Chapter 9 Bankruptcy procedures 9.1 Critique of existing procedures (i) Auctions. The problem with auctions is that assets sold off piecemeal may be sold at a substantial discount The financing problem. It takes too long to raise money from a large number of investors. A small number of investors may be risk averse and unwilling to pay the expected value of the assets Lack-of-competition problem. The costs of participating in an auction keeps the numbers small (ii) Structured Bargaining.(E. g, Chapter 11). Chapter 11 mixes two kinds of problems, who should get what(whose debt forgiven and by how much) and what should be done with the firm(liquidated, re-organized, and if ized under what financial structure). Conflicts of interest and asymmetric information are likely to lead to breakdown. Placing decisions in the hands of representatives and supervising judges creates agency problems Problems with Chapter 11:(a)takes a great deal of time;(b) serious loss of value during Chapter 11;(c)significant legal and administrative costs;(d) soft on management;(e) judges abuse discretionary power Incentives to delay: ability to delay resolution gives bargaining power to junior creditors(c.f. alternating offers bargaining; option value of delay in case value of assets increases to,(i)Administration.(E.g. the French system). Saves costs and unlikely be soft on management. However, judge may not have required expertiseChapter 9 Bankruptcy procedures 9.1 Critique of existing procedures (i) Auctions. The problem with auctions is that assets sold off piecemeal may be sold at a substantial discount. • The financing problem. It takes too long to raise money from a large number of investors. A small number of investors may be risk averse and unwilling to pay the expected value of the assets. • Lack-of-competition problem. The costs of participating in an auction keeps the numbers small. (ii) Structured Bargaining. (E.g., Chapter 11). Chapter 11 mixes two kinds of problems, who should get what (whose debt forgiven and by how much) and what should be done with the firm (liquidated, re-organized, and if re-organized under what financial structure). Conflicts of interest and asymmetric information are likely to lead to breakdown. Placing decisions in the hands of representatives and supervising judges creates agency problems. Problems with Chapter 11: (a) takes a great deal of time; (b) serious loss of value during Chapter 11; (c) significant legal and administrative costs; (d) soft on management; (e) judges abuse discretionary power. Incentives to delay: ability to delay resolution gives bargaining power to junior creditors (c.f. alternating offers bargaining); option value of delay in case value of assets increases. (iii) Administration. (E.g., the French system). Saves costs and unlikely to be soft on management. However, judge may not have required expertise. 1