The Law Offices of Ken McCartney P.C.

PT Chapter 11

 

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1.  WHAT IS MEANT BY REORGANIZATION?

The bankruptcy code anticipates certain worthwhile for-profit organizations or enterprises having the current inability to continue their activities because of pressure from creditors. The Code provides various operative chapters that make available protection from the disruptions of creditors to make it possible for a business or individuals to straighten out its affairs. These programs work well dealing with unsecured creditors. They work less effectively with secured creditors.

 

2. HOW DOES CHAPTER 11 WORK?

Chapter 11 is the mainstay of the reorganizational chapters.  It applies to corporations, partnerships, individuals and husbands and wives as a unit. It has no debt limits or barriers. After filing a petition, the bankruptcy automatic stay comes into place and protects the debtor from the actions of creditors while the debtor works with its creditors for the purpose of proposing a plan for the payment of debt. 

 

3. WHAT DOES IT TAKE TO BE SUCCESSFUL IN CHAPTER 11?

Hard work, a good lawyer, maybe a little luck and a business that would have made it but for an event that will not repeat itself.  Many times failed business seek Chapter 11 on the way out of business as a last grasp effort in a hopeless situation.  Unfortunately, these skew the statistics; but given the failed state of all initial applicants, it comes as no surprise that the success rate of Chapter 11's is very low.  Mansville made it. Texaco will probably make it.  But Wyoming had a fine governor that did not.  He is not the exception.  It usually takes new management, new capital or a substantial reduction in the sphere of influence to make a plan work.

        Another good indicator is the extent of the debtor's equities.  There are not many businesses that will pay for themselves.  If a Chapter 11 debtor has some paid for property (equity), the chances of success go way up. If a Chapter 11 debtor has a competitive advantage that makes possible reorganization, but no equities, there is hope but not good odds.  Holding on to an operation after a marginal season to see if things improve is not the best case scenerio.

 

4.  WHAT HAPPENS WHEN A CHAPTER 11 IS NOT SUCCESSFUL?
A  Chapter 11 may be converted to Chapter 7 by the Court on its own motion or on the debtor's request if the Court approves. It may also be dismissed by the Court on its own motion or on the motion of the debtor. Unlike Chapters 12 and 13, the Court decides what is to happen to a Chapter 11.

        Many Chapter 11's are filed for the purpose of winding down the affairs of the debtor, oftentimes with the stated purpose of closing out business so that a debtor can maximize its values for the benefit of those concerned under protection of Chapter 11.

 

5.  WHAT DOES IT COST TO FILE CHAPTER 11?
Each case varies depending on how complicated a Chapter 11 it is. There have been cases that have cost millions of dollars. Using Chapter 11 is more complicated than every other chapter. Seldom do attorney fees in Chapter 11's in the author's law office run under $10,000.00, which would indicate, roughly, that even the simplest Chapter 11 costs ten times as much as a Chapter 7.

 

6.  WHO MAY BECOME A CHAPTER 11 DEBTOR?

Most business enterprises qualify for Chapter 11 bankruptcy. Notable exceptions are trusts. Individuals without businesses may continue to qualify, although the case law is mounting to restrict Chapter 11 to businesses.

 

7.  HOW WILL CHAPTER 11 ALLOW LONG-TERM SECURED LOANS TO BE TREATED ?

Chapter 11 allows a debtor and willing creditors to remake a loan anyway they like. It allows the debtor to remake its obligation to an unwilling creditor only if certain rigorous criteria are met. They include:

    a. An otherwise successful reorganization being probable.

    b. the Chapter 11 estate paying to creditors at least as much as they would receive if a Chapter 7 case were filed;

    c. that at least one class of creditors accept the debtor's proposed plan;

    d. that the debtor's plan meet all the requirements of Chapter 11;

    e. that the treatment of unaccepting creditors be "fair and equitable", which is whatever the court finds it to be, but does include a string of cash payments with a present value at least equal to the value of the creditor's claim while the creditor's collateral remain.

 

8.   HOW WILL CHAPTER 11 ALLOW SHORT-TERM SECURED CLAIMS TO BE TREATED?

Short-term secured loans can be amortized and paid over time as described in question number 7. They may also be treated as unsecured claims where collateral value is less than the loan pay.

 

9.  HOW WILL CHAPTER 11 ALLOW UNSECURED CLAIMS TO BE TREATED?

Unsecured claims may be paid any way to which the creditors will agree. If a Chapter 7 pays 10%, many times unsecured claimants can be talked into accepting 20% or even 12% on their claim. There are now cases holding that objecting unsecured creditors must be paid or talked into accepting their treatment if the debtor retains any property (i.e., the business even if the business has no equity)(1) unless the debtor contributes new capital to the enterprise. Chapter 11, more so than Chapter 12, requires unsecured creditor cooperation.

 

10.  WHAT IS AN 1111(b) ELECTION AND HOW DOES IT EFFECT UNDERSECURED CLAIMS?

This complicated provision in Chapter 11 allows a creditor who feels its collateral value may increase and that the debtor is not probably going to reorganize, to ride its collateral. When this election is made, the debtor need make only total payments that equal the creditor's total claim (contrast the secured portion where the present value of the payments must equal the total secured claim). Most long-term loans will have total payments that exceed the claim. This election sacrifices the creditor's ability to have the unsecured portion of its claim treated as an unsecured claim. It has the benefit that if the debtor fails in the future, the collateral is subject to the creditor's full claim and not the confirmation date value on the remade loan.

 

11.  WHAT IS MEANT BY THE "ABSOLUTE PRIORITIES RULE" AND DOES IT APPLY TO INDIVIDUALS AS WELL AS CORPORATE DEBTORS?

A Chapter 11 must pay a fair and equitable payout to creditors that do not accept the plan. The code allows the bankruptcy judge to find any treatment of a creditor's claim fair and equitable, but provides that if the debtor or no lower class of claimants retains property, no payment is necessarily required for an unsecured creditor to be treated fairly and equitably.(2) This priority rule is known as the Absolute Priorities Rule. The jurisdictions split on whether or not it applies to the retention of property by an individual as well as a corporate debtor.

 

 

12.  WHAT IS ADEQUATE PROTECTION?

It is that to which you can get the other side to agree. It is what a debtor offers and a creditor accepts in lieu of relief from the automatic stay. It is what a debtor must come up with to avoid losing secured property after filing Chapter 11 to a creditor that wants its collateral. Litigating it is often the central confrontation in most Chapter 11's. It is the threshold issue in the major showdown right after filing a reorganization case with secured creditors.

        What it is, no one knows for sure. The legislature intentionally left it nebulously defined to encourage the parties to agree. It is tried by the court in terms of "your offer is adequate or it is not", as the court does not decide what would be an adequate offer. It is something designed to protect the creditor's collateral from dissipating during the reorganization. At least in this district, that does not include compensation for lost opportunity costs. At a seminar I attended in Chicago, I heard an attorney who was involved in the Congressional Bankruptcy Code drafting process say that a Stay Relief Application should be tried by the Post Office so it would never get there if the parties could not define it themselves.

 

13. CAN A CHAPTER 11 DEBTOR USE A SECURED CREDITOR'S COLLATERAL AFTER A PETITION IS FILED?

Yes. It can be sold or leased with permission of the creditor or the court. It can be used in the normal course of business unless the creditor seeks and is allowed relief from the automatic stay to commence or continue a foreclosure action.

 

14.  WHO OPERATES THE DEBTOR'S BUSINESS AFTER A CHAPTER 11 PETITON IS FILED?"

The debtor operates as a fiduciary for the creditors. and is known as the debtor-in-possession. There are rigorous monthly reporting requirements, but basically unfettered business discretion. In the event of misconduct, a trustee can be appointed to take the place of the debtor-in-possession.

 

15.  ARE THERE ANY SPECIAL REPORTING REQUIREMENTS AFTER CHAPTER 11 PETITION IS FILED WITH WHICH A DEBTOR MUST COMPLY?

Yes. Periodic reports are required, usually monthly for active businesses and quarterly for inactive businesses. Since the United States Trustee's Office became operational -- a branch of the bankruptcy court system -- this reporting system has been onerously scrutinized.

 

16.  ARE THERE REASONS FOR FILING A CHAPTER 11 PETITION IN A CASE WHERE A COMPLETE REORGANIZATION IS NOT VERY PROBABLE?

Yes. Oftentimes a liquidation results in maximum recoveries if it is accomplished without interference from judgment creditors and can be done in an orderly fashion. While a sale out of Chapter 11 is not the best liquidation format for maximum results, it is frequently preferable to a Chapter 7 Trustee's reckless abandon.

 

17.  DOES ANYONE EVER GET A CHAPTER 11 PLAN CONFIRMED?

Yes, the author takes pride in his confirmation rate as opposed to total number of filings. If you have doubts about the competency of your representative, ask for a list of confirmed cases or prior clients that you may contact prior to retaining counsel for representation in Chapter 11 cases. This statistic separates occasional filers from bankruptcy attorneys.

 

18.  WHAT STEPS ARE INVOLVED IN FILING A CHAPTER 11 BANKRUPTCY?

The filing process includes the submission to the court of a petition requesting relief under Chapter 11 of Title 11 of the United States Code, various disclosures that a debtor has been advised of alternatives and chosen Chapter 11 voluntarily, written answers to over twenty questions about a debtor's affairs, lists of all assets a debtor owns on the petition date, and lists of all liabilities owed on the petition date. This information is submitted on forms verified as true and accurate by the debtor to the bankruptcy court, together with a filing fee of currently $1039.00.

        Normally the papers are prepared by counsel for the debtor from information provided for that purpose by the debtor. This information does not, however, get sent to the debtor's creditors unless a special request is made and copy costs tendered to the bankruptcy court. Instead the court mails out, to all scheduled creditors, a copy of a court order that sets the meeting pursuant to code section 341, announces the dates limiting the creditor's ability to file proofs of claim objections to discharge and dischargeability, and various other administrative matters.

 

19.  WHAT STEPS OCCUR AFTER A CHAPTER 11 IS FILED?

Nothing happens automatically. The meeting of creditors is held, usually within 30 days, and there are appearance requirements for that. The debtor has an exclusive period of 120 days in which to file a plan, but no plan is absolutely required during that period. The real "Chapter 11 process" occurs during this period as the debtor works out arrangements for adequate protection and long-term treatment of its creditors that are suitable for inclusion in a Chapter 11 plan. If no significant effort to reorganize (make deals with creditors) takes place, the case may be dismissed on the motion of any interested party.

        Current rules require the debtor to disclose all of the cash and debt transactions that take place during operations under Chapter 11 by the filing of monthly financial statement reports that are available at the courthouse for interested creditors.

 

20.  WHAT SHOULD A CREDITOR DO IF HE RECEIVES OFFICIAL NOTICE THAT A DEBTOR HAS FILED CHAPTER 11 BANKRUPTCY?

A Chapter 11 creditor needs an attorney. The intricacies of Chapter 11 evade coverage in this pamphlet. Suffice it to say substantial extended creditor participation is possible in Chapter 11, and almost without fail it is beneficial to be involved.

 

21. CAN A DEBTOR PAY PREPETITION CLAIMS?

Yes. Restrictions exist against paying pre-petition unsecured debts. There are some restrictions against paying pre-petition secured claims and leases.  Normally, current operating expense payments, are left to the discretion of the Debtor.

 

22. HOW DOES A DEBTOR GET OUT OF CHAPTER 11?

There are three ways out of Chapter 11. Dismissal of the case with no permanent relief, conversion of the case to another chapter under the bankruptcy code or confirmation of a plan of reorganization. The latter is the normal course. A plan and disclosure statement are filed, a hearing is held on the adequacy of the disclosure statement, and when it is approved, the plan and disclosure statement are mailed to the debtor's creditors together with a ballot for accepting or rejecting the debtor's plan. A hearing is then held on confirmation wherein the court decides whether or not the debtor's plan will take effect. Many of these hearings are consensual -- with all parties in agreement. Some confirmation hearings are bitterly contested and can take several days of court time.

 

23.  WHAT IS REQUIRED AFTER A CHAPTER 11 PLAN IS CONFIRMED?

The post-confirmation process is called consummation and will vary depending on the terms of the plan. It may involve the conveyance of property, payment of creditors' claims or merely the continuation of an ongoing process.

 

24.  CAN ANOTHER BANKRUPTCY BE FILED AFTER A CHAPTER 11 IS CONFIRMED?

Relief is available. There is a split of legal authority on whether or not the remade debts of one Chapter 11 may be remade by a subsequent Chapter 11 or whether the process requires modifying the first Chapter 11. Post-confirmation modification is a limited process compared to what can be done in an original Chapter 11.

 

25.  WHAT IS MEANT BY "CRAMMING DOWN" A CREDITOR'S CLAIM?

A creditor that does not accept a debtor's Chapter 11 plan can be required to go along with the program if more than half in number and more than two-thirds in amount of the creditors in the same class accept the plan.

        This gets technical, but if you need to ask, the answer follows: If a class of claims does not accept a plan, the court can, nonetheless, confirm the plan if the class of claims is treated "fairly and equitably." The code does not absolutely define what "fair and equitable" includes. It does, however, provide examples of fair and equitable treatment for each potential creditor:

    a. With respect to a class of secured claims, the plan provides--

        (i) that the holders of such claims retain the liens securing such claims, whether the property subject to such liens is retained by the debtor or transferred to another entity, to the extent of the allowed amount of such claims; and

        (ii) that the holder of a claim of such class receive on account of such claim deferred cash payments totaling at least the allowed amount of such claim, of a value, as of the effective date of the plan, of at least the value of such holder's interest in the estate's interest in such property;

        (iii) for the sale of any property that is subject to the liens securing such claims, free and clear of such liens, with such liens to attach to the proceeds of such sale, and the treatment of liens on the proceeds under clause (i) or (ii) above; or

        (iv) the realization of such holders of the indubitable equivalent of such claims.

    b. With respect to a class of unsecured claims--

        i) the plan provides that each holder of a claim of such class receive or retain on account of such claim property of a value as of the effective date of the plan, equal to the allowed amount of such claim; or

        (ii) the holder of any claim or interest that is junior to the claims of such class will not receive or retain under the plan an account of such junior claims or interest in property.

    c. With respect to a class of interests (i.e. stockholders)--

        (i) the plan provides that each holder of an interest of such class receive or retain on account of such interest property of a value, as of the effective date of the plan, equal to the greatest of the allowed amount of any fixed liquidation preference to which such holder is entitled, any fixed redemption price to which such holder is entitled, or the value of such interest; or

    (ii) the holder of any interest that is junior to the interests of such class will not receive or retain under the plan on account of any such junior interest any property.(4)

 

26.  HAVE THE COURTS  MADE DECISIONS TO GUIDE UNDERSTANDING THE COMPLEX CHAPTER 11 CODE LANGUAGE?

Yes, many of them! Our office subscribes to several library services that constantly report decisions of this sort. Many such services publish bi-monthly. They are especially meaningful when a new law takes effect or when they report a particularly interesting appellate court decision in our district.

 

27.  DO ALL CREDITORS HAVE TO ACCEPT A DEBTOR'S PROPOSED PLAN?

No. "Cram down" can occur without consent, or majorities can rule.

 

28.  HOW MANY VOTES DOES IT TAKE TO HAVE A CLASS OF CREDITORS DEEMED TO HAVE ACCEPTED A CHAPTER 11 PLAN'S TREATMENT OF THE CLASS?

Confirmation requires that a class of claims or interests vote by two-thirds in dollar amount and more than half in number. Since many times a class consists of just one secured creditor, however, it takes that creditor's vote or the implementation of the cram down provision.(5)

 

29.  WHAT IS SUPPOSED TO BE CONTAINED IN A "DISCLOSURE STATEMENT"?

There are no statutory definitions other than information adequate to make it possible for a creditor to make an informed decision on the debtor's plan. This makes possible a very abbreviated form in a no contest situation and can involve multiple objections in a contested matter. Many creditors wishing to fight a debtor at every stage of the proceedings vigorously contest disclosure statements.

 

30.  WHO MAY FILE A CHAPTER 11 PLAN?

The debtor can do so exclusively for 120 days after a petition is filed, although the court may shorten or lengthen the time period on application. The appointment of a trustee automatically shortens the period to the date of the trustee's appointment. Thereafter any party in interest, including the debtor, the trustee, a creditor, a creditors' committee or an equity security holder's committee may file a plan.

 

31.  WHAT DOES AN UNSECURED CREDITORS' COMMITTEE DO?

A group of the debtor's largest unsecured creditors is appointed by the court to a committee in each Chapter 11 case with unsecured creditors.

        In a big case they can be an effective watchdog over the debtor's activities, as the court system normally allows the committee to receive information directly from the debtor such as monthly reports that would be too costly to mail to all creditors.

        In small cases, however, the appointment to such a committee is often a liability. The estate, on application, can be charged a committee's expenses including counsel and accountant's fees; but if the estate does not have the ability to pay for services, the committee members may very well be stuck with them. A committee could also be charged with the duty to supervise, and if it fails to do so, some liability could result. We always recommend to creditor clients that they either become very active on a creditors' committee or completely reject the appointment.

 

32.  CAN A CHAPTER 11 DEBTOR SELL ASSETS THAT ARE SUBJECT TO A SECURED CREDITOR'S CLAIM?

Yes. Certainly, with the consent of the creditor. Without consent, however, there is no equivalent to the Chapter 12 power to sell without paying the secured claim in full. A Chapter 11 sale must either pay the claim in full or be with the consent of the claimant.

 

 33.  CHAPTER 11 WITHOUT AN ATTORNEY?

Yes, just as an individual could take out his appendix. In nearly all cases of any size, accounting expertise is required in addItition to legal counsel. Corporations and partnerships have to be represented by a licensed attorney.

 

34.  CAN A DEBTOR PREPARE THE NECESSARY ACCOUNTINGS FOR THE COURT WITHOUT AN ACCOUNTANT?

Yes. Many businesses do so. This is especially true where the lack of managerial accounting information was not a factor that precipitated a bankruptcy filing. Where accounting control is not present, however, it makes good sense to become associated with a competent bookkeeping authority.

 

35HOW LONG DOES CHAPTER 11 TAKE?

Anywhere from six months to several years. There are no time limits that control the process absolutely. The debtor has the exclusive right to file a Chapter 11 plan for four months from the petition date, which the Court can extend or shorten. Any interested party can file a plan after the expiration of the exclusive time period.

 

Do you have a question about chapter 11 or any aspect of bankruptcy?

Click here to e-mail your question to the firm. QUESTION  Responses of general interest my be used to update Plain Talk. All Wyoming and Colorado inquiries will receive a reply.

__________________

1. 1In re Ahlers 108 SCT 963(1989)

0 11 USC § 1129(b)

3. 3See 11 USC §361

4. 4See 11 USC §1129(b)

5. 5See 11 USC §1

 

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