What is structural subordination?
When a business is performing well, going about its day-to-day business and paying its lenders on time and in full, investors usually do not pay much attention to the legal entity that issued the bond they have invested in.
However, in a liquidation, the legal entity that issued the bond plays a significant role in determining recoveries due to “structural subordination”. In the case of a company that may re-emerge as a healthy company following a change in how it finances itself, “structural subordination” also affects the bargaining power of all parties involved in such out-of-court restructuring. Typically, existing capital providers across the capital structure take losses in an out-of-court restructuring, although such losses are not evenly allocated. Creditors who would otherwise achieve a better outcome in a liquidation have more bargaining power over those who do not and may demand better recoveries for themselves even in out-of-court restructurings where outcomes are negotiated.
