Assisted Suicide for Corporations?

Karl Muth argues that governments should be easing corporations’ passage from this earth and making sure future generations benefit from their passing.

“Corporations are people too” is, in an increasing number of areas, the law of the land – as absurd or even offensive as this may sound to some modern so-called liberals and some of the further-left Continental legal scholars. And if corporations are, indeed, “people too,” then the concept of assisted suicide for corporations is relevant.

My first term at the London School of Economics was in 2009 and I had the pleasure of taking a course from transatlantic legal scholar R. David Kershaw. In both the American and British systems, the duty of the directors and officers of the corporation is to salvage, until the bitter end, any viable lines of business (and any assets that may have liquidation value in insolvency). The duty of these people is a fiduciary duty that only changes when the firm enters insolvency negotiations with its creditors.

While fighting for that last breath of corporate oxygen may make sense in theory, it can be financially disastrous. Since a corporation has a priority of obligations (paying taxes and meeting payroll being paramount), the directors are encouraged to set course for a painful, slow death that exhausts assets in a less-than-ideal way. As officers of the corporation are often drawing substantial salaries, they have enormous incentives to keep the golden goose on life support for as long as possible, even if it means only one additional golden yolk.

Worse, research is often among the first things cut when times are tough. This has two detrimental effects, which occur immediately sequentially or in parallel. Cutting research and development efforts guts the corporation of its best researchers, who will tend to follow the money and set up shop wherever the most flexible and generous resources are available. Research and development cuts also starve the corporation of relevant intellectual property, making an acquisition less desirable – as Google discovered when it acquired Motorola’s mobile business and found the research being done disappointing and the product pipeline retarded by years of unwise pruning.

I propose instead that some system of pre-bankruptcy euthanasia must exist. Parties are already beginning to create these arrangements contractually (as the public discovered during General Motors’s recent unconventional restructuring, it’s common for large corporations to have provisions to buy out partners to protect their supply chains), but they cannot short-circuit the inevitable questions that arise – and create uncertainty as to whether priority in insolvency (particularly under the UK insolvency rules) will partially or completely destroy contractual agreements made between anticipated creditors and the corporation.

This is not an alien or unique concept. In fact, it may be something that can be learnt from the years of Russian and Eastern Bloc post-Soviet transition. During that time, it was unclear (from an accounting standpoint, but also from a more nuanced management standpoint) whether certain state-run companies would be able to survive as independent for-profit entities. As these companies, primarily in the mining sector, were weaned off their government support structures, many quickly realised that insolvency was on the horizon. These companies were then allowed to petition the market committee for latitude to make arrangements with their creditors, suppliers, employees, labour unions, and others. Where did the Russians get this idea?

Oddly, this idea probably came from British plenary work that had been quite loudly underway in Hong Kong since 1989. The British anticipated that Hong Kong would have a series of bankruptcies, some of them high-profile (the port authority privatisation went more smoothly than anticipated, though three major container transfer entities on the Kowloon side did slide into insolvency proceedings in 1998, less than a year after the handover from British governance). The British had implemented an unusually-elaborate pattern of subsidies and tax exemptions, particularly around shipping entities that also gave some benefit to the Royal Navy (which viewed Hong Kong as a crucial port for resupply); many of these corporations were very large but grew to depend more and more on their financial symbiosis with the Royal Navy. After the handover, these payments abruptly ended, sending shares in these companies plummeting (in part because they had, more often than not, underestimated and underreported the degree to which their cash flows were dependent upon British government support).

Though there is no equivalent governance change underway in the UK or US, recent bankruptcies in both jurisdictions highlight that bankruptcy proceedings are often “too little too late” and lead to cash starvation, inefficient liquidation, frustrated creditors, and loss of human capital within the subject entity. Extending some of the protections of corporate bankruptcy law, particularly good faith transaction “safe harbour” protections and the UK provisions for creditor renegotiation specific to supply contracts, would benefit shareholders by increasing the resources available for creditor negotiation and by allowing directors and officers to look forward to the turnaround in their decisions rather than being forced to drain the blood of the patient

But this is not the only benefit. This would benefit courts by taking large illiquid assets out of play prior to the insolvency proceedings, assets judges dislike dealing with and which courts are ill-equipped to appraise or restructure. The concept benefits workers by creating certainty around future voidability of employment contracts and by bringing labour negotiations into the open early in the process rather than having groups of workers squabbling over the table scraps of remaining cash flow. Finally, it benefits society by keeping research initiatives and new product ideas largely intact and readily available for acquisition rather than scattering these ideas, projects, and teams of people to save a few dollars in the short-term.

The time has come for better end-of-life planning for corporations.

Governance rules that force fiduciaries to be parasites rather than Samaritans when corporations are in the greatest need are outdated, overly simplistic, and detrimental to creditors. Shareholders should be more flexible in their expectations and more long-term in their thinking, eager to see directors and officers of the corporation preserve value rather than spending down remaining assets. Workers should be eager to see pre-negotiated insolvency arrangements that create certainty as to their future employment and the framework for the company’s possible recovery. Society should enthusiastically endorse planning to wrap-up a corporation’s business efficiently and redeploy its assets quickly and effectively. Assisted suicide for corporations is often – and perhaps in the majority of cases – the right way for all parties to exert the most power and enjoy the most benefit from the corporation’s remaining assets, cash flows, personnel, and operations.