Courts Working to Keep Bankruptcies Local

It’s a phenomenon some bankruptcy lawyers refer to as “Delaware flight”--the tendency of major corporations to file for Chapter 11 bankruptcy protection in Delaware instead of their home state.

Now, a group of Southern California bankruptcy judges and lawyers is poised to overhaul corporate Bankruptcy Court procedures for the 21 federal bankruptcy courtrooms in California’s Central District to make them more inviting places for businesses to file for bankruptcy protection. The changes, if approved next month, would be the first in recent times and would, for the first time, codify courtroom procedures for all federal Bankruptcy Courts in Los Angeles, Orange and surrounding counties.

Until now, bankruptcy judges have fashioned their own rules on many matters, creating a pastiche of procedures that mystify many lawyers and clients.

Becoming more “bankruptcy friendly” may seem a strange goal, especially because there are only a handful of major corporate bankruptcy filings per year in Southern California. But backers of the plan say there are sound reasons for the changes.

Lawyers Concede They’d Like the Extra Business

For one, Southland lawyers admit that they’d like a bigger slice of the bankruptcy pie. Delaware gets 60% of all major corporate filings nationwide and a third of those in Orange and Los Angeles counties since 1990.

Secondly, they say Delaware filings put an unfair burden on creditors who are forced to travel across the nation to collect debts.

Finally, court officers say a single set of rules will reduce confusion among courtrooms and boost efficiency.

“We were looking at these cases drift elsewhere at a time when business was down to begin with,” said bankruptcy lawyer Marsha Dee Galinsky, of the Los Angeles law firm Sheppard, Mullin, Richter & Hampton.

The proposed rules, which will be considered by the Central District’s executive committee, would permit debtors quick action on emergency motions, such as whether to pay employees their wages in the first days of bankruptcy.

Currently, different bankruptcy judges treat such requests with varying urgency--something that frustrates lawyers and their clients.

“In some courtrooms, you get prompt action,” Galinsky said.

“In others, you’ll call the courtroom to set a hearing for an emergency motion and the phone call doesn’t get returned until four days later.”

The rules would also allow bankruptcy lawyers to be paid once a month instead of once each quarter, and would allow some legal paperwork to be done via e-mail.

Filing May Be Local, or in State of Incorporation

Under federal law, corporations may file for bankruptcy in either the state in which they were incorporated, or in the state where they are headquartered.

Due to the perception that Delaware’s corporate law is “business friendly,” many major corporations are incorporated in Delaware.

Because Chapter 11 bankruptcies are handled in federal court, the law governing debt restructuring is the same throughout the nation. What differs between jurisdictions are the local court rules.

Experts say Delaware is popular for bankruptcy filings because courts there are perceived as being faster, more predictable and friendlier to debtors.

In the last few years, Delaware Bankruptcy Courts have become so swamped that they’ve had to import judges from as far away as San Francisco.

Whether lawyers in California represent the debtor or creditors in a Delaware filing, the distance takes its toll, they say.

“It’s a hassle flying back and forth, both for the lawyers and the client,” says Jeffrey Golden, a bankruptcy lawyer with the Costa Mesa law firm Albert, Weiland & Golden.

“I think that once these rules are adopted, the word’s going to get around pretty quick,” said Golden, who helped draft the rules, along with Galinsky and several others.

Bankruptcy lawyers in California complain too that some debtors file in Delaware in an effort to shake creditors.

“Say somebody’s owed $25,000,” said Lei Lei Wang Ekvall, a partner in Golden’s firm. “That may be a lot of money to a small company, but it’s not enough to justify them flying two lawyers across the country to try and get it.”

By considering new rules, the Central District joins a growing list of federal Bankruptcy Courts trying to woo distressed firms who would otherwise make tracks for Delaware. Bankruptcy Courts in Chicago, Miami, Nevada and Texas have either adopted or are considering such changes.

If the rules are approved, which is likely, they would be implemented about May 1.

Some worry that Delaware is the wrong model for Bankruptcy Courts to follow.

Lynn M. LoPucki a UCLA Law School professor, says that Delaware reorganizations are accomplished faster than anywhere else in the nation, but that they fail more than anywhere else.

Professor Fears Change Will Make Filing Easier

LoPucki said California loses fewer cases to Delaware than most other states.

He fears that Southern California officials will make bankruptcy reorganizations so easy for corporations that executives might not take the tough financial steps needed to turn their enterprises around.

Although bankruptcy lawyers stand to benefit from the new rules, court officials say standardization will improve the processing of cases. They also say that the new rules are not identical to Delaware’s and that they won’t turn Bankruptcy Courts here into a rubber stamp for bankruptcy petitioners.

“I hope it’ll be a benefit to everyone involved,” said U.S. Bankruptcy Judge Vincent P. Zurzolo in Los Angeles, who also helped draft the rules. “It will make clear the appropriate procedures to follow to obtain emergency relief in Chapter 11 cases. That’s the principal impact.”