way for one lender (including the government tax collector) to collect one defaulted loan is to engage an ordinary collections process (judgment enforcement)--which itself might well result in the sale of the company, as envisioned in the story linked above. Creditor-initiated bankruptcy/insolvency proceedings should be the nuclear option, engaged only when creditors are worried that the debtor's assets will be dissipated by other enforcing creditors before the later-in-time ones can reach the ordinary enforcement stage. Such cases should be rare. The primary users of modern insolvency law should be debtors responding to positive incentives to seek an orderly opportunity for a global renegotiation of their debts, or an orderly way for the governors of those companies to liquidate and redeploy the assets of their companies more effectively--avoiding in the process a protracted battle about their own liabilities as personal guarantors and/or as directors liable for "insolvent trading." 

The subtext of the stories I've seen about the new Indian insolvency law seem to be (1) it does not provide an adequate incentive for debtor-companies to seek either rehabilitation or orderly liquidation when they realize they're in obvious financial distress, (2) the ordinary collections apparatus in India must be totally dysfunctional if banks have no incentive to engage it to deal with their NPLs, (3) the new insolvency law also provides an inadequate incentive for creditors to engage it to seek collective redress, since the government has to put pressure on banks to do so, and (4) all of the work on proper, modern insolvency policy in recent years by UNCITRAL, the IMF and World Bank, and many, many others has been lost on Indian regulators. Especially in developing nations like India and South Africa, the battle over the appropriate, modern role of insolvency law as debtor-initiated rescue or exit, as opposed to old-fashioned creditor-initiated collections, continues to rage.

 

Dana Gas and an Existential Crisis for Islamic Finance

posted by Jason Kilborn

IslamicartThe very foundations of the Islamic finance world were shaken a few weeks ago when Dana Gas declared that $700 million of its Islamic bonds (sukuk) were invalid and obtained a preliminary injunction against creditor enforcement from a court in the UAE emirate of Sharjah. Like Marblegate on steriods, Dana made this announcement as a prelude to an exchange offer, proposing that creditors accept new, compliant bonds with a return less than half that offered by the earlier issuance.

Dana shockingly claimed that evolving standards of Islamic finance had rendered its earlier bonds unlawful under current interpretation of the Islamic prohibition on interest and the techniques Dana had used to issue bonds carrying an interest-like investment return. I had expected to read that Dana had used an aggressive structure like tawarruq (sometimes called commodity murabahah) that pushed the boundaries of what the Islamic finance world generally countenanced, but no. The structure Dana had used was totally mainstream, a partnership structure called mudarabah. Dana asserted that the mudarabah structure had been superseded by other structures, such as a leasing arrangement called ijarah, though in Islamic law as in other legal families, there are often multiple permissible ways of achieving a goal, not just one. And when an issuer prepares an Islamic finance structure like this, it invariably gets a sign-off from a shariah-compliance board of respected Islamic law experts (sometimes several such boards). For Dana Gas to suggest that its earlier board was wrong to the tune of $700 million, or worse yet that Islamic law had somehow changed in a few years through an abrupt alteration of opinion by the world of respected Islamic scholars is ... troubling.

Continue reading "Dana Gas and an Existential Crisis for Islamic Finance" »

Plain Meaning Rolls On in Gorsuch's First [Credit Related] Opinion

posted by Jason Kilborn

It was not at all surprising that, for his first (traditionally unanimous) opinion, in Henson v. Santander, the new Justice Gorsuch took on the relatively simple and low-key issue of the definition of "debt collector" in the Fair Debt Collection Practices Act. It was also not surprising that he hewed quite closely to the approach of his predecessor in basing his decision on the "plain meaning" of the words in the statute, complete with grammatical analysis of past participles and participial adjectives (the example adduced, "burnt toast," might describe how the consumer protection industry will view this latest ruling). The FDCPA is as simple as it appears, the Court confirmed:  if you're collecting a (consumer) debt owed to someone else, then you're a debt collector; if you're collecting on a debt owed to you, for your own account, you're not a debt collector, even if, as in Santander's case, you bought the debt from the original creditor with the intention of collecting it for an arbitrage profit later. The notion that Congress did not foresee the debt buying industry and its explosive growth when it wrote the FDCPA in the 1960s, and it certainly would have wanted to constrain abusive collections practices by debt buyers as much as by debt collectors was ... wait for it ... a matter for the present Congress to clarify. You can almost see Scalia whispering in Gorsuch's (or his clerk's) ear as the opinion is drafted. Well, at least there's something to be said for predictability.

New Museum of Failure

posted by Jason Kilborn

A new Museum of Failure in Sweden stands as a tribute to the notion that failure is just an opportunity for learning, powering growth and future innovation. I thought no group could appreciate that as much as Credit Slips readers. Europe is still in the process of shaking off its ages old stigma with respect to failure, especially in the context of individual entrepreneurialism. It's amazing how difficult real reform of both business and personal insolvency law has been and continues to be there (and elsewhere outside the Anglo-American world). I've long thought that shaking off these hangups, embracing failure, and facilitating fresh innovation are among the core attitudes that have made America great. Three cheers for failure!

New ABI Commission on Consumer Bankruptcy

posted by Jason Kilborn

The American Bankruptcy Institute announced this morning that it has convened a commission to study and propose reforms of the US consumer bankruptcy system. In light of the success of ABI's Chapter 11 commission, we can expect big things from this commission on Chapters 7 and 13. Some major names in consumer bankruptcy are among the 15 members of the commission, and Credit Slips is well represented, with Bob Lawless as Reporter and Katie Porter on the membership roster, along with one more super-prominent academic, professor-cum-judge-cum-professor Bruce Markell, now of Northwestern. I wish the commission had consulted Bob about its name. He would have pointed to his empirical work on small business debtors to suggest that this be called a personal bankruptcy commission, rather than consumer, but perhaps the inclusion of a good deal of small business debtors and business-related debts is taken as a given. Anyway, best wishes to the commission--we'll eagerly await its first reports and calls for comments!

What to Expect From Justice-To-Be Gorsuch on Bankruptcy

posted by Jason Kilborn

When I heard that the President had nominated 10th Circuit Judge Neil Gorsuch for the Supreme Court, I wondered what his bankruptcy-related opinions might tell us about him. Bill Rochelle beat me to it, with his characteristically insightful analysis of a few salient Gorsuch opinions. But I found three more that I thought worth highlighting, as well. A simple takeaway from all of these cases is that Gorsuch is not at all what one might call “debtor-friendly.” In fact, I don’t think one of the dozen-or-so opinions I found ruled in favor of the debtor(s). But a more nuanced takeaway is that Gorsuch is a careful and serious jurist who will apply the letter of the law in tight and cleverly written opinions. At least he should be fairly predictable, a virtue that the person who nominated Judge Gorsuch does not share.

Continue reading "What to Expect From Justice-To-Be Gorsuch on Bankruptcy" »

What's Wrong with the Bankruptcy Courts?

posted by Jason Kilborn

The Judiciary Data and Analysis Office of the Administrative Office of the US Courts has launched a new feature called "Just the Facts," highlighting statistical trends in the US judiciary. Table 2 and Chart 3 of the inaugural report reflect a curious spike in the appellate reversal rate in bankruptcy cases in 2015. While the reversal rate for both ordinary civil cases and bankruptcy cases in the Courts of Appeals had hovered steadily around 10-12% from 2011 to 2014, the reversal rate in bankruptcy cases suddenly shot up to double that, 24% (!), in 2015. It is not entirely clear to me whether this is reversal of the Bankruptcy Courts' rulings or the District Courts' rulings (it may be a bit of both, taking into account direct appeals, etc.), but in either case, whoa! Anyone have any idea what happened here? Why did the appellate courts get so mad at the lower courts in bankruptcy cases all of a sudden the year before last? I wonder if this continued in 2016. Lots of Stern reversals? Something else? Curious.

UPDATE 1/31/17: Bankruptcy statistics guru, Ed Flynn (whose fabulous work you've probably seen in the ABI Journal), helped me to understand that (1) the statistics referenced here (from Tables B-1 and B-5)  are for appeals from District Courts to Courts of Appeals, as BAP cases and District Court bankruptcy appeals are reported elsewhere (Tables BAP-1 and -2 and C-7, none of which indicates the numbers of reversals at these intermediate appeal levels), (2) the 110 merits reversals in 2015 come predominantly from the 11th Circuit and involve mostly one appellant, (3) we can probably now guess who it was and therefore what happened: Bank of America's appeals of wholly underwater second mortgage stripdown in Ch. 7  had to be granted (lower courts reversed) after the Supreme Court reversed the aberrant 11th Circuit position on allowing such stripdowns in Caulkett in mid-2015. Mystery most likely solved. Thanks, Ed!

Marblegate and a Dose of Reality for the Trust Indenture Act

posted by Jason Kilborn

The Second Circuit on Tuesday released its long-awaited opinion on the Trust Indenture Act, Marblegate v. EDMC. Several of us Slipsters have been discussing the case behind the scenes, and others will have (more intelligent) things to say about the opinion than I, but I thought I'd introduce the blockbuster case to get us rolling.

Long story short, the TIA essentially prohibits out-of-court workouts over the objection of any noteholder whose notes (debt securities) are part of the issuance qualified under the TIA. Section 316(b) says "the right of any holder of an indenture security to receive payment ... or to institute suit for the enforcement of any such payment ... shall not be impaired or affected without the consent of such holder." (emphasis added). The case was about what it means to "impair or affect" the "right" to get paid under indentured notes. The creative argument advanced by Marblegate was that lots of activities having nothing to do with changing the notes or their terms can "impair or affect" its right to get paid, and EDMC crossed the line. EDMC had done a creative end-run around the TIA by suffering its secured creditors to foreclose their (undisputed) security interests in all of its assets and then resell those assets to a newly created subsidiary of EDMC, scrubbing the former unsecured claims from those assets and leaving Marblegate and other noteholders with a claim against an empty shell. This was the second option in a Hobson's choice presented to noteholders; the first was to accept a 67% haircut and participate in a global workout with the secured creditors. Nearly 100% of the noteholders chose this option; Marblegate chose to play chicken and see if the courts would allow EDMC and its secured creditors to wipe out Marblegate's practical ability to enforce its claim by leaving an empty shell as the only obligor on Marblegate's unsecured debt after senior secured claimants exercised their superior rights in every scrap of available value. The contractual terms of Marblegate's right to collect were unchanged, but the practical ability of Marblegate to make anything of this right was clearly "impaired and affected," Marblegate argued.

Continue reading "Marblegate and a Dose of Reality for the Trust Indenture Act" »

Recommended Reading: Empire of the Fund

posted by Jason Kilborn

EmpireofthefundimageIt's that time of year again! Time to revisit and perhaps rebalance the investments in your retirement portfolio. While it is a sad fact that many people lack significant retirement savings, it is nonetheless useful for those interested in consumer finance (and investment companies, pensions, etc.) to think about how retirement savings plans work and to be able to offer some advice, for example, to debtors emerging from bankruptcy with their clean slate. William Birdthistle, of Chicago-Kent law school, has recently released Empire of the Fund, a magnificent new work on the most common vehicle that carries individuals' retirement savings in the US: mutual funds.

I have heard that Birdthistle, who teaches across town from me, is legendary in the classroom. Having read his new book, I'm not at all surprised. While his fairly esoteric subject matter made me hesitate to nominate his book in response to Katie's post, Birdthistle has really pulled one off here by managing to make a book about the structure and pitfalls of mutual funds and retirement savings ... extremely entertaining! It is masterfully written, with both erudite references to relevant comments by literary and historical figures, along with laugh-out-loud allusions to modern culture ("OMG! Friends, right! Mutual funds are lame!"). This book is an absolutely brilliant example of how to make a work on an otherwise dry financial subject not only accessible to the general public, but a real pleasure to read. It is no wonder the New York Times calls this "a lively new book."

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Proposed New EU Insolvency Directive

posted by Jason Kilborn

The European Commission has just released its proposal for another Insolvency Directive, finally tackling the very sticky issue of substantive harmonization. I had hoped the Directive would push Member States toward greater harmonization of their consumer insolvency regimes, and I even made some proposals for principles and rules for such a move, but because cross-border lending to individuals for personal consumption remains quite limited in Europe (only about 5% of total household lending), the Commission concluded that "the problem of consumers' over-indebtedness should be tackled first at national level." (p. 15)  Nonetheless, the Commission's explanatory memo heartily endorses applying the principles on discharge in this new Directive (principally, providing a full and automatic discharge after a maximum 3-year process) to all natural persons, both entrepreneurs and consumers.

As to the former, though, the proposed Directive virtually shoves European national insolvency law in the direction of US law--for better or worse. The primary thrust is to encourage a rescue climate through more robust "preventive restructuring frameworks." Read: Chapter 11. The characteristics of such frameworks include leaving the debtor in possession of its assets and affairs, staying enforcement proceedings that might interfere with restructuring negotiations, mandating disclosures for proposed restructuring plans, facilitating plan adoption by creditors in classes, including a cram-down option and an explicit absolute priority rule (pp. 30, 38, not mentioning a new value corollary ... though not using the troublesome phrase "on account of its claim" in the definition of the absolute priority rule), and protecting new (DIP) financing. The importance of institutions is highlighted, with mandates concerning the expertise and training of judges, administrators, and practitioners. A few Credit Slips contributors in particular might be interested in the Commission's comment that "It is important to gather reliable data on the performance of restructuring, insolvency and discharge procedures in order to monitor the implementation and application of this Directive." The proposal thus includes detailed rules on data to be collected using standardized templates for easy comparison of empirical results across countries.

My sense is that this proposal will face some substantial political opposition, but the Commission has an impressive track record on getting its proposals adopted by the Parliament and Council. If and when this thing is adopted, I'm sure European authorities will have no trouble finding US restructuring professionals eager to volunteer to visit Europe to provide the type of training to judges, administrators, and practitioners mandated by this Directive. Put my name on the list!

Slow start for personal bankruptcy in Russia

posted by Jason Kilborn

After focusing on the substance of personal bankruptcy laws around the world for years, I'm now convinced that I should instead have been focusing on institutions and procedure. Reports of the first year of the Russian personal bankruptcy process convince me further. In a paper anticipating the new law, I predicted potential process hangups, but I badly underestimated the degree to which procedural complications would waste time and resources and undermine the system's new effectiveness. I plan to look more closely at this in the future, but for now, one statistic reported in the press tells it all: In the first full year of the new Russian law's effectiveness, of the 33,000 individual bankruptcy petitions filed, only about 15,000 have been admitted into the procedure, and of these, only about 500 have been fully processed. Debtors' errors in filling out the new paperwork doubtless contributed to this slow start, but I suspect the courts are just not embracing the new process yet, and admitted cases are being drowned in a swamp of pointless procedural formalities. A simplified procedure for these individual cases is being discussed already, but why couldn't this lesson have been learned at the outset? There is simply no need in the personal bankruptcy context for complex procedures designed for high-asset business cases. Decades of experience elsewhere have proven this time and again. And once again we see, as Margaret Howard observed in one of my favorite articles years ago, lighthouse still no good.

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  • As a public service, the University of Illinois College of Law operates Bankr-L, an e-mail list on which bankruptcy professionals can exchange information. Bankr-L is administered by one of the Credit Slips bloggers, Professor Robert M. Lawless of the University of Illinois. Although Bankr-L is a free service, membership is limited only to persons with a professional connection to the bankruptcy field (e.g., lawyer, accountant, academic, judge). To request a subscription on Bankr-L, click here to visit the page for the list and then click on the link for "Subscribe." After completing the information there, please also send an e-mail to Professor Lawless (rlawless@illinois.edu) with a short description of your professional connection to bankruptcy. A link to a URL with a professional bio or other identifying information would be great.

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