Abstract
An insolvency administrator replaces the manager of an insolvent firm to devise and organize a liquidation or reorganization plan in the creditors’ interest. In the course of the process, the insolvency administrator presents the most favourable option from his perspective, and the creditors choose to accept or reject this plan. Conflicts of interest arise because the insolvency administrator, as the better-informed party, considers in his proposal liability risks and reputational issues that are beyond the creditors’ scope. We model this conflict as a Bayesian game and find that, under those compensation schemes typically used in real-world regulations, optimal creditor satisfaction and efficient decisions concerning the economic future of the insolvent firm will never be achieved simultaneously.
Highlights
Conflicts of interest arise because the insolvency administrator, as the better-informed party, considers in his proposal liability risks and reputational issues that are beyond the creditors’ scope. We model this conflict as a Bayesian game and find that, under those compensation schemes typically used in real-world regulations, optimal creditor satisfaction and efficient decisions concerning the economic future of the insolvent firm will never be achieved simultaneously
The objective of a bankruptcy law concerns two primary aspects: first, it should ensure optimal creditor satisfaction by exploiting the remaining assets of a bankrupt firm, and second, it should separate viable from unviable bankrupt firms
This paper addresses the individual incentives of a better-informed insolvency administrator as an additional source of filtering failure
Summary
The objective of a bankruptcy law concerns two primary aspects: first, it should ensure optimal creditor satisfaction by exploiting the remaining assets of a bankrupt firm, and second, it should separate viable from unviable bankrupt firms. The role of bankruptcy law is to force information disclosure and to resolve information asymmetry In contrast to these papers, we analyse the information revelation process within a court-supervised procedure after private renegotiation between the firm and its creditors has failed. Ayotte and Yun (2007) analyse the effect of the quality of judges or insolvency administrators on the ex post outcome of a bankruptcy procedure They find that judicial expertise is necessary when creditors are biased, using the following argumentation: When creditors are biased towards liquidation, a more debtorfriendly bankruptcy law in which management is allowed to retain some control will be efficient. Some implications for the regulation of insolvency procedures are discussed in Sect. 6, and the final section concludes the paper
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