The Government Accountability Office recommends that Congress consider amending the bankruptcy code to clearly define the extent to which companies can provide bonuses before declaring bankruptcy.
In a September 30 report, GAO found that of some 7,300 companies that filed for bankruptcy in 2020, 42 awarded executive bonuses shortly before filing. The bonuses, totaling some $ 165 million, ranged from five months to two days before file bankruptcy online.
While pre-bankruptcy bonuses were a minority among 2020 Chapter 11 bankruptcy cases, the GAO report raises questions about the number of additional business executives who may be looking to take advantage of the so-called plans. key employee incentive, or KEIP, if there is a deeper economic recession.
“Congress should consider amending the U.S. Bankruptcy Code to clearly subject the bonuses debtors pay executives shortly before a bankruptcy filing to bankruptcy court oversight and to specify the factors the courts should consider. account to approve these bonuses, ”GAO wrote.
Senator Elizabeth Warren, D-Mass., Earlier this year targeted former Genesis Healthcare Inc. CEO George Hager Jr., who allegedly received a $ 5.2 million “retention” bonus before leaving the nursing service provider in January, even after more than 2,800 of its residents died from COVID-19 and despite leaving Genesis in dire financial straits, she said.
“Much of this compensation was approved in late 2020, when it was clear the company, under Mr. Hager’s leadership, was already in financial difficulty,” Warren said in a March letter to the company. . In short, it looks like Mr Hager walked away with an extraordinarily rich compensation package, leaving behind thousands of residents and nursing home staff dead and sick and a business in financial shambles despite the bailout. hundreds of millions of dollars in taxpayer funds. . ”
Following the departure of Hager, Genesis announced a restructuring plan allowing it to avoid bankruptcy. A company spokesperson did not immediately return a call asking for comment. Attempts to reach Hager were unsuccessful.
Pre-bankruptcy bonuses first gained attention last year after economic disruption and stay-at-home orders to fight COVID-19 sent shockwaves through several sectors, including the retail and oil and gas, said David Farrell, partner in bankruptcy and finance. restructuring group at Thompson Coburn.
The coronavirus “was such an aberration … that maybe sped up the whole bankruptcy review” for some companies, Farrell said. “What would normally have been a longer trail before people filed may have forced bankruptcy considerations much faster because people’s cash flow is gone. ”
This led to corporate filings that highlighted KEIPs. One of the most publicized cases was that of clothing retailer JC Penney Co., which awarded executives nearly $ 10 million in bonuses five days before it went bankrupt in May 2020.
A year and a half later, large business Chapter 11 filings have plummeted, as has the attention of lawmakers and investors, Farrell said.
“It’s sort of a chronic problem with bankruptcy reform,” he said. “There’s no question that bankruptcy filings tend to be in waves, so you have periods of intense bankruptcy filings and the business cycle changes and then the filings go down. Issues are raised and there are discussions about the legislation and then people lose their attention span as the business cycle changes and these issues don’t get a lot of attention in the media because the filings are dwindling. ”
KEIPs emerged shortly after Congress made changes to tighten the country’s bankruptcy rules 16 years ago. For years, companies that wanted to keep certain senior executives on their payrolls as part of Chapter 11 reorganizations had sought bankruptcy courts to approve retention payments. These payments set a precedent for judges allowing struggling companies to award lucrative executive bonuses on the pretext that senior management would be inclined to stay on board and run the business until Chapter 11.
Unions complained that the bonuses allowed executives to get away with large payouts while grassroots workers faced the brunt of layoffs and restructuring. These arguments culminated in the bankruptcy legislation of 2005, after the bankruptcy of the camera company Polaroid in 2001, which saw executives pay more than $ 7 million in bonuses.
The law limited the ability of debtors to obtain court authorization for such payments in bankruptcy. The companies have come up with KEIPs to keep paying their executives to stay on through tough times, Farrell said.
Congress has not made major changes to the country’s bankruptcy code, including executive pay and bonuses during Chapter 11, since that 2005 law.
Representative Greg Steube, R-Fla., Introduced a bill in January that would prohibit companies from paying bonuses to executives, insiders or others who earn more than $ 250,000 a year from one year before a company files for bankruptcy and for one year after filing. The bill in March was referred to the House Judiciary Subcommittee on Antitrust, Commercial and Administrative Law, of which Steube is a member. No action was taken.
Peter Karafotas, chief of staff to subcommittee chairman David Cicillin, DR.I., did not answer questions about whether he would work on Steube’s bill or similar legislation to fill the gap.
KEIPs were brought up during a July 28 subcommittee hearing on “current abuses” under the Chapter 11 system.
Adam Levitin, a law professor at Georgetown University, echoed concerns raised in the GAO report. He told lawmakers that changing the bankruptcy code to only pay executives and directors to stay in a business through KEIP based on certain goals has led debtors to exploit a loophole.
“Rather than dealing with KEIPs, however, debtors have increasingly turned to insider payments on the eve of bankruptcy,” Levitin said in written testimony to the subcommittee in July. “Although improper, this practice is currently perfectly legal; the Bankruptcy Code does not apply until the debtor has filed for bankruptcy.
“Chapter 11 has long awaited an update to ensure that it continues to deliver on its promise to provide a fair and efficient method of dealing with the inevitable reality of business failure,” he said. he concludes.
Peter Feltman contributed to this report.
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