Dive Brief:
- Companies paid some $165 million in retention bonuses to executives in advance of Chapter 11 bankruptcies in 2020, according to an investigation by the Government Accountability Office.
- Those bonuses were given without any court approval. Retailers account for a hefty fraction of 2020's pre-bankruptcy bonuses, with J.C. Penney, GNC, Neiman Marcus, Ascena Retail Group, Tailored Brands and Tuesday Morning paying bonuses ahead of their respective bankruptcies.
- The GAO recommended that Congress take up the issue and consider making provisions in the U.S. bankruptcy code that would clearly subject such bonuses to court oversight.
Dive Insight:
Pre-bankruptcy bonuses have become so commonplace that they are often an indication that a Chapter 11 is imminent. Retail likely accounts for an outsized share of such bonuses, for the simple reason that the retail represents the most bankruptcies of any other industry except the oil and gas field, according to Debtwire data.
The retailers listed above each paid millions in retention bonuses to key executives in the months, weeks or even days before filing.
J.C. Penney, for example, paid $10 million in retention bonuses to top managers just days before the company filed. That included more than $4 million to then-CEO Jill Soltau, who would go on to leave company shortly following its acquisition by Simon Property Group and Brookfield Asset Management later in the year.
Such bonuses are subjected to strict court oversight if they are paid during bankruptcy, after Congress in 2005 put tight restrictions on executive bonuses in the Bankruptcy Code.
As the GAO details, for a bankrupt company to pay a retention bonus, the executive must have an actual job offer for the same or greater compensation, the executive's services must be essential to the company's survival, and the bonus can't be greater than 10 times average bonus to non-management employees. No such rules apply to bonuses ahead of a bankruptcy.
The bonuses are ostensibly paid to keep a management team in place so that a company can survive a court restructuring or sale. That assumes executives would jump ship in the short term without the payouts, and that their work at the company is essential to its immediate survival.
Aside from the optics of paying millions to the managers of a company that can't meet its financial obligations, the bonuses represent cash not there for creditors during the Chapter 11 process. That matters especially as several retail bankruptcies, including that of Toys R Us, have left vendors shortchanged and employees without jobs or meaningful severance.
Executives at Toys R Us have been sued by former vendors for a host of things, including pre-bankruptcy bonuses. According to emails brought to light in litigation in early September 2017, then-Toys R Us CEO Dave Brandon and his chief talent officer learned from their restructuring attorneys at Kirkland & Ellis that any bonuses and their amounts would be under much greater restrictions during a bankruptcy. Their solution was to pay themselves bonuses — including $2.8 million to Brandon — mere days before Toys R Us filed for Chapter 11.
Some experts say such bonuses could be clawed back by unsecured creditors through lawsuits, such as the one filed against former Toys R Us leaders. The GAO report notices that the Bankruptcy Code's fraudulent transfer provisions could be used by unsecured creditors and other affected parties to rein in pre-bankruptcy bonuses. But such litigation is expensive, the arguments are difficult to prove and the outcomes are always uncertain.
That means, under the status quo, most bonuses would likely remain intact. As David Farrell, a partner with law firm Thompson Coburn, told Retail Dive earlier this year: "Worst case, you might have to give some of it back, but probably not all of it. And you might get away with getting to keep all of it. So what's the downside? I mean, there's reputation and the public scrutiny that comes with this. But that doesn't seem to be a big inhibition [for] any of the executives so far."
