Fighting Fire with Fire: Bankruptcy Committees in the Age of Hostile Restructurings

Abstract

In Chapter 11, litigation against former owners, managers, and financiers can eventually generate proceeds for the bankruptcy estate. These litigation claims have become significant, especially as more bankruptcies involve allegations of wrongdoing on the part of private equity sponsors. For unsecured creditors, who often receive paltry recoveries, litigation claims can be particularly valuable. Unsecured creditors are a diverse group, however, and it can be hard to meaningfully aggregate their preferences over whether and how to pursue litigation. This complicates the role of the Official Committee of Unsecured Creditors, which has a fiduciary duty to general unsecured creditors. The ideal creditor to pursue litigation in bankruptcy would lack liquidity constraints, be able to gather resources and assess risk, and have experience with the bankruptcy process. Although hedge funds fit the bill, this Note shows that they rarely serve on the Official Committee, even if their involvement could benefit all unsecured creditors. A recent case against hedge fund manager Daniel Kamensky that resulted in a prison sentence will only deter them further. I propose that courts should empower hedge funds in limited circumstances involving significant litigation claims by allowing multiple Official Committees, with fiduciary duties only to the unsecured creditors on a given committee.