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Objectives of an Orderly and Effective Liquidation Procedure





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Liquidation procedures are generally relied upon once there is no economically reasonable possibility of rehabilitation. Although such procedures can therefore be viewed as the second of the two components of the insolvency proceedings, they are dealt with first in this study because they are utilized most often, and are generally viewed as the "core" proceedings upon which rehabilitation procedures are constructed. While many companies successfully rehabilitate, they normally do so out of court and actually rely on the "shadow" of liquidation to facilitate rehabilitation.

Drawing on the overall objectives of an insolvency law described in the previous chapter, the most important objectives of an orderly and effective liquidation procedure may be described as follows.

(1) A primary objective is to maximize the value of the assets of the estate. Many of the features of the insolvency system are designed to achieve that objective. These features include the imposition of a stay on creditor enforcement of legal remedies that prevents a premature breakup; the appointment of an independent liquidator with broad powers; when the temporary continuation of the enterprise by the liquidator is considered necessary, the creation of incentives for creditors to provide financing through priority for post-petition financing; and the inclusion of "claw-back" provisions that recapture assets disposed of by the debtor to the detriment of the creditors.

(2) Another objective is to equitably treat similarly situated creditors. Insolvency creates a collective procedure that will only be effective if participants view it as equitable. This is achieved through the inclusion of a number of features, including claw-back provisions and the general stay on creditor enforcement of legal remedies.

(3) A final objective, albeit a much broader one, is to provide a mechanism that facilitates the making of investment decisions. If creditors can rely on a mechanism that enables them to enforce their rights against a debtor, this will assist them in making their investment decisions. The commencement criteria are critical for this reason. Moreover, if the distribution priorities following liquidation recognize the seniority established by contractual terms, creditors will feel confident that they are able to manage, at least to some degree, the risks that they incur when making investment decisions.

While the above objectives are normally mutually reinforcing, they can also, at times, be at odds with each other. Indeed, one of the challenges of designing an orderly and effective liquidation procedure is to strike an appropriate balance between competing objectives. For example, broad powers given to a liquidator to enable him to nullify transactions already entered into and to modify the terms of existing contracts may undermine the predictability in contractual relations that is critical to the making of investment.

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