The Story of Case v. Los Angeles Lumber Products: Old Equity Holders and the Reorganized Corporation

Abstract

Case v. Los Angeles Lumber occupies a central role in the development of the American law of corporate reorganizations. Justice Douglas's opinion for the Supreme Court adopted the absolute priority rule as the touchstone against which all plans of reorganization would be measured. Even with overwhelming support by the bond holders - the only creditors whose interests were being lessened by the proposed plan in Los Angeles Lumber, the former shareholders could not participate in the reorganized company without making a fresh capital contribution. While the conditions necessary to invoke the absolute priority rule have evolved over time, the rule itself forms the bedrock of modern Chapter 11. The holding of Los Angeles Lumber thus remains relatively intact. But the subsequent history of the business of Los Angeles Lumber calls into question many of the assumptions on which modern reorganization law rests. Chapter 11 is designed as a forum where the owners of a company can reach an agreement so as to preserve a corporation's going-concern value. Los Angeles Lumber confirmed a plan of reorganization on remand from the Supreme Court. The plan adhered to the newly announced absolute priority rule. The company, however, did not flourish. In the end, it simply lacked going concern value. Despite a boom in the ship building business, Los Angeles Lumber could not operate effectively and was taken over by the federal government. The judicially supervised reorganization in the end brought no benefit to the investors in Los Angeles Lumber.