Bankruptcy Reform Law Limits Pay For Execs Of Ailing Cos

Apr 20, 2005

Kaja Whitehouse

NEW YORK (Dow Jones)–The bankruptcy-reform law signed by President Bush today will reign in compensation given to executives who work for bankrupt companies. The bulk of the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 targets consumers, making it tougher for individuals to wipe away their debts by filing for bankruptcy. Section 331 of the law, however, also seeks to get tough on excessive compensation packages paid to executives of ailing companies, which are often paid at the opposition of shareholders and rank-and-file workers.

Under the new law, corporate executives are forbidden from receiving so-called retention bonuses unless it could be proven that the money was essential to the retention of the employee. That means demonstrating, for example, that an executive who expects to receive a retention bonus has a “bona fide job offer from another business,” according to the law.

The amount of the bonus will also be limited by the bill to either no more than 10-times the amount of the mean of severance pay given to non-management employees, or to an amount not exceeding 25% of similar compensation made to the executive the previous year.

The law limits severance payments, or compensation generally paid to those who are forced out. Severance packages for executives can only be approved when they’re part of a program made available to all full-time employees. The law also seeks to limit the amount of payment offered in executive severance packages to no more than 10-times the amount of the mean severance pay given to non-management employees.

Section 331 also adds language that seems aimed at a broad-brush prevention of abnormal compensation paid to officers, managers and consultants hired after the date a corporate bankruptcy petition is filed. It disallows any payments made “outside the course of business and not justified by the facts and circumstances of the case” to these groups.

Retention bonuses and other financial perks provided to executives of bankrupt companies in an attempt to keep them from jumping ship are part of what’s known as key-employee retention programs, or KERPs. KERPs have come under fire in a number of high-profile corporate bankruptcies in recent years, including that of Enron Corp., which paid millions in bonuses to select employees, officers and executives in the days prior to its bankruptcy filing, yet only required the recipients to remain with the ailing company for 90 days.

The law provides “a level of predictability for all sides involved,” said Donald Kirk, an attorney with Fowler White Boggs Banker in Tampa. Executives know what they will be getting, as do the creditors, shareholder and rank-and-file employees, he said.

The law could also stem litigation over KERPs, which has been widespread in recent years, said Kirk. “In almost every big case the retention bonus has been litigated,” he said.

Opponents of the law have argued that the measure will hinder companies from rising out of bankruptcy by limiting what they can offer to retain the best people for the job.