Are Competing Bankruptcy Plans a Good Thing?

As LightSquared’s creditors get prepared to consider which of four reorganization plans to vote for, it bears noting how much Chapter 11 has been changed by the 2005 amendments to the bankruptcy code.

LightSquared has a plan. Harbinger, its hedge fund shareholder, has a plan. The banks have a plan. And then there is the plan from SP Special Opportunities, an entity that owns a large chunk of LightSquared’s debt and very little else.

SP was formed by Dish Network’s chairman, and its plan involves Dish taking over the debtor’s wireless spectrum. Who would ever guess?

None of this would have happened before the code was revised in late 2005. While those amendments are mostly known for making bankruptcy a more difficult process for individuals, one of the key changes was to limit a corporate debtor’s “exclusivity.”

Before 2005, Chapter 11 debtors had the exclusive right to file a plan at the beginning of the case, and that right could be extended for “cause.” Most Chapter 11 debtors went through their entire case without facing competing plans.

That all changed after 2005, and now the court can only grant a limited extension.

The real question is whether this is a good thing. The proponents of the change were probably thinking about the failed cases of the 1980s â€" especially those of Eastern and Pan Am Airlines - where the debtors frittered away their value without any real threat of losing control of the process.

On the other hand, LightSquared creditors may wonder if having such a bounty of Chapter 11 plans to choose from is such a great idea. At least they look to be a sophisticated bunch.

Imagine if a retail bondholder in the General Motors bankruptcy had had to sort through four Chapter 11 plans, each with very different views of the debtor’s value and how that value might be achieved.

That’s the sort of thing that empowers distressed debt investors, when the bondholders throw up their hands and sell out for pennies on the dollar.