Best Practices for Efficient Corporate Chapter 7 Filings

Introduction

As we all know, our current recession is the largest and deepest since the Great Depression. No one can be certain when it will end. While it may seem the banks have slowed down the foreclosure process, it is mainly because the banks cannot handle all of the foreclosures in their portfolios and they cannot dispose of the properties upon which they are foreclosing. 

In times of economic crisis otherwise, I am a problem solver. I like to find a solution that works best for all parties involved while protecting my client’s interest. While litigation is often necessary, I begin most of my representations by addressing the issues and trying to determine whether the parties can come t an amicable resolution.

Trends in Commercial Bankruptcy

The frozen credit market has affected the manner in which many bankruptcy cases have been handled in the recent past. Corporate bankruptcies, which may have been restructurings through the Chapter 11 process, have now turned into quick liquidations because there is no funding available. Not only have bankruptcies become very short lived, but also many companies that would have filed bankruptcy in the past are now opting instead to close the doors of their businesses and just walk away.

Nevertheless, there is a lot of activity and bankruptcy filings in many industries today, including but not limited to health care, mortgage companies, manufacturing, real estate, retail, construction, and many others. 

Chapter 7 is a good solution for companies that do not want to continue their business and have limited unencumbered assets or liabilities that far exceed the value of their assets. When that is the case, it is often not worth the time, effort, and money for management to stay involved in the liquidation process, and thus, Chapter 7 is the best alternative. For example, in industries where companies rarely have hard assets, such as construction companies, Chapter 7 is usually the best alternative. Unless a construction company has good, collectable receivables, its only assets are usually the good will of the company and current projects. In the modern day investment firm meltdowns, the most valuable assets of estates are often avoidance claims. In cases such as those, it is more efficient to have a Chapter 7 trustee pursue the extensive litigation that may result from the pursuit of the many claims that could be filed against anyone and everyone who received payments from the company within the six years prior to the filing.

The outcome for these companies is relatively straightforward. They can walk away from the situation as long as there is no wrongdoing on the part of management or any transfers that would be called into question. In many cases, management and owners can turn over all of the books and records to a trustee, because in a Chapter 7 case, a trustee is appointed immediately and takes over the proceeding and the company. The trustee may need to coordinate with the management and owners for the transition period, but shortly thereafter, the management of the company can leave everything in the hands of the trustee to take over and continue with the liquidation of the company for the benefit of the creditors. 

Common Reasons for Filing Chapter 7

Companies often file Chapter 7 because there is nothing left in the company. When a company has no unencumbered assets and many liabilities, it may not make financial sense to file Chapter 11. Chapter 11 is an expensive process that requires significant time, effort, and money on behalf of various constituencies, such as the company’s management and professionals. If a company does not have the financial wherewithal to undergo a Chapter 11 process, Chapter 7 may be the only viable alternative, aside from trying to sell the company or settle with creditors outside of court.

Further, companies file Chapter 7 when they can no longer continue to operate their businesses. For example, for retailers and restaurants, if a company loses its lease, it no longer has a place from which to operate. Chapter 7 gives such businesses a manner in which to wind down their affairs and liquidate their assets for the benefit of creditors, in an efficient and cost-effective manner.  

Chapter 7 Cases

Many large Chapter 7 cases start as Chapter 11 cases. Chapter 11 cases are converted to Chapter 7 for many reasons, including: inability to restructure, inability to pay debts as they become due post-petition, and failure to comply with court rules or the United States Trustee’s Guidelines. However, recently, we have seen many large cases filed as Chapter 7 from the start. Some recent cases include Probulk Inc., filed in the Southern District of New York on June 23, 2009 (International Shipping Company); Agape World, Inc., involuntary filed in the Eastern District of New York on February 5, 2009 (Bridge Lender); and Anthracite Capital Inc., filed in the Southern District of New York on March 15, 2010 (Commercial Real Estate Investment Firm).

The outcome of these cases will depend on how much the assets are worth, the types of avoidance claims the trustee can pursue, and ultimately, how much the trustee can collect for the benefit of creditors. The trustee’s main responsibility is to maximize the value of the assets for the benefit of creditors. A trustee works very hard at identifying the assets, obtaining control over the assets, and liquidating the assets to create a significant distribution to the unsecured creditors.

A secured creditor can change the dynamics of any bankruptcy case, including a Chapter 7 case. If there is a secured creditor and the debtor’s assets are fully encumbered and the value of the secured creditor’s lien exceeds the value of the assets, there is very little for the trustee to do, unless there are avoidance actions to pursue. 

In one case in which I was involved as trustee, a secured creditor had a $2 million security interest but the assets were only worth $25,000 at best. In this type of case, you can make the argument that there is no reason to file a Chapter 7 because the lender should simply take over assets and liquidate the assets itself. However, banks often want a Chapter 7 trustee to liquidate the assets because it believes the trustee will be able to derive a greater value than a bank sale. Further, potential purchasers of assets feel more comfortable with a bankruptcy court sale rather than a bank sale since the court will approve the sale, and order the sale free and clear of all liens, claims, and encumbrances.

Changes to the Bankruptcy Laws

In 2005, substantial changes were made to the US Bankruptcy Code (Title 11 of the United States Code) through the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA). Some of the most significant changes to the bankruptcy laws were as follows:

• Section 365(d)(4) of the Bankruptcy Code now requires debtors to assume or reject their real property leases within 120 days of filing, subject to an additional ninety-day court-approved extension. Extensions beyond this initial 210-day period cannot be granted without the consent of the landlord.
• Utility companies now have increased forms of adequate assurance of future payments within twenty days of filing.
• Section 503(b)(9) of the Bankruptcy Code provides vendors that ship products received by the debtor within twenty days of the bankruptcy filing with an administrative claim for the value of such goods. Section 503(b)(9) has played a major role in cases converting from Chapter 11 to Chapter 7.
• The aggregate monetary limits on unsecured priority claims were increased from $4,925 to $10,950 for wages and benefits earned within 180 days prior to filing.

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