Ronald Coase famously proposed that, in a world of zero transaction costs, negotiations between parties would lead to arrangements that would maximise their wealth, irrespective of the initial assignment of rights between them. We live, though, in a world of positive transaction costs. Thus, Coase highlighted the important role that law plays in determining the efficiency of negotiation by controlling these costs.
In our paper, ‘Restructuring and Bargaining Theory’ we explore restructuring law in the US, the UK, and Europe through this Coasean lens. We start with the proposition that if the vast majority of a company’s creditors believe that restructuring the company’s liabilities will return it to profitability, then Coase theorem would lead us to predict that the parties will be able to reach agreement on how to capture and divide the gains between them. This is because renegotiation will be mutually beneficial — at least in a world of zero transaction costs. However, restructuring law implicates high transaction costs and, in many cases, it may not be possible to reduce costs sufficiently to motivate bargaining. We therefore argue that an optimal restructuring law not only operates to reduce renegotiation costs but also stands ready to facilitate the imposition of a new deal on dissenting creditors if agreement cannot be reached.
We pause over the public interest in restructuring law intervening in this way, given that capital markets are now sufficiently deep and liquid to accommodate the purchase of even very large, distressed firms. We note, however, that the UK and Europe have moved to strengthen their restructuring regimes. We attribute this to concern for the zombie company phenomenon – companies weighed down by debt and just about scraping by. We identify two significant concerns with zombie companies. The first concern is that the firm ultimately collapses with bigger debts and no prospect of turnaround. The second concern is that, in the meantime, assets are not allocated to highest and best use in the economy. We suggest that this explains why Europe and the UK have both become more, rather than less, concerned with the effectiveness of their restructuring law tools as the search for economic growth becomes more urgent.
We are not the first to have focused on restructuring law’s role in incentivising bargaining. As far as we are aware, however, this is the first paper to undertake a comparative study of restructuring rules in the UK, Europe, and the US with a view to evaluating how effectively they motivate Coasean bargaining.
We also engage with a specific issue for Europe. The European Commission had become increasingly concerned that the lack of efficient restructuring procedures in European member states acted as a drag on investment. This led to two consecutive Action Plans for Capital Markets Union, and the European Restructuring Directive in 2019 (‘ERD’), which has prompted many member states that lacked a restructuring regime to introduce one. The ERD, however, offers a good deal of optionality, so that different member states are taking different approaches to implementation. This is problematic for investors who are considering investment in firms that operate in more than one member state. It means, in our view, that there will need to be some, preferably soft law based, harmonisation of the approach to restructuring in European member states in due course. Thus, our paper seeks to make a further, specific contribution in the European context in starting a conversation about the various options that are currently being pursued. Ultimately, in our view, legislators and judiciaries of member states would benefit from having firmer theoretical foundations on which to build new restructuring law.
Statistics published by the Association for Financial Markets in Europe (‘AFME’) show that the European corporate bond market continues to lag far behind its US counterpart. The share of global corporate bond issuance attributable to the 27 EU Member States has declined from approximately 20% to around 14% in the period 2020–2023. This decline broadly mirrors the EU’s reduced share of global GDP over the same period. Against this backdrop, it is crucial to examine how the European debt capital markets framework —encompassing the EU, the UK, and even EEA markets, can be strengthened. We contend that strengthening the work done on effective restructuring regimes is a crucial part of this exercise.
Read the full article here.
Sarah Paterson is a Professor of law at the London School of Economics and Political Science.
Matti Engelberg is the founder of Engelberg & Co Ltd, Helsinki, Finland.
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