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Some Thoughts on Chapter 11 Venue

posted by Stephen Lubben

So Adam has come out in support of HR 2533, a bill which would force corporations to file in the jurisdiciton of their corporate headquarters. Just to lay my cards on the table, I generally think that we (the chapter 11 community) waste a lot of time worrying about venue, and that the putative evils of "forum shopping" are massively overstated.

But I wanted to comment specifically on a point that Adam raises:  the notion that chapter 11 would be "cheaper" if corporations filed in their "home" jurisdiction.

This argument is based on the intuitive notion that courts outiside of New York and Delaware would be less apt to approve "big city" hourly rates, and thus the cost of the cases would go down. This is based on two unstated assumptions, both of which don't nessarily hold:  namely, that courts would act as predicted and that costs go down when you reduce hourly rates.

The reason for skepticism on the court behavior prediction is straightforward:  cases have been filed outside of New York and Delaware with lead counsel that hailed from New York, Chicago, and Los Angeles, and in almost all cases the courts have approved their fees and hourly rates. Now Lynn LoPucki has a theory about why this is so, and maybe Adam agrees with it, but I'm not sure how I reconcile the notion of spreading "corruption" with the continued "dominance" of Delaware and New York. If the corruption has spread, why are cases still filed in these jurisdictions?

Similarly, the second assumption, that reducing hourly rates will reduce cost, is even more problematic.  First, it assumes that you can change one piece of the chapter 11 system without any collateral effects. But if filing in the home jurisdiction will lead to capped hourly rates, fewer first day motions being granted, more trustees appointed, and more court-house protests -- all points that are mentioned in support of venue "reform" -- it seems likely that the overall cost structure of cases is going to change. And I don't think we can just glibly assume that costs will necessarily go down.

More importantly, if we tie venue reform to the idea of rate caps, then you really need to think about the possible effects on chapter 11 cases and the debtor's ability to hire counsel of their choice.  A key part of changing the law and assuming everything else will stay the same is the assumption that the professionals who are the key targets of this move will continue to take these debtor cases and continue to handle them as they are now handling them. But are we so sure that the big law firms and investment banks are just going to take a rate cut and suck it up? And if they don't, what does that do to chapter 11?

Chapter 11 cost comes in two flavors:  the out of pocket cost of the professionals and the cost to creditors that is reflected in their recovery. A lot of time is spent talking about how the first kind of cost can effect the second, but if that were the only issue then it would make sense to only hire recent law school graduates to handle big chapter 11 cases.   

Why don't we? Well, its understood that sometimes you get what you pay for, and hiring a completely inexperienced attorney to handle Lehman's bankruptcy case would result in losses to creditors that would entirely swamp the saving on attorney's fees. That is, the second kind of cost is independently important.

And forcing cases into inexperienced venues, and forcing a more active judicial role in "cost control," might actually raise the total cost to creditors. Certainly in the short term, an inexperienced firm handling a big chapter 11 case might spend more hours learning how to handle the case, and make mistakes that destroy value in the estate, to such a degree that it does not matter that they charge less per hour than the arrogant Gotham firm that we've pushed out of the market.

Comments

Chapter 11 venue shopping does also have many implications for consumer bankruptcies- it often feels like consumer cases go more smoothly (read as get less scrutiny) when bankruptcy judges have a nice caseload of multi-million dollar corporate cases to chew on instead.

A third layer of costs is the costs imposed on unrelated parties' future financings when a bankruptcy judge (invariably sitting outside of one of the financial centers) issues a ruling (invariably pro-debtor)that puts an entire category of structured credit transactions at risk, such that future issuers have to pay additional professional costs to analyze, and sometimes modify, financings for the uncertainty thereby created. The Twist Cap, Octagon Roofing and LTV Steel rulings come to mind.

As for rate caps and so on, rates' significance pales compared to the importance of how many hours get billed. That is where the guidance that emerges from repeat patterns over dozens of cases save money. You can have a 20-minute first day hearing at a blended rate of $750/hour or you can litigate your DIP order and your payment of pre-petition claims from first principles at blended rate of $300 / hour - the latter will still cost more.

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