Every company considering Chapter 11 shold do this

Atrios links to a brilliant scheme by Bank of America to stiff holders of subprime mortgage debt:

Bloomberg.com: U.S.

Whalen expects Bank of America to absorb the best assets, including Countrywide Bank, while the debt remains with a new company created by the merger, Red Oak Merger Corp. Red Oak may then file for bankruptcy, shielding Bank of America from liability, Whalen said.

Obviously you have to plan for this kind of thing in advance by separating your business into divisions that hold the liabilities versus divisions that hold the assets, but that’s often done for tax purposes anyway (like having a separate company in a tax-advantaged location from which you license your trademarks). And it’s perfectly possible to buy the assets after chapter 11, but when you do that the money you pay goes to the creditors. This way, who knows?

The one thing I can’t really understand is Red Oak, which is acquiring assets it reasonably knows to be encumbered by debt exceeding their value. That means Red Oak management is going to be violating its fiduciary responsibility to its shareholders. I’m sure they’ll sue. (Oh, but wait, the shareholders are the same people who get to walk away with the rest of the pile unencumbered. Out of the goodness of their hearts they’ll let this particular management faux pas slide.)

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