Ethical Issues that arise in Bankruptcy

• Published date: 01 December 2014
• DOI: http://doi.org/10.1111/basr.12042
• Date: 01 December 2014

Ethical Issues that arise

in Bankruptcy

JACQUES BOETTCHER*, GERALD CAVANAGH, S.J., AND MIN XU

ABSTRACT

Bankruptcy is designed to give the debtor another chance

after a financial failure, and it is often an option that is

both more ethical and more efficient than liquidation. We

address some basic issues, such as whether Chapter 11

bankruptcy itself is ethical and what elements help one to

decide if a particular bankruptcy is ethical. There are

many chances for unethical acts during bankruptcy, such

as the ethics of a firm that files for Chapter 11 bankruptcy

yet has sufficient assets to meet its financial obligations,

or the often exorbitant fees that bankruptcy professionals

are allowed as well as the apparent partiality demon-

strated in some bankruptcy courts.

INTRODUCTION

Bankruptcy is a legal procedure for dealing with the

unmanageable debt of individuals, municipalities, or busi-

nesses (Baird 2006). Chapter 11 bankruptcy is the

*Jacques Boettcher, a long-time faculty member at UDM, died while this article was written

and before it was published.

Jacques Boettcher is an Associate Professor of Management and Finance, College of Business

Administration, University of Detroit Mercy, Detroit, MI. Gerald Cavanagh, S.J. is a Charles T.

Fisher III Chair of Business Ethics and Professor of Management, College of Business Admin-

istration, University of Detroit Mercy, Detroit, MI. E-mail: cavanagf@udmercy.edu. Min Xu is

an Assistant Professor of Finance, College of Business Administration, University of Detroit

Mercy, Detroit, MI. E-mail: min.xu@udmercy.edu.

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Business and Society Review 119:4 473–496

© 2014 Center for Business Ethics at Bentley University. Published by Wiley Periodicals, Inc.,

350 Main Street, Malden, MA 02148, USA, and 9600 Garsington Road, Oxford OX4 2DQ, UK.

chapter of the Bankruptcy Code that provides for the insolvency

of a business firm. Chapter 7 is the chapter of the Bankruptcy

Code that provides for liquidation (the sale of a debtor’s nonex-

empt property and the distribution of the proceeds to creditors.) A

bankruptcy proceeding has its own specialized judge who often

appoints a trustee who in turn oversees the debtor and meetings

of creditors (for definitions, see Table 1).

In this article, we focus on three questions: (1) Under what

circumstances is bankruptcy ethical? (2) Under what circum-

stances might bankruptcy be unethical, whether legal or

illegal? (3) What actions during bankruptcy proceedings can be

unethical?

We use concepts from the literature and case examples to

portray our responses to these research questions. We begin with

looking at bankruptcy in its historical context.

TABLE 1 Some Bankruptcy Definitions

Terms Definitions

Bankruptcy A legal procedure for dealing with debt problems of

individuals and business. A legal state of insolvency.

Bankruptcy

judge

A judicial officer of the United States district court with

decision-making power over federal bankruptcy cases.

Bankruptcy judges in each judicial district are a “unit” of

the United States district court and are appointed for a

14-year term.

Bankruptcy

trustee

A legal representative of a debtor’s assets who is responsible

for monitoring the debtor and the submission of operating

reports. The trustee conducts a meeting of the creditors

and monitors applications for compensation and

reimbursement.

Chapter 7 The chapter of the Bankruptcy Code that provides for

liquidation (the sale of a debtor’s nonexempt property and

the distribution of the proceeds to creditors).

Chapter 11 The chapter of the Bankruptcy Code that provides for

reorganization, usually involving a corporation or

partnership. A Chapter 11 debtor usually proposes a plan

of reorganization to keep its business alive and pay

creditors over time.

Corporation A corporation is an artificial person or legal entity created

under the laws of a state or nation that has privileges and

liabilities that are distinct from those of its members.

474 BUSINESS AND SOCIETY REVIEW