Bankruptcy: Chapter 11

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Chapter 11 filings, or re-structuring, work effectively, whether you’re a small business owner, or a massive multinational corporation who has $640 billion in assets, as Lehman Brothers did when they declared Chapter 11 in 2008. That is the record for the largest bankruptcy in American history. Texaco held the record for over a decade, when they declared with $36 billion in assets in 1987. Since then, companies such as Washington mutual, Worldcom, GM, CIT Group, Enron, Conseco, MF Global, and Chrysler have all dwarfed that filing. And, while some mega-companies have, especially over the past 5 years, declared Chapter 11 with hundreds of billions of dollars in assets, the same advantages to filing Chapter 11 work for big conglomerates and small business owners alike.

The greatest advantage to Chapter 11 is that 11 U.S.C. §1108 debtor’s business to continue operating. Here, the debtor is known as the ‘debtor in possession’, and will continue to run the business, unless a special trustee is appointed for cause. Chapter 11 grants the debtor in possession many different ways to restructure its business. These include the power: to reject and cancel contracts; to acquire financing and loans by giving new lenders first priority; and protection from other litigation by imposing an automatic stay.

When a company files for Chapter 11 bankruptcy, a trustee is assigned to the case by the courts. The trustee is responsible for monitoring: the debtor in possession’s operation of the business, the submission of operating reports and fees, applications for compensation, reimbursement by professionals, plans and disclosure statements filed with the court, and creditors’ committees. A creditors’ committee, which can be appointed by the trustee, consists of unsecured creditors who hold the seven largest unsecured claims against the debtor. 11 U.S.C. § 1102. The committee can: consult with the debtor in possession on administration of the case; investigate the debtor’s conduct and operation of the business; and participate in formulating a plan. 11 U.S.C. § 1103. A creditors’ committee may hire an attorney, and this underscores the importance for the debtor to have competent representation.

The trustee might be unable to find creditors willing to serve on a creditors’ committee. This is common in what the Bankruptcy code calls a “small business case”. 11 U.S.C. § 101(51C). To be considered for ‘small business’ status,  the debtor must be engaged in commercial or business activities debts totaling $2,343,300 or less, and the  trustee has not appointed a creditors’ committee, or the court has determined the creditors’ committee is insufficiently active. 11 U.S.C. § 101(51D). A small business debtor in possession will file with the trustee: the most recently prepared balance sheet; a statement of operations; a cash-flow statement; and the most recently filed tax return. These filings will need to be made throughout the bankruptcy proceedings, on an ongoing basis. 11 U.S.C. §§ 308, 1116. The small business owner must attend an “initial interview” with the trustee to evaluate the business’s viability, inquire about the business plan, and explain certain debtor obligations including the various reports. 28 U.S.C. § 586(a)(7). The benefit to being a ‘small business’ case, is that they usually proceed quicker, and can be far less contentious.

Without the ‘small business’ designation, a Chapter 11 case can include many motions and lawsuits, including: lien avoidance actions; actions to avoid preferences; actions to avoid fraudulent transfers; actions to avoid post-petition transfers, complaints to determine the validity or priority of a lien, complaints to revoke an order confirming a plan, to determine the dischargeability of a debt, to obtain an injunction, or subordinate a claim of another creditor. With so many various legal battles within a bankruptcy proceeding, it is important that you have an experience, skilled attorney.

It is important to note that the chapter 11 bankruptcy case of a corporation does not put the personal assets of the stockholders at risk. But, a sole proprietorship does include both the business and personal assets of the owners-debtors. In a partnership bankruptcy case, the partners’ personal assets can sometimes be used to pay creditors in the bankruptcy case.

Once the debtor submits a reorganization plan, the creditors and the company’s stockholders vote on it. Even if they vote down the plan, the court can still go ahead with it if the creditors approve. Once the court approves the plan, the Chapter 11 bankruptcy is certified and confirmed. Now the debtor must comply with the plan and make the proper payments to the creditors. As long as the proper payments are made, the corporation can continue operating as if nothing ever happened, except a mark on the credit rating and fallen stock prices.