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Category: Bankruptcy

1

SEC Should Calm Markets, Ahead of Possible Audit Crisis

If you thought the 2008 credit crisis that temporarily froze global debt markets wrought havoc, watch out for the next shoe to drop.  At stake is the viability of global equity and other financial markets that could freeze if one of the four large auditing firms goes extinct.

And the existence of one of them, Ernst & Young, is threatened, as it faces the prospect of billion dollar liability for botched audits of Lehman Brothers, the defunct investment bank struggling in bankruptcy. It is an eerie echo of the fate of erstwhile big auditing firm Arthur Andersen, which dissolved after its culpability in 2001’s Enron fraud emerged.

Today, only four auditing firms have the resources and expertise to audit the vast majority of thousands of large public corporations. If one of those dissolved, its clients would have to scramble to find a replacement. Some of the remaining three lack requisite expertise for some of those corporations and others would be disqualified from auditing due to consulting work they do for them.

The result would be hundreds, possibly thousands, of large corporations who could not get their financial statements audited as required by US federal securities law. Stock markets could go berserk, along with other financial markets. The costs now, of moving from four firms to three, would dwarf those incurred when Andersen’s dissolution moved the total from five to four.

It does not appear that the US government, specifically its Securities and Exchange Commission, has any plans to deal with this prospect. It should. And it should announce them promptly to get ahead of any market crisis the failure of E&Y, or of the other three, would wreak. 

If not, the credit crisis of 2008 will look mild in comparison. After all, the credit crisis was readily addressed by government pumping enormous amounts of capital to rejuvenate liquidity; an auditing crisis cannot by solved by throwing money at it. Read More

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The Yale Law Journal, Vol. 119, Issue 4 & Forthcoming Supreme Court Conference

The Yale Law Journal

January 2010 | Volume 119, Issue 4

ARTICLES
Antibankruptcy
Douglas G. Baird & Robert K. Rasmussen
648
Fourth Amendment Seizures of Computer Data
Orin S. Kerr
700
FEATURE
American Needle v. NFL: An Opportunity
To Reshape Sports Law

Michael A. McCann
726
NOTE
Strategic or Sincere? Analyzing Agency Use of
Guidance Documents

Connor N. Raso
782
COMMENTS
Suspending the Writ at Guantánamo: Take III? 825
Constitutional Avoidance Step Zero 837


yljonline

On Tuesday, March 23, 2010, The Yale Law Journal Online will join with the Yale Law School Supreme Court Advocacy Clinic to host the concluding segment of “Important Questions of Federal Law: Assessing the Supreme Court’s Case Selection Process.”  The panel will bring together federal judges, members of the legal academia, and practitioners to discuss potential reforms to the Supreme Court’s certiorari process. All events will be held at Yale Law School’s Sterling Law Building in New Haven, CT. Please click here for more information.

IMPORTANT QUESTIONS OF FEDERAL LAW
Yale Law School | New Haven, CT | March 23, 2010

Panel I: The Judge’s Perspective: Is the Court Taking the “Right” Cases?
4:10pm‐5:30pm, Room 129

Moderator: Linda Greenhouse (Yale Law School)
Panelists:
The Honorable José Cabranes (2d Cir.)
Drew Days (Yale Law School)
The Honorable Brett Kavanaugh (D.C. Cir.)
The Honorable Sandra Lynch (1st Cir.)

Panel II: The Practitioners’ Perspective: What Makes An Issue “Important” to the Court?
5:40pm‐6:55pm, Room 127

Moderator: Charles Rothfeld (Mayer Brown LLP and Yale Law School)
Panelists:
John Elwood (Vinson & Elkins LLP)
Orin Kerr (George Washington University Law School)
Patricia Millett (Akin Gump LLP)
Judith Resnik (Yale Law School)

7

Social Insurance and the Autonomy of Private Law

Grading my secured transaction’s exam has got me thinking about the politics of private law. In particular, I think that debates about the proper level of government provided social insurance have a way of distorting our thinking about private law. Consider the much debated subordination of tort victims to secured creditors in bankruptcy. In law school I was taught that the debtor-friendly American bankruptcy system (and yes, even after the supposedly draconian 2005 amendments, it is still among the most debtor friendly bankruptcy laws around) was a substitute for our lamentable lack of a greater government funding for social insurance. Implicit in this line of argument, however, is that tort judgments are supposed to function as a kind of insurance mechanism.

Tort as insurance, however, doesn’t really make that much sense. From an economic point of view there is no a priori reason to suppose that tortfeasors can provide insurance at a lower cost than tort victims. Furthermore, the dominant philosophical theories of tort – corrective justice and civil recourse – don’t view damages as providing insurance to victims. Rather, damages are supposed to vindicate a moral claim by the plaintiff against the defendant, either to compensation or to the right of legitimate retaliation against the tortfeasor. Indeed, for a civil recourse theory in particular, the important thing about a tort system is that it allows a tort victim to act against the person who has wrong him. Driving the tortfeasor into bankruptcy may serve this purpose just as well as money damages, even if the victim ultimately receives pennies on the dollar in bankruptcy.

Indeed, if we take moral theories of private law seriously, then the traditional ideological positions in some of our legal debates get moved around in rather interesting ways. For example, a corrective justice theorist would be quite troubled by a tortfeasors ability to avoid paying compensation in bankruptcy (a “progressive” position) while at the same time being quite hostile to punitive damages (a “conservative” position). A civil recourse theory, on the other hand, would be less concerned about the subordination of tort victims to secured creditors in bankruptcy (a “conservative” position), while being quite a bit friendlier to claims for punitive damages (a “progressive” position). Even more interesting that this diversion from traditional ideological groupings, however, is the way that these theories are both more or less indifferent to the questions of social insurance that so dominated my own introduction to bankruptcy and commercial law.

1

Lipson on Bankruptcy, the Inky and Irony

Our Roving Bankruptcy Correspondent

Our Roving Bankruptcy Correspondent

I asked Jonathan Lipson, who previously owned the credit crisis for us, for his thoughts on a really interesting story involving the Philadelphia Inquirer’s bankruptcy process.  His (pretty cool, even for non-bankruptcy geeks) thoughts follow:

Like other markets for company control, the one created by Chapter 11 of the Bankruptcy Code is largely about information:  If you control the story, there’s a good chance you will control the outcome.

So it’s not surprising that The Philadelphia Inquirer has used its own storied assets—the paper and website–to try to sell readers on management’s plan to save the company from rapacious hedge funds and, in their words, “keep it local.”

As you may recall, Brian Tierney, who owns an advertising firm in the Philadelphia suburbs, acquired The Inquirer and its related properties (The Daily News and Philly.com, their collective website), from the McClatchy papers in 2006 for about half a billion dollars.

Like several other newspapers, including The Chicago Tribune, The Inquirer could not service its massive acquisition debt.  Thus, in February 2009, the paper (and its affiliates) filed a Chapter 11 case in Philadelphia.  In August, management filed a proposed reorganization plan where Tierney (who manages the papers and owns some equity) and some of his supporters would buy the papers out of bankruptcy, for about $90 million, leaving most large creditors—i.e., the ones holding the acquisition debt–with a very small recovery.  The management buyout would be subject to higher and better offers.

According to the official Creditors’ Committee in the case, the Inquirer’s “keep it local” campaign is designed to make sure there are no better offers.  Management’s ad campaign warns of dire consequences “[i]f out-of-towners were to seize control.”  Allegedly hailing from such illiterate venues as New York, Beverly Hills “and even Lausanne, Switzerland, these out of towners would feel little commitment to, or understanding of, [Philadelphia’s] local non-profit needs.”

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3

Chrysler and the Road to Indonesia

In the 1990s the economies of southeast Asia were flush with cash.  The ever-increasing liquidity of global capital and its willingness to chase returns in emerging markets meant that the banks of Thailand and Indonesia had money to burn, and burn it they did.  The problem, of course, was that these banks were far from the independent wealth-maximizers that one imagines in mature markets.  Rather, they were deeply involved in the elite political coalitions in these countries, frequently making and administering loans at the dictation of those elites rather than the bottom line.  As long as the international capital markets were pouring money into their economies, this was not a problem.  On the other hand, when Russia defaulted on its debt and global capital fled from emerging markets, these banks found themselves unable to cope with the crisis given the rotteness that politics had inflicted on their balance sheets.  The only way of staving off national bankruptcy were loans cobbled together by the IMF coupled with an agreement to hand the keys of economic policy over to the grown-ups at the Fund.  The Chrysler bankruptcy is a flash of lightening that gives us a brief glimpse of the banking world created by the bailouts.  It looks disturbingly like southeast Asia.
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4

Deconstructing the Put-Option State

Larry and David Zaring have a thoughtful piece making the case against an overly exhuberent regulatory response to the financial crisis.  There is a lot of wisdom to what they say.  At its bottom, however, it seems to me that the keygovernment failure lay not in our regulations but in our political culture.  As Simon Johnson (of the must-read Baseline Scenario blog) observes in the most recent issue of The Atlantic, our current debacle looks less like Wall Street circa 1930 than Indonesia circa 1997.  The problem is not that we are reaping the whirl-wind of unregulated markets run amok, but rather that we are reaping the whirl-wind of a system where politically powerful business actors get the up-side of huge risks, while they can push the downside on to the public.  We are living in the put-option state.

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3

Bankruptcy Reform & the Force of Selection

ark.jpgMichael Heise highlights a very vigorous debate in the American Bankruptcy Law Journal on the empirical study of bankruptcy reform.

  • It started with a paper by Bob Lawless, Angela K. Littwin, Katherine M. Porter, John Pottow, Deborah Thorne, and Elizabeth Warren (hereinafter the “Six”), Did Bankruptcy Reform Fail? An Empirical Study of Consumer Debtors, 83 Am. Bankr. L. J. 27 (2009). The authors of that paper found that there was “no change in the income levels of bankruptcy filers after the [bankruptcy reform] amendments [and that] debtors filing for bankruptcy in 2007 have even greater debt loads than their counterparts from 2001.”
  • Rafael Pardo responded in Failing to Answer Whether Bankruptcy Reform Failed: A Critique of the First Report from the 2007 Consumer Bankruptcy Project , 83 Am. Bankr. L. J. 47, in which he made several critiques of the Six’s method and lack of nuance regarding the Code.
  • Pardo’s critique seems to have pushed the Six to a very defensive response (not yet on SSRN, but which you can find on WL), called “Interpreting Data: A Response to Professor Pardo”
  • Pardo has now responded.

You should read the papers, if you are interested in empirical analysis of bankruptcy, or if you just relish a well-articulated methods discussion. I’ll leave the merits largely alone, with one exception. The papers appear to disagree about a relatively fundamental question of predicted selection effects.

Selection effects operate at various stages of litigation to remove certain cases via settlement or unilateral withdraw from the fight. As is well known, these “missing” parties and claims make it quite difficult to analyze the effects of changes in law on datasets of outcomes of litigation. (As an illustration, imagine that Noah had a policy that denied snakes entry into the ark (as some posit). Rational snakes, knowing about the policy, wouldn’t approach the choosing point, and, therefore, we wouldn’t see the policy’s effects in action.) A law might make it easier for plaintiffs to win, but the resulting set of cases will be unaffected because more defendants settle both before and after filing. Selection turns out to play a very important role in this bankruptcy dispute.

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CDSs and Bankruptcy

Megan McArdle correctly notes today that much of the CDS-hatred out there comes from political pundits who are not — to put it charitably — particularlly knowledgable about or interested in law or finance. (“Credit default swaps certainly caused AIG to fold, and they’ve undoubtedly made all manner of things worse, but giving them single-handed credit for the financial crisis is like blaming Italy for World War II.”) She goes on to argue, however, that CDS’s may be having the perverse incentive of pushing firms into bankruptcy. The gist of the argument is that debtors have a harder time renegotiating debt with creditors who are protected by a CDS in the event of default, and this presents a systemic problem. I’m skeptical.

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