About Golden Shares

Golden Shares are equity interests with the power, within a corporate structure, to control a vote on some issue. Typically such shares are issued to creditors, who want to enforce superior rights in the event of a loan default, rather than being derailed by the equitable processes of Federal bankruptcy.  In such a case, a bankruptcy cannot be filed by a company unless the Golden Shares vote in favor.

Federal bankruptcy policy does not permit a creditor, before bankruptcy, to obtain a waiver of the company’s rights to file for bankruptcy.  If such waivers were permitted, every creditor would ask for one.  And the benefits of bankruptcy, including possible rehabilitation and fairness to creditors, would be thwarted.  Thus such agreements in all forms typically have been voided as against public policy.

But a bankruptcy court has no power to act upon any case unless, as a matter of proper corporate procedure, the bankruptcy case is duly authorized in the first instance.  If Golden Shares are properly included in the charter of a company, and thus corporate authority cannot be obtained to file the bankruptcy which thus gives the bankruptcy court any power, how can the bankruptcy court ever get so far as to over-rule the Golden Share’s power to ban bankruptcy?

The recent Federal District court case of In re Franchise Services permitted enforcement of Golden Share power, based on the following distinction: if the holder of Golden Shares got the shares for little or nominal consideration, then they really are not true corporate shares with enough economic interest within the debtor company to be given the vote, but rather they are just a gimmick to try to end-run public policy.  But in this case, the lender was a bona fide hard money equity investor, and as such could legally bargain for a control over bankruptcy to protect its investment.  The lender here only became a creditor after it was a material investor.  The Golden Shares were not a gimmick, but negotiated corporate rights afforded to a bona fide equity holder, and thus those shares could be properly voted as part of requisite corporate action and thus could be used to bar bankruptcy.

The case is on appeal to the Fifth Circuit, and there are prior cases on either side of this issue, so stay tuned.  And even if the decision in this case is upheld (that is, the Golden Shares of real equity investors can be sued to block company bankruptcy filing), there remain the following issues: Golden Shares obtained only to veto bankruptcy still will be ignored; it is not clear what metric should be used to measure the adequacy of the size of the equity interest needed to uphold the Golden Shares power; it is not clear as to the rights of an equity holder + lender if both the equity interest and the loan are made at the same time that the Golden Shares are issued (a not unusual business structure.)

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