1. Secured creditors in insolvency: sharing the risk of insolvency?* Catherine Walsh McGill University 5-6 May 2008 Washington D.C. * More extensive material/references will be added before end July.

2. Benefits for SCs increases SC’s expected return in the case of default/insolvency; decreases probability of D’s insolvency or increases SC’s power to obtain payment before insolvency (D’s financial covenants; SC’s monitoring powers)

3. Benefits for Ds Gets instant liquidity but can continue to use encumbered assets in business; Reduced risk for SCs in theory(?) passed on to Ds in the form of enhanced access to credit and a reduction in the cost of credit

4. Costs for SCs investigation of D and collateral ; negotiation of the contract, including financial/collateral covenants perfection monitoring of D’s compliance with covenants collection in the event of default/ insolvency

5. [Additional costs] For Ds Administrative costs: self-monitoring, reporting, need to obtain consents Opportunity costs: covenants limits D’s freedom; encumbered assets can’t be used for new financing Reputational costs (?: notice filing supposed to reduce this but …)

6. Cost/benefit outcome (anecdotal) Ds prefer to borrow on unsecured basis Loans to financially healthy Ds often command only a small premium over secured loans. But risky Ds must choose between secured financing and no financing Risks for D of absence of debtor choice: predatory lending; situational monopoly

7. USCs: the full priority debate SC full priority reduces or eliminates the funds available to unsecured claimants If inefficient, inequitable, limitations (percentage carve out or special super- priorities or both) should be imposed by insolvency law

8. Countervailing benefits D’s liquidity means USCs will be paid SC monitoring reduces need for USC monitoring (but self-interested SC monitoring – inefficient insolvencies) USCs can adjust to increased risk (but non adjusting involuntary USCs) SC signals D is good credit risk (but only risky debtors borrow secured)

9. Securitisation Reduces assets available to USCs (carves out best assets) No compensating SC monitoring (therefore greater risk of D moral hazard) Misplaced originator and intermediary incentives for monitoring Less transparency

10. Why securitize in a reformed securitisation world? Reduction in bankruptcy costs (U.S.) For banks, increased lending capability (gone with Basel II) Is greater access to credit at lower cost an unqualified good?