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Demystifying the Bankruptcy Process – Part Two

The COVID-19 pandemic has created a lot of turmoil in every industry and every company. For the last five months at least 171 companies in the energy, transportation, entertainment, health & personal care, retail, travel, lodging and leisure industries have cited COVID-19 as a factor in decision for bankruptcy.

The risk of dealing with a company in a financial distress is at all times high. Understanding the bankruptcy tools available to a company that is on the path to or already in a court-supervised reorganization can help you in managing and reducing this risk.

Reorganizations in a Nutshell: Chapter 11 of the Bankruptcy Code governs the restructuring of businesses and individuals’ assets and liabilities. It provides financially distressed companies and individuals with protections that are attractive for the debtor and unavailable in many other jurisdictions. Among the key benefits of the US reorganization regime are:

  • the management stays in control of the company and an outside trustee/administrator is not brought in unless there are extraordinary circumstances;
  • the company can cherry pick beneficial contracts and reject burdensome ones;
  • the company can sell its business, selected business lines or individual assets free and clear of any encumbrances or interests.

Chapter 11 filers choose to opt for bankruptcy relief for various reasons: to stop debt collection action, to revise unworkable capital structure, to address overwhelming litigation, to facilitate the sale of major assets to a prospective buyer, and to reject burdensome contracts, to name a few.

Chapter 11 brings all stakeholders to one forum and facilitates global resolution of claims and liabilities. It may have different impact on the different stakeholders and these mini-series will cover the impact of a bankruptcy proceeding on trade creditors, distressed asset buyers, landlords, and the art world. The final summary is intended to help small business owners better understand how valuable a tool Chapter 11 can be during a time of crisis by availing themselves of the new restructuring mechanism for businesses (and individuals with business debt) with undisputed liabilities that do not exceed $7.5 million.

Post-petition services and goods What if you are a supplier of goods and services faced with the decision to continue working with a Debtor in Possession.

A business may find itself in a difficult position if pre-bankruptcy payment default remains outstanding and the debtor still seeks performance post-petition. In general, a Chapter 11 debtor may assume, assign or reject an unexpired contract or lease at any time prior to confirmation of a plan. The confirmation of the plan may occur six months and more after the commencement of the case, which creates a lot of uncertainty for the non-debtor party to the contract.

In such a case, a trade creditor remains obligated to perform under the non-terminated contract so long as the debtor complies with its terms. Although the Bankruptcy Code mitigates further exposure by giving the administrative-expense priority over even secured claims, payment is not guaranteed. Under the appropriate set of facts, a contract counterparty may move the bankruptcy court to shorten that long waiting period the Debtor has for assumption and rejection. Bankruptcy courts have developed a multi-factor balancing test that weighs the harm to the movant against the harms to the bankruptcy estate. Courts rarely force a debtor into assuming or rejecting a contract. The reason for the reluctance is that the “interests of the creditors collectively and the bankruptcy estate as a whole will not yield easily to, what is perceived, as the convenience or advantage of one creditor out of many. Counterparties face significant hurdles in prevailing on such motions, but it is not impossible when the counterparty is significantly prejudiced.

Trade creditors in this situation should closely monitor the debtor’s post-bankruptcy performance and seek relief from the bankruptcy court if necessary.

Author: Albena Petrakov, Esq.
Articles have been Reprinted with permission from the charlotte observer and Mike Hunter.

* These articles and related content on this website are provided without warranty of any kind and in no way constitute or provide legal advice. You are advised to contact an attorney specializing in Association Management for legal advice related to your specific issue and community. Some articles are provided by thrid parties and online services. Display of these articles does in no way endorse the products or services of Community Association Management by the author(s).