In 2005 Congress added section 503c of the Bankruptcy Code that prohibits companies in bankruptcy from providing severance payments to insiders such as CEOs that is more than 10 times the average severance pay for non-management employees. When Senator Edward Kennedy proposed this addition to the Bankruptcy Code, he expressed concern over the “glaring abuses of the bankruptcy system by the executives of giant companies like Enron, WorldCom and Polaroid who lined their own pockets but left thousands of employees and retirees out in the cold”
Tom Horton, who was appointed CEO of American Airlines when it filed for bankruptcy in November 2011, was unsuccessful in his recent attempt to circumvent this restriction.
As the American Airlines bankruptcy plan was submitted, Horton would step down as CEO of American Airlines and be appointed as the chairman of the board for new company, and get severance compensations of $19.875 million, 50% in cash and 50% in the new company’s common stock.
American Airlines contented that Horton’s severance payment is not subject to the requirements of Section 503c because the payment will be paid by the new company and not by old company.
But Judge Sean Lane who is overseeing the American Airlines bankruptcy called that argument “somewhat of a legal fiction” because the money was Horton’s reward for his work at American Airlines, not at the new company, which will be called American Airlines Group Inc.
He continued “Court finds that section 503c prohibits the authorization of the $20 million severance payment to Mr. Horton.” and “given the history and intent of Section 503c, courts disfavor attempts to bypass the requirements of section 503c.”
This is not the first time American Airlines management faced a backlash over executive compensation. In 2001 then CEO Donald Carty was forced to resign after union leaders discovered he was planning to award bonuses to management while at the same time claiming the company was in financial trouble and demanding lower wages and benefits from its unions.
