Academic journal article Vanderbilt Law Review

Corporate Governance Reform and Reemergence from Bankruptcy: Putting the Structure Back in Restructuring

Academic journal article Vanderbilt Law Review

Corporate Governance Reform and Reemergence from Bankruptcy: Putting the Structure Back in Restructuring

Article excerpt

Charles M. Elson*

Paul M. Helms**

James R. Moncus***

INTRODUCTION

A company's descent into bankruptcy may result from one or more troubling factors. Often the failing enterprise has adopted a poor business model, been led by deficient management, or labored under an unworkable capital structure. More often than not, a business failure is also accompanied by a less-than-ideal corporate governance structure within the organization. The failure to adopt an effective corporate governance model often leads to a sterile, inactive board of directors and may hasten a firm's demise. Conversely, proper corporate governance may prevent a business's slide into Chapter 11. Indeed, several studies have demonstrated a strong relationship between corporate performance and effective corporate governance.1 Board independence and equity ownership, along with the mantras of good governance, can create an environment in which management is effectively monitored and bankruptcy generally is avoided.

But what happens when an organization does fail? Traditionally, the focus in Chapter 11 restructurings has been on financial and managerial reform, largely ignoring equally important issues of firm governance. Attention to governance concerns, however, can greatly benefit firms emerging from bankruptcy. In reorganization, a failed firm stands at a critical juncture at which it must take a course of action that will ensure its successful revival. This course of action must include the restructuring of its corporate governance structure to incorporate, inter alia, both the election of independent outside directors and the use of equity ownership to incentivize these directors to effectively monitor management. In order to promote the firm's sound future, the debtor must undertake both this corporate restructuring and the traditional financial and managerial restructuring that occurs during Chapter 11.

Business leaders within the firm, institutional investors, and even bankruptcy judges can influence and encourage a firm's decision to reform its governance structure. Indeed, many institutional investors currently demand the placement of independent, outside directors on the board prior to any infusion of additional capital. Bankruptcy judges must utilize the feasibility requirement to inquire into the firm's efforts at corporate governance reform, while the debtor company must create the kind of vital board that is crucial to its future survival and success. Whether on the road to or from bankruptcy, firms will benefit from adopting an effective corporate governance structure. The adoption of an independent board and an equity ownership plan, as urged by governance theorists, is an essential means of ensuring the firm's successful emergence from reorganization, future survival, and performance.

Part I of this Article provides a general background to corporate governance norms and the concepts of independence and equity ownership. This part also explores the relationship between these mechanisms, effective governance, and corporate success. Part II IMAGE FORMULA23

briefly discusses the traditional Chapter 11 bankruptcy model, which has focused on managerial and financial restructuring. After this review, the case is made for the inclusion of corporate governance reform as part of the overall effort to revitalize the corporation. In Part III, these concepts are applied to the reorganization of the Loewen Group, in which several corporate governance reforms were implemented as part of the firm's emergence from Chapter 11. The Article concludes with a call for a reassessment of the role of corporate governance reform during Chapter 11 reorganization.

1. CORPORATE GOVERNANCE PREBANKRUPTCY

In the wake of Enron, Adelphia, Tyco, Worldcom, and other corporate debacles, the importance of sound corporate governance principles and their consistent application has become increasingly apparent. …

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