About 50% of businesses fail in their first 5 years according to Gallup, although a Forbes analysis put the failure rate as high as 80% for new businesses within their first 18 months. Regardless, these figures should not discourage anyone from starting one or even continuing operations if the business fails to yield a profit in its first year or two of operation, or takes a downward turn after years of success.
In some cases, it may take a change of strategy or replacing employees; in other circumstances, downsizing may offer some relief. For your corporation or business that is struggling and may be overwhelmed by debt and facing lawsuits and collection activities, a fresh start after a Chapter 11 bankruptcy might be your best option.
The Different Bankruptcy Chapters
There are different chapters under the bankruptcy code to be used by different entities — e.g., individual debtors, small businesses, or very large companies — and for different purposes. A Chapter 7 is a liquidation filing where the business operations cease and nonexempt assets are sold off by the trustee to the creditors in order of priority. A Chapter 13 is a debt reorganization whereby creditors are paid back in order of priority over a 3- or 5-year period. This chapter is a viable option for individual debtors under certain circumstances and by small business owners.
A Chapter 11 bankruptcy is primarily used by large business entities such as corporations, LLCs and partnerships, though individuals and smaller businesses can use this type as well. It is not a liquidation, but allows the business to continue operating while downsizing, finding new revenue sources or considering other strategies while not being subject to lawsuits or seizures.
In any bankruptcy filing, an automatic stay of all collection activities, lawsuits and legal claims goes into effect once the petition is filed.
How a Chapter 11 Can Help
A Chapter 11 is a restructuring of your business under a reorganization plan that allows you to continue operating while you are in the position of a fiduciary and possessing the authority of a bankruptcy trustee as the debtor in possession, though the court will monitor your activities. Your company pays back its creditors but for much less than the original obligations while you can renegotiate contracts with vendors, landlords or unions.
As debtor in possession, you or your board can lay off employees, engage in litigation, sell off assets and secure new sources of funding. You can also seek and accept loans.
A caveat is that if the creditors are displeased with how you are operating your business or claim you are violating your fiduciary responsibilities, they can request that someone else step in to run the operations if it is in the best interests of the company and the bankrupt estate.
The Initial Filing
Like any other bankruptcy, once you file the petition, an automatic stay goes into immediate effect under 11 US Code Section 362. The stay applies to any current lawsuits as well as ongoing collection activities by creditors.
As the corporate or business debtor, you are generally required to file a Disclosure Statement and Reorganization Plan within 120 days after filing and have the exclusive right to have it approved or rejected within 180 days after filing. This statement informs the creditors about the company’s affairs so it can make an intelligent and informed decision about the reorganization plan. The statement includes all relevant information about the company and the proposed reorganization including:
- Company history
- Circumstances that led it to file for Chapter 11
- Details of ongoing or pending litigation affecting the company
- Identification and valuation of its assets, including accounting and valuation methods
- Sources of information pertaining to company assets and any other relevant information
- List of liabilities and what creditors can expect to receive
- Comparison to what creditors would receive under a Chapter 7 filing
- How feasible the planned reorganization will be
- List of accounts receivables
- Tax consequences of the proposed reorganization
Summary of the Plan
The bankruptcy court must approve the statement before a reorganization plan can be approved. If it does approve the statement, then the court serves or submits to all creditors copies of the statement and plan or a summary of the plan and sends out notices of when acceptance or objections must be filed. A confirmation hearing regarding the plan is scheduled and all creditors are advised.
A committee consisting of unsecured creditors is formed to represent their interests. In some cases, there may be several committees. When the plan is prepared and distributed to the committees, they vote on whether to accept it. The reorganization plan categorizes the creditors into four classes with secured creditors having priority and with each class voting on acceptance or rejection.
In some cases, creditors may have the plan forced on them in a “cram down” so long as the debtor convinces the court that the plan is fair and equitable and does not discriminate against any class of creditors.
Confirmation and Implementation
It is not unusual for there to be a number of plans from the creditors’ committees competing for acceptance that are filed after the 120-day period of exclusivity has expired and no plan has been submitted, or after an additional 60 days if a plan was offered but was rejected. All the plans are examined by the court and must meet all the requirements, including filing of a Disclosure Statement and being voted upon. Once a plan is accepted, the company is obligated to follow it. The plan may provide for the sale of assets, and renegotiation of leases and labor contracts, although these and any other major business decisions must be approved by the court. The U.S. Trustee oversees the business operations and the submission of operating reports. Normally, the business must make a monthly payment for the benefit of the creditors.
Can Your Company Grow Under Chapter 11?
Many companies have thrived under Chapter 11, including many of the large airlines, such as Delta, United and US Airways. Other success stories include General Motors, Sbarro and Eddie Bauer. Some of these companies were acquired by others but retained their brand names and many of their employees and directors.
History seems to show that larger companies tend to succeed under Chapter 11 but that does not rule out the chances of re-energizing a smaller business. Statistics also indicate that debtor companies that are brick and mortar, have a viable long term plan to becoming profitable and can work out legal disputes with vendors, creditors and suppliers, are more likely to successfully emerge from bankruptcy.
There is no time limit on how long a company can or must remain in Chapter 11 and some businesses stay in Chapter 11 for several years. A party in interest, however, such as a creditor, has the right to move the court to convert the Chapter 11 to a Chapter 7 or to dismiss the case “for cause” for reasons that include a record of continuing losses to the estate or gross mismanagement. If the business is growing, though, it may continue in Chapter 11 until all debts have been paid as contemplated in the approved reorganization plan.
The framework for a successful company can be established by the plan. Onerous contracts can be renegotiated, new management can run operations or pursue a different approach, new lease agreements may be made and fresh sources of revenue or loans found that can jumpstart your company without having to handle lawsuits or collection activities. Once your company successfully emerges from Chapter 11, you will have a new structure in place that has been shown to be working and generating income.
Retain the DCDM Law Group
Filing for Chapter 11 is a complex process that demands the skills and resourcefulness of attorneys who are well-versed in the process and can advise on what you will need to do to prepare your company for a new beginning.
If your company is having debt problems that are interfering with growth and profits, look to the DCDM Law Group to discuss legal options such as Chapter 11 bankruptcy. Filing is not an admission of failure but a legal process that gives you an opportunity to turn your business into a profitable one. The highly experienced and business-oriented attorneys at the DCDM Law Group will help you devise a reorganization plan along with sound business strategies to help give your business a fresh financial start.