Does a debtor remain in control of its assets while undergoing the Chapter 11 bankruptcy process? Can a debtor continue to run its business after filing for Chapter 11? Bernstein-Burkley, P.C., Co-Managing Partner, Kirk B. Burkley, answers these questions and more in this week’s 5 Minute Legal Master Series episode: THE CHAPTER 11 PROCESS.
The Chapter 11 Process (5:38)
Welcome to the 5 Minute Legal Master series where expert legal attorneys help you master important legal topics. Today, board-certified business rights and business bankruptcy attorney Kirk B. Burkley discusses the Chapter 11 process.
Today, we are going to talk about the Chapter 11 process that specifically refers to Chapter 11 of the United States Bankruptcy Code. Chapter 11 historically was thought of as the reorganization chapter, that means a company goes into bankruptcy under Chapter 11 and that company would then reorganize its business affairs, restructure its debt and emerge from Chapter 11. Today, that is not always the case; in fact, we are starting to see more and more Chapter 11 liquidation, as well as more and more individuals filing for bankruptcy protection under Chapter 11. But Chapter 11 still differs from the other bankruptcy chapters in a few and important ways.
Number 1, the debtor remains in possession of its assets. So unlike in Chapter 7, where the assets are handed over to a Chapter 7 trustee, in Chapter 11, the debtor remains in possession if that debtor is reorganizing, until a plan is confirmed, it remains a debtor in possession of its assets. Or even if the debtor is liquidating its assets, it remains in possession until that liquidation process is over and the case is either converted to a Xhapter 7, dismissed or some plan of liquidation is approved. Of course, the same thing would go for an individual; that individual remains in possession of its assets until the conclusion of the case. That is important because even though there are more Chapter 11 debtors that are choosing to liquidate their assets, Chapter 11 provides for the debtor to stay in control of that liquidation process rather than just handing over the assets to a Chapter 7 trustee. Sometimes that is because the debtor and its principles want to remain in control so that they can continue to draw salary throughout the process or they do not want some other party like a Chapter 7 trustee sticking their nose into the debtor’s business.
There are often a lot of valid business reasons for a debtor to stay in control, file a Chapter 11 and liquidate the business. Some of those business reasons might be to increase the value of the estate in the liquidation. A Chapter 7 trustee is not permitted without approval of the court, which is not an easy thing to obtain for the Chapter 7 trustee to actually run the business. For example, if a debtor wants to file bankruptcy, operate its business for some finite period of time while it runs a liquidation process, the only place the debtor can do that is in Chapter 11, so Chapter 11 serves a very valuable function is conducting an orderly liquidation of assets.
Chapter 11 also provides for the appointment of a creditor’s committee, that can be the trade off. Instead of a trustee looking around at the debtors financial affairs and seeing if there were transfers that should be avoided, or making sure that the secured creditor is in fact secure, in a Chapter 11 scenario, there will be a creditors’ committee appointed where creditors show sufficient interest. Those unsecured creditors, through the creditors’ committee, will then look at all those same things a Chapter 7 trustee would look at. Often times it is more beneficial because they are the creditors that sold the goods to the debtor and provided services; they might be the creditors that made loans on an unsecured basis to the debtor and they have a better feel for how that liquidation should run. They are more interested in the outcome, so it does allow for that watchdog role, while at the same time allowing a debtor to liquidate its assets and hopefully maximize value for creditors.
At the end of the process, it still has to happen to end the case; the case could be converted after the assets are sold and then have a Chapter 7 trustee finish the case. It could potentially be dismissed upon the consent of the creditors and approval of the court. But a lot of times you will see a liquidating plan approved where a state litigation plan such as transactions, fraudulent transfers and some minimal amount of money that might be left after creditors are paid, are put into a liquidating trust and then some trustee, plan administrator, or the creditors’ committee itself will pursue those actions to hopefully generate assets for creditors. But the Chapter 11 process would have worked its way through.
This has been another installment of the 5 Minute Legal Master series, where expert attorneys help you master important legal topics. For more information on this and other topics, please visit 5minutelegalmaster.com.