Kuttner on TAP: Bankman and the Bastardization of Bankruptcy

At this writing, Sam Bankman-Fried has appointed a new CEO of his company, John Ray III, as well as five new “independent” board members. He has hired a legal team comprised of America’s fanciest bankruptcy lawyers. They are preparing a very complex bankruptcy filing in a Delaware court that will allow him to write off debts while he tries to raise new capital.

And his lawyers are trying to persuade the bankruptcy judge to allow Bankman-Fried and his team to keep control.

The judge does have the option of appointing an independent trustee to manage the process, displacing Bankman-Fried, his confederates, and the affiliated lawyers who stand to collect a fortune in fees. But Bankman-Fried and his cronies are arguing, as is typically the case, that the very people who fleeced customers and drove the company into the ground are knowledgeable about how the scam worked, and thus best positioned to recover as much money as possible. So bankruptcy judges often let the malefactors keep control.

Is there something wrong with this picture?

You bet there is. The entire bankruptcy system is one big double standard. Individuals who declare personal bankruptcy usually find that that their credit is ruined and their economic lives destroyed. But corporate thugs frequently get to write off past debts and sail merrily on, often repeating variations on the same scam.

One outrageous case, which the Prospect has covered in detail, involved a private equity operator named Eddie Lampert, who fleeced the iconic Sears Roebuck, took it into bankruptcy, and managed to keep control of its choicest bits. This tactic is standard practice in the repeated pillaging of retail by private equity companies.

Get control of a retail company that has cash and real estate assets. Strip the assets. Take the company into bankruptcy; write off debts (including worker pension funds); rinse and repeat. Meanwhile, student debtors are explicitly prohibited from using personal bankruptcy to write off punishing debt.

Elizabeth Warren came to prominence as a law professor expert in bankruptcy law and critical of abuses. As a leader of the National Bankruptcy Review Commission beginning in 1995, she fought a heroic battle that she ultimately lost in 2005 to keep the banking industry from persuading Congress to toughen the terms of bankruptcy for individuals but not for corporations. When Warren says the rules are rigged, she knows whereof she speaks.

We need fundamental reform of the bankruptcy laws, as Warren has proposed in the Consumer Bankruptcy Reform Act. In the meantime, at the very least, bankruptcy judges should stop letting scoundrels keep control of the companies that they fraudulently milked.