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Bankruptcy FAQ

Commonly Asked Corporate Bankruptcy Questions

Question #1: How is a Chapter 11 case commenced?

ANSWER:  A Chapter 11 case is initiated when a petition under Chapter 11 of the Bankruptcy Code is filed in the Bankruptcy Court. A Chapter 11 case may be initiated by a debtor (a voluntary Chapter 11) or a creditor (an involuntary Chapter 11). In addition to the petition, a case filing fee must be paid to the clerk when the petition is filed.

Question #2: In a Chapter 11 case involving a business, who runs the debtor's business while the bankruptcy case is pending?

ANSWER: In most Chapter 11 cases, the debtor assumes the status of a Debtor in Possession (DIP) and continues to run the business in that capacity until confirmation of a Chapter 11 plan. In some cases, a Trustee will be appointed by the court to run the debtor's business and perform the other fiduciary duties of the debtor. While the case is pending, a DIP is generally also responsible for accounting for property; examining and objecting to claims; filing required monthly operating reports; employing attorneys, accountants, appraisers, auctioneers, and other professionals to assist with case; and filing tax returns.

Question #3: What are "first day orders?"

Answer: First day orders are orders the debtor wants the bankruptcy court to enter as soon as the petition is filed or as soon as possible after the petition is filed. First day orders often involve administrative or noncontroversial matters such as orders relating to the appointment of professionals, the use of pre-existing bank accounts, establishing adequate assurance of payment to utilities, allowing the payment of wages and benefits, even if a portion covers the prepetition period. First day orders are also used to ensure that business operations may continue and may include orders to obtain post-petition financing or use cash collateral.

Question #4: What is a Chapter 11 Trustee?

Answer: In some Chapter 11 cases, a Trustee may be appointed to fulfill the duties of the debtor, including managing the debtor's property, operating the debtor's business, and filing the debtor's plan of reorganization. A Trustee can be appointed by the Court at any time prior to plan confirmation if requested by any party in interest or the US trustee, and if there is "cause" (fraud, dishonesty, gross mismanagement, or incompetence of the debtor) or if it is "in the interest of creditors, any equity security holders, and other interests of the estate" to appoint a Trustee.

Question #5: How does a debtor obtain funding to finance business operations after a Chapter 11?

Answer: In general, a debtor may not use prepetition lines of credit to fund ongoing business operations and must rely on funds generated from post-petition operations and new extensions of credit. "Cash collateral" (cash in which a creditor has a security interest and the proceeds of collateral in which a creditor has an interest) may not be used by the debtor in post-petition business operations without prior consent of the creditor or authorization of the Court. Post-petition extensions of credit and sales on credit to debtors in possession ("DIP financing") are typically allowed, but such credit arrangements are subject to the limitations and requirements provided in the Bankruptcy Code.

Question #6: Who can file a Chapter 11 plan?

Answer: A Chapter 11 plan may be filed at the same time as the petition or at a later date. Typically, only the debtor may file a plan for the first 120 days after the filing of the petition, and if the debtor files a plan within such 120-day period of exclusivity, no other plan may be solicited during the first 180 days after the filing of the petition. The 120- and 180-day periods are known as the debtor's plan exclusivity and solicitation periods. After the debtor's plan exclusivity period has expired, any creditor may file a plan. If a Trustee is appointed, the debtor's exclusivity immediately terminates. More than one plan may be filed and accepted, but only one plan may be confirmed by the court.

Question #7: How is a Chapter 11 plan accepted?

Answer: Plan acceptance is determined by the voting of creditors with allowed claims, and shareholders with allowed interests. A plan is accepted by a class if it is approved by more than 1/2 of the total claims, and at least 2/3 of the claims, based on the creditors actually voting, in that class. A plan is accepted by a class of interests if it is approved by at least 2/3 of the interests actually voting.

Question #8: What is "cram down" of a plan?

Answer: Cram down is a process by which the Court may confirm a plan that has not been accepted by every class of claims and interests. In general, a court may &cram down" a class and order confirmation even if a class votes to reject the plan, as long as at least one class has accepted the plan, the plan does not discriminate unfairly, and the plan is "fair and equitable."

Question #9: What is the "cram down" of a secured claim?

Answer: The cram down of a secured claim is a term of art used to describe reducing or entirely eliminating a creditor's secured claim. While cram down cannot be used with respect to a residential mortgage as long as there is some value in the collateral on account of the secured claim, particularly in the commercial context, the Bankruptcy Code allows the debtor to reduce the outstanding amount of its secured claims to the value of the collateral. In such circumstances, the creditor will have additionally an unsecured deficiency claim in the amount which is the difference between the total amount owed and the reduced secured claim.

Question #10: What are the requirements to confirmation of a Chapter 11 plan?

Answer: The requirements for confirmation are set out in Section 1129 of the Bankruptcy Code. Essentially, each creditor under the plan must receive more than it would receive in a Chapter 7 liquidation of the debtor, each class must vote to accept a plan or at least one class who is impaired must vote to accept the plan, and the plan must properly classify claims and interests. Confirmation also requires the debtor to prove it has the financial feasibility to make the payments required under the plan, and that it will not need to reorganize its financial affairs in the future. The plan must also propose to satisfy administrative expense claims in full on confirmation, which are debts incurred after commencement of the bankruptcy proceeding, and must treat priority claims in accordance with the applicable statutory requirements.

Question #11: May an individual file a Chapter 11 bankruptcy?

Answer: Individuals can utilize Chapter 11 to reorganize their financial affairs. Typically, an individual will commence a Chapter 11 case only if he or she does not qualify under the provisions of Chapter 7 or Chapter 13, or if there is a strategic benefit to continue to manage property which contains non-exempt equity. The Chapter 11 plan process is expensive, however, and thus, it is typically only higher net worth individuals who utilize this alternative.

Question #12: What is a creditors' committee?

Answer: A creditors' committee is a group of similarly situated creditors appointed by the United States Trustee's Office to serve in a fiduciary capacity to monitor the affairs of the Debtor, and to protect the interests of all similarly situated creditors. The most typically utilized creditors' committee is an "official committee of unsecured creditors" which is formed from among the twenty largest unsecured creditors shortly after the Chapter 11 bankruptcy filing.

Question #13: Should I become a committee member?

Answer: If you are interested in monitoring the affairs of the debtor after a Chapter 11 bankruptcy filing, and are willing to respect your role as a fiduciary responsible for the best interests of all similarly situated creditors, being a member of a creditors' committee is advantageous. Firstly, it provides you with up to date detailed information about the debtor's financial affairs not readily available to other creditors and parties in interest. Secondly, it provides you with the opportunity to play a meaningful role in the debtors' future. Typically, committee members will negotiate with the debtor over the terms of a plan of reorganization and have significant influence over how creditors vote on any proposed plan. Thirdly, the information obtained in your role as a committee member may be material to your own business relationship with the debtor. Finally, the cost of the professionals employed by a creditors' committee is not borne by the creditors themselves, but is an obligation which the debtor must satisfy.

Question #14: What is conversion of a Chapter 11 case?

Answer: Conversion refers to the entry of a Court order changing the bankruptcy proceeding from a Chapter 11 case, typically to a Chapter 7. When this occurs, the debtor must immediately stop all of its business operations, a Chapter 7 Trustee is appointed who has the responsibility to assemble and liquidate all of the debtor's assets, and who then uses the proceeds to pay the claims of creditors in accordance with the Bankruptcy Code priorities. Conversion of a Chapter 11 case to Chapter 7 is the "death" of the debtor as an on-going business enterprise.

Question #15: Who develops the reorganization plan for the debtor?

Answer: ypically, the debtor proposes a plan outline and makes presentations to the committee to obtain their support, or consider improvements which will result in committee support. A plan must be filed with the Court together with a disclosure statement, which must be approved by the Court as containing adequate information, before the plan is submitted to creditors for voting.

Steps in Development of the Plan:

  • The debtor develops a plan, and may solicit committee input.
  • The debtor prepares a disclosure statement and reorganization plan and files it with the court.
  • Creditors (and sometimes the stockholders) vote on the plan.
  • The Court considers confirmation of the plan, and
  • The debtor carries out the plan by distributing the securities or payments called for by the plan, if the plan is confirmed.
Question #16: What is a Chapter 7 Bankruptcy for a company?

Answer: Some companies are so far in debt or have other problems so serious that they can't continue their business operations. They are likely to "liquidate" and file under Chapter 7. Their assets are sold for cash by a court appointed trustee. Administrative and legal expenses are paid first, and the remainder goes to creditors. Secured creditors will have their collateral returned to them. If the value of the collateral is not sufficient to repay them in full, they will be grouped with other unsecured creditors for the rest of their claim. Bondholders, and other unsecured creditors, will be notified of the Chapter 7, and should file a claim in case there's money left for them to receive a payment.

Stockholders do not have to be notified of the Chapter 7 case because they generally don't receive anything in return for their investment. But, in the unlikely event that creditors are paid in full, stockholders will be notified and given an opportunity to file claims.

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