Chapter 11 provides numerous benefits to a business that has principals who want to continue to operate and sufficient financial resources to survive the expenses associated with the administration of a reorganization case. Two of the most attractive features of a Chapter 11 bankruptcy case are (a) the principals of the debtor company generally maintain control over the business (the debtor in possession or DIP442 concept) and (b) the company continues to operate albeit with some court and creditor oversight. The company who has filed for bankruptcy under Chapter 11 generally continues with the same management. This role as Debtor-in-Possession places fiduciary duties on the company, not only to its shareholders, but to the entire creditor body.443 438 See 11 U.S.C. § 521. 439 See 11 U.S.C. § 704. 440 See 11 U.S.C. § 721. 441 See 11 U.S.C. § 727. 442
Unless stated otherwise, the powers, duties, rights, or obligations of a trustee and DIP are materially the same, and therefore, in the interest of brevity we will refer to either a trustee or DIP in a Chapter 11 context as the “debtor.”
443
The traditional goal of a Chapter 11 case is to “reorganize” a company pursuant to a plan that must be approved by the Bankruptcy Court. Generally, a plan allows for the company to continue its operations after a plan of reorganization has been confirmed and the administration of the company in the bankruptcy case has concluded. The company is then a “reorganized” debtor.
Often overlooked in considering whether to file a Petition under Chapter 11 is the option to propose a “liquidation” plan or even to convert to a liquidation under Chapter 7 if reorganization under Chapter 11 is no longer necessary or appropriate. Often a liquidating plan is coupled with the establishment of a “liquidation trust” and the appointment of a liquidating trustee to administer the liquidation of assets (often including the prosecution of lawsuits) and the distribution of the proceeds to creditors. The trustee often manages causes of action that will take many years to conclude. The trust arrangement allows the bankruptcy case to be concluded within a reasonable period of time and still provide a vehicle for the future recovery of assets and the satisfaction of creditor claims. This liquidation alternative under Chapter 11 is particularly attractive if the principals want to remain in control of the bankruptcy case to guide the liquidation of the assets with respect to which they have special knowledge. This knowledge of the assets (sometimes very sophisticated high tech equipment) and potential purchasers often results in the generation of sale proceeds that would not be matched if the assets were sold at a liquidation sale in a Chapter 7 case by a bankruptcy trustee. If all or substantially all of the assets are sold in the Chapter 11 case, the case might then be converted to a Chapter 7 for “wrap up.”
Reorganization cases are expensive and distracting to management. These burdens are placed on an already financially weak company. There has been considerable debate about the deficiencies of Chapter 11, particularly in the context of small or middle sized companies. The debtor will often pay substantial fees to attorneys, accountants, financial advisors and investment bankers. In addition, Chapter 11 debtors have to pay the professionals who assist the Official Committee of Unsecured Creditors (“Unsecured Creditors’ Committee”) and any other official committees that may be appointed in large cases.444
Although a Chapter 11 case is unattractive in some respects, it also has many advantages. No trustee is appointed unless “cause” or gross mismanagement is proven.445 The debtor-in- possession functions as a trustee with the same duties, rights and powers.446 The debtor has tremendous powers regarding the rejection of executory contracts and leases.447 The company can avoid certain preferential and fraudulent transfers.448 A plan can be confirmed that
444
See 11 U.S.C. § 1102. See Section IV, infra, for a discussion about the creation, duties, and powers of committees.
445
See 11 U.S.C. § 1104.
446
See 11 U.S.C. §§ 1104, 1107. Section 1104 authorizes the appointment of a trustee in a Chapter 11 case on the request of a party in interest or to the United States Trustee upon a showing of “cause” or if the appointment “is in the interest of creditors, any equity security holders, and other interests of the estate.”
447
See 11 U.S.C. § 365.
448
restructures the indebtedness of the company and provides for the payment of obligations in amounts substantially less than the actual amounts owed and over several years.
Increasingly debtors are attempting to reduce the overwhelming expense and the morass of an extended stay in Chapter 11 by trying to negotiate at least the major terms of a consensual plan before filing the bankruptcy case. Sometimes these are called “prepackaged” plans but technically a “prepak” involves actual pre-filing solicitation of votes from creditors for the acceptance of a plan that will be filed immediately after the case is filed. The prefiling solicitation is allowed under Section 1126(b) but is complicated and often attacked if there are disgruntled creditors. The pre-filing “discussion” and attempt to obtain a consensus among the major creditors, although not actually a prepackaged plan, is much better than merely filing a petition without consultation with at least the major creditors and trying to negotiate a plan in the sometimes inflamed context of the bankruptcy case.
Chapter 11 has a place in our bankruptcy system but it is no panacea. Some uninformed (or misinformed) prospective bankruptcy debtors are almost anxious to “rush to the light” of bankruptcy thinking that Chapter 11 will solve all of the company’s problems. It will not. When a company picks the Chapter 11 path, it must be prepared to spend a considerable amount of its precious cash reserves on professionals (and similar outlays of cash that do not make or sell more products) and endure the demands and distractions of court hearings and creditors scrutinizing the business decisions. This path is worth the trouble, however, if you have a company that can be profitable with some debt relief and that needs to dispose of liabilities quickly through the rejection of contracts.
C. Chapter 12. Chapter 12 is designed for “family farmers” or “family fishermen”