THE FOLLOWING INFORMATION APPLIES TO THE NORTHERN AND EASTERN DISTRICTS OF TEXAS ONLY:
SPECIFICALLY THE DALLAS AND SHERMAN (PLANO) DIVISIONS.
What is Chapter 11 Bankruptcy?
Generally Chapter 11 cases are difficult and complicated. Chapter 11 is designed for a business reorganization. They are expensive, with attorneys fees and “up front” retainers usually ranging in the several thousands of dollars. However, below are some of the concepts and procedures involved in a chapter 11 case. This list is, by no means exhaustive and, if you think that you need a chapter 11, please schedule an appointment to discuss it with a bankruptcy attorney.
The Automatic Stay: The filing of the Chapter 11 Bankruptcy Petition operates as an automatic stay of almost all proceedings against the debtor or its property. This stay generally continues in effect until the Bankruptcy Court orders otherwise. The procedure for a creditor lifting the stay will be discussed later.
Certain types of proceedings are not generally stayed by the filing of the bankruptcy petition. Most notably, criminal proceedings (e.g. “hot check” prosecutions) may not be stayed.
Furthermore, within twenty (20) days of filing the petition, the debtor must offer utility companies “adequate protection” or they will be able to discontinue service. This “adequate protection” may take the form of an additional deposit. Unless there is already a deposit with the utility and the debtor is current in its payments, provisions should be made to offer such adequate protection.
Within sixty (60) days of the filing of the petition, the debtor must accept or reject all leases of non-residential real estate. In order to accept a lease, the debtor must be able to cure all defaults. We may be able to ask the Court to extend this time but it is a deadline of which you should be aware. If a lease is to be accepted and retained, it must, eventually be cured of all defaults.
General Procedures: Within one week of the filing of the petition, the Office of the United States Trustee will arrange a meeting with the debtor. The purpose of this meeting will be to update the United States Trustee as to the operations of the debtor and to allow the United States Trustee to give the debtor certain instructions.
One of the requirements of the United States Trustee is that the debtor close all existing bank accounts and open new accounts in an authorized depository. The new checks of the debtor must contain the bankruptcy case number and the notation that the debtor is a “debtor in possession.”
Other requirements of the United States Trustee include a requirement that the debtor maintain insurance. You will have to bring with you to the meeting a copy of the cover page of all insurance policies showing the extent of the coverage.
Within about thirty (30) to forty-five (45) days of filing the petition, there will be a meeting of creditors mandated by section 341 of the Bankruptcy Code. At that meeting, presided over by a representative from the United States Trustee’s Office, any creditor who wishes may be able to interrogate the debtor as to its financial affairs. Sometimes numerous creditors appear with many questions — sometimes almost no creditors appear. At that meeting, or at any other time, the creditors may form a “Creditors’ Committee.”
Cash Collateral: Cash collateral is generally defined by the Bankruptcy Code as being cash or cash equivalents. The most common type of case collateral is a lien on accounts receivable. In addition, if the creditor maintains a lien on inventory and its proceeds, when the inventory is sold, it turns into “cash collateral.” The Bankruptcy Code prohibits the debtor from using cash collateral without the creditor’s or the court’s permission. Courts are very strict about this requirement and have been known to fine the debtor, its officers and attorneys for willful violations of this requirement. In order to obtain the Court’s permission over the objection of the creditor, we must offer the creditor replacement collateral.
If you have given a creditor a security interest in “cash collateral” and you must use the receipts of accounts receivable or inventory in place prior to the filing of the petition, consider carefully what other collateral may be available for the creditor.
The Plan and Disclosure Statement: The debtor has 120 days from the filing of the petition to file a Plan of Reorganization. During this time, unless shortened by the Court, only the debtor can file a plan. After that time, unless extended by the Court, any party in interest can file a plan. You should, immediately, be considering what plan is going to be offered to the creditors.
While the plan can provide for many different types of creditors, there are certain parameters that generally must be followed:
- Secured creditors must maintain their collateral position or receive the cash equivalent of their collateral;
- All costs of administration (costs and expenses incurred during the proceedings) must be paid in full on the effective date of the plan unless the administrative creditor(s) agree to a different treatment.
- Taxes, plus interest, may not be paid out over a period of longer than six (6) years from the date of assessment. Most taxes owed are generally payroll taxes. Since management may be personally liable for these taxes, management often wants these taxes paid as soon as possible.
In addition to the plan, it will be necessary to file a “Disclosure Statement.” The Disclosure Statement is a statement of information sufficient to give the creditors adequate information to make an informed decision concerning whether or not they wish to vote for the plan.
The disclosure statement should contain, among other things:
- a history of the company and its operations;
- historical and current financial information;
- information on the officers and directors who will continue to manage the company;
- pro-forma information showing how the company will be able to meet any payments required under the plan; and
- an analysis of what the creditors would receive upon liquidation of the debtor.
Generally, creditors have the right to vote on the plan. An affected class must, generally, accept the plan by 2/3 of the number of creditors in the class voting and more than 50% in the total dollar amount of the class voting.
Quarterly FeesThe Bankruptcy Code requires all Chapter 11 debtors to pay a quarterly fee based on its total disbursements for the quarter. A copy of the reporting form is included in the documentation enumerated above. These fees should be timely made or the case will be subject to a Motion to Dismiss filed by the United States Trustee.
Debtor-in-PossessionUpon the filing of the petition, the debtor will generally continue to manage its affairs as a “debtor-in-possession.” This means that a Trustee will not come in and take over the operations. Upon a showing of “cause”, however, the Court can order the appointment of a trustee. Cause will generally be found in the case of gross mismanagement, abuse of the bankruptcy process such as not following the requirements of the Bankruptcy Code or the United State’s Trustee’s Rules, etc.
A debtor who is a “debtor-in-possession” is, in effect, its own trustee. Accordingly it owes a fiduciary duty to its creditors. This fiduciary duty may sometimes conflict with the interests of management. As counsel for the debtor-in-possession, we may also be in a fiduciary capacity with the creditors. Therefore, if there are any conflicts between the debtor-in-possession, as trustee, and its management, we must side with the debtor-in-possession. This means that we can not represent both the debtor-in-possession and its owners, directors, officers and/or affiliates. If necessary, these other entities must have other counsel. This is not a particularly common occurrence but one which all concerned should be aware of.
Costs and FeesChapter 11 cases are expensive. At present the court filing fee for a chapter 11 bankruptcy is $1,213. Attorneys fees are usually much higher. Since a chapter 11 debtor becomes a major consumer of its attorney’s time, the fees are much higher than other chapters of the bankruptcy code. For the most simple case — i.e. only one creditor, the IRS, expect a retainer of $5,000 to $10,000.
If you are a small business, discuss with your attorney the possibility of a chapter 13. Chapter 13 is generally much less expensive than a chapter 11 because the attorney’s time is less. Chapter 13 cases are only available to individuals – not to corporations, partnerships or other entities. However, a creative attorney may be able to explain how a business may fit into the chapter 13 parameters.
Call Lusky & Associates, P.C. for a FREE CONSULTATION (972) 386-3900.