Chapter 11:  Business Reorganization

What is a Chapter 11 bankruptcy?

 The most common purpose of Chapter 11 is to enable a financially troubled business to obtain relief from its creditors and to restructure itself so that it can emerge from the bankruptcy court as a profitable enterprise.  The business may be operated (normally by the debtor) during the period of reorganization, while a reorganization plan is developed.  The unprofitable portions of the business operation may be disclaimed while the profitable portions of the business are continued. 

It is also possible to use Chapter 11 to operate a business debtor until a buyer can be found or the business property is otherwise liquidated. 

Individuals can also be debtors under Chapter 11, but in most cases Chapter 13 provides a more expeditious and effective form of relief for individuals. 

What is a Plan of Reorganization?

A Plan of Reorganization is a road map by which the debtor will reorganize itself and emerge from bankruptcy as a business entity that has rid itself of its unprofitable components and is prepared to emerge from bankruptcy in order to make a profit, put forth reasonable efforts to repay its debts, and continue in business. 

The Plan must contain certain technical elements.  For example, claims must be separated into classes so that members of each class have claims or interests that are substantially similar to others in the class.  The Plan must specify which claims are "impaired" and provide an opportunity for holders of impaired claims to vote on the Plan.  In addition, a Plan may modify the rights of creditors, may provide for the assumption or rejection of contracts and leases, and contain other provisions consistent with the purposes and objectives of Chapter 11. 

How is a Plan of Reorganization approved?

During the initial phase of a Chapter 11 proceeding, the debtor has the exclusive right to propose a plan of reorganization.  The exclusive period may be extended for cause.  After the exclusive period, any creditor or other interested party may propose a plan. 

A Plan must be approved by the Bankruptcy Court after adequate notice to interested parties, and a hearing.  As a first step, a disclosure statement to accompany the proposed plan must be reviewed and approved by the Court in order to ensure that the creditors entitled to vote for or against the plan are given sufficient information to make an informed vote. 

Once the disclosure statement has been approved, it is transmitted to each interested party.  The plan is approved if each class of impaired creditors approves the plan by a majority in number and two-thirds in amount. 

Even if a class of creditors does not approve the plan, the bank ruptcy court may approve the plan over the objection of a dissenting class (i.e., a cramdown) provided that the plan has been proposed in good faith, meets the requirements of the Bankruptcy Code as to priority of payment and other tests, the plan provides each class of creditors at least as much as it would receive in a liquidation, and certain other conditions exist. 

What is a Creditors' Committee?

In Chapter 11 bankruptcy cases, a creditors' committee may be appointed to represent the interests of unsecured creditors and to negotiate a Plan of Reorganization on their behalf.  The Committee can act as a counterweight to the debtor's desire to continue the business no matter what.  The Committee can help focus the issue on whether the business should be encouraged to reorganize, or whether it would be in the interest of all parties for the business to simply cease operations and liquidate its property for the benefit of creditors. 

Once the committee has investigated the pertinent facts, it can engage in a meaningful negotiation with the debtor and take an appropriate position in Court as to the viability of the debtor's intentions.  Thus, although the nature and composition of creditors' committees varies depending on the size, nature and complexity of the case, its fundamental role remains the same: to ascertain the facts and negotiate a Plan if that is possible. 

Membership in the Committee is initially determined by the United States Trustee based upon the size and nature of the case, the number and variety of classes of creditors, and the expression of interest or lack of interest on the part of creditors.  Among the fundamental requirements to serve on the Committee is that there be no conflict of interest with the debtor.  For example, an officer of the debtor corporation who is also a creditor, would be conflicted and would be ineligible to serve on the Committee. 

Who or  what is a typical Chapter 11 debtor?

Relief under Chapter 11 is available to individuals as well as other entities. If there is a "typical" Chapter 11 debtor, it is a business that has serious financial problems that it believes can be overcome by reorganizing the business and making a fresh start, generally as a leaner, more efficient firm.  Where the business is primarily a service business (as opposed to a manufacturing or inventory-based business), it may have very little liquidation value; therefore it is important not only to the debtor, but to its creditors as well, that it survive and emerge from the bankruptcy proceedings as an enterprise that can realize an income stream. 

What is a "Small Business" Debtor?

Chapter 11 includes streamlined provisions for "small businesses," which generally include businesses, other than those engaged primarily in owning or operating real property, that have $2,190,000 or less in debt.  Among other things, small business provisions combine the two-stage Plan approval process (Disclosure Statement and Plan are considered at the same time) and contemplate that a Plan will be submitted within a shortened timeframe. 

Click to read Chapter 11 of the Bankruptcy Code


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