Chapter 11 bankruptcy allows a person or business to develop a plan to repay their creditors past due amounts over the course of several years. In many cases the repayment plan sets out to pay some creditors less than the full amount they are owed, and the courts will usually only approve repayment plans when an “impaired” creditor, or one who is receiving less than what is owed, agrees to the plan.
In complicated cases with several creditors, the U.S. Trustee may appoint a “committee of creditors” to ensure that all creditors in the bankruptcy proceeding are receiving adequate representation and that no particular creditor of any class is getting treated more favorably or unfavorably when compared to its fellow creditors.
Forming the Committee
In most Chapter 11 bankruptcies a U.S. Trustee is appointed to oversee the case and make sure that the entire proceeding is done in accordance with the rules set forth in the bankruptcy code. This trustee is also given the power to create the committee of creditors. They will typically choose from amongst the business’s 20 largest creditors, forming a group of between three to seven members that adequately represent the interests of all of the creditors.
If there is a clear difference between two large groups of creditors, for example between those holding secured and unsecured debts, the trustee may create two separate committees that represent the interests of both groups. The committee will be empowered to hire professional services such as attorneys, appraisers, and accountants with the goal of assessing the fairness and feasibility of any proposed repayment plan. The costs of these professionals fall to the debtor filing for bankruptcy.
Section 1103 of the bankruptcy code lays out the powers of the committee of creditors, enabling them to:
- Consult with the trustee or debtor in possession concerning the administration of the case;
- Investigate the acts, conduct, assets, liabilities, and financial condition of the debtor, the operation of the debtor’s business and the desirability of the continuance of such business, and any other matter relevant to the case or to the formulation of a plan;
- Participate in the formulation of a plan, advise those represented by such committee of such committee’s determinations as to any plan formulated, and collect and file with the court acceptances or rejections of a plan;
- Request the appointment of a trustee or examiner, and
- Perform such other services as are in the interest of those represented.
The committee is deemed to have a fiduciary responsibility to its members such that it must consider the benefit of the group above its own personal interests. If, for example, one member of the committee stood to gain from a proposed repayment plan where several other members would benefit more from liquidation, the committee member should make the fact known to the group and consider removing itself from any vote on such a plan.
Once the committee is formed it will be allowed to get involved in many aspects of the bankruptcy proceeding, intervening in lawsuits and major business decisions throughout the period of repayment in order to make sure that the case is moving along to its successful completion, or to consider options if it appears that the bankruptcy will not go as originally planned.
While the debtor in possession is given the exclusive right to propose a repayment plan at the outset of most Chapter 11 bankruptcy cases, it’s often possible that the committee of creditors will develop and propose their own repayment plan once the period of exclusivity expires. The committee can meet with any of the business’s creditors to negotiate and discuss how and whether each creditor will be paid in their proposed plan.
Contested Plans and the Cramdown
As mentioned above, Chapter 11 of the bankruptcy code allows a business to develop a plan to repay creditors for past due debts over the course of several years into the future. When this plan is developed by the “debtor in possession,” or the person filing on behalf of a business they are operating, the plan typically sets out to pay some creditors less than the full amount they are owed. These creditors then become “impaired,” because of the lesser amount they would receive in the plan.
While it’s certainly one of the primary benefits to filing for Chapter 11, just because a debtor develops a plan that pays some of its creditors less than what they are owed does not mean that the plan will be confirmed by the courts. In fact, the court requires that all impaired creditors accept a proposed plan before confirming it.
Why would an impaired creditor accept less than what is owed to them? Generally, it’s because the amount they would receive in the plan is equal to or greater than what they would receive if the business decides to liquidate its assets and file for Chapter 7 instead of Chapter 11. Impaired creditors usually have a good understanding of this dynamic and will approve such a plan — provided that it treats them all in an equal and fair manner.
Unfortunately, creating repayment plans for businesses often involve taking certain actions that could see some impaired creditors receiving more of what they are owed than others creditors in the bankruptcy proceeding. When this happens the only way to move such a plan forward is through a “cramdown,” where, under certain circumstances, the court will ‘cram the plan’ down the throats of opposed impaired creditors.
The court will only approve a cramdown if the following requirements are met:
- At least one impaired class of creditors has accepted the plan – any plan that is rejected by all impaired creditors will not be confirmed by the court.
- The plan is fair and equitable – there is no specific definition of what is considered “fair and equitable” under the bankruptcy code, but generally, it will require that secured creditors receive at least the equivalent value of their collateral, and that unsecured creditors are paid in full before any lower priority class like equity holders receive any sort of payment.
- The plan does not violate the “absolute priority” rule – any proposed plan must repay all creditors in accordance with their priority, with secured creditors receiving the highest priority, then unsecured creditors and then others like equity or interest holders. A plan will meet the absolute priority rule so long as it does not pay any creditor lower on the priority list before those higher on the list are paid in full.
Whether any particular plan will survive these requirements and be confirmed by the court through a cramdown process will depend on the specifics of the plan itself and the financials of the business filing for bankruptcy. Furthermore, dealing with the committee of creditors and any professionals they may hire to object to one’s plan can be a difficult and costly process.
The best way to avoid potential issues in developing a Chapter 11 bankruptcy repayment plan is to hire an experienced attorney before filing the petition. Qualified attorneys will be able to review the circumstances of a business alongside the business owner and develop a repayment plan that is most favorable to their client and also has a very high chance of approval by the client’s creditors. At Rosenblum Law our attorneys are ready to help, call us today.