As most of you have already noticed, bankruptcies are on a dramatic rise. According to the American Bankruptcy Institute, it’s estimated that in 2020 there will be about 7,300 total commercial filings. This is a 30% increase over 2019, in which there were 5,519 filings. I’m not going to sugarcoat this but due to the pandemic and global shutdowns, the short and medium-term economic outlook doesn’t appear very encouraging. In fact, we credit professionals will need to face the fact that even our best customers, as they struggle to survive, may end up declaring Chapter 11 bankruptcy.
In view of the latter and for those of us who are not attorneys, let me take a moment to share with you a layman’s overview of the role of an unsecured creditors’ committee, and its purpose as it relates to the reorganization of cases under a Chapter 11 of the US Bankruptcy Code.
Chapter 11 Bankruptcy, a General Description
In most Chapter 11 reorganization cases that are filed, management hopes to bring the business back to solvency and to present a plan of repayment to its creditors. The plan will need to be approved by the creditors and also to comply with the Bankruptcy Code requirements for the Court’s approval, or “confirmation”, as it’s called under the Code.
Unless a trustee is appointed to oversee the business, the debtor will have an exclusive right to file a plan during the first 120 days after the case is filed. After 120 days (unless the Court orders otherwise) the debtor and/or any other party, including a creditor or the creditors’ committee, may instead file a plan. There is no requirement (unless a date has been specifically set by the Court on request of some party) that the debtor must file a plan within the first 120 days or by any subsequent date.
Before a plan can be submitted to the creditors, a disclosure hearing is held. At that time, the person or entity proposing the plan must show to the Bankruptcy Judge that their disclosure statement provides sufficient information to creditors to allow them to make an informed decision. If the Judge finds the disclosure adequate, the plan, disclosure statement, and ballots will be mailed to all creditors for voting. If the plan is approved by the creditors and confirmed by the Court, payment to creditors can begin according to the terms of the plan.
The present management of the debtor will remain in possession and in control of its business unless the Court orders that a trustee be appointed, the case be dismissed, or the case be converted to a Chapter 7 liquidation proceeding.
Who and what is the Trustee?
The United States Trustee System is a part of the Department of Justice responsible for overseeing the administration of bankruptcy cases and it consists of 21 regional U.S. Trustee Offices nationwide.
In CMI’s area, the United States Trustee for Region 3 serves the federal judicial districts established for Delaware, New Jersey, and Pennsylvania. The Trustee’s role is to insure that the debtor and its management are operating in good faith, in conformity with the Bankruptcy Code, and that the debtor is making all efforts to bring about an effective reorganization. This is accomplished through financial reporting requirements and other controls placed on the debtor and, in some cases, periodic visits to the debtor’s place of business. The Trustee does not represent or advocate for the interests of any particular group of creditors.
The Creditor’s Committee
Under section 1102(a) of the Bankruptcy Code, the Trustee has the responsibility of organizing and appointing a committee of creditors holding unsecured claims. The unsecured creditor’s committee neither manages the business nor controls the debtor’s assets. The debtor in possession (or trustee, if one has been appointed) remains in control. It is assumed that the committee will represent the interests and attempt to maximize recovery for all unsecured creditors in its negotiations with the debtor and other parties in the case. The Bankruptcy Code provides that a creditors’ committee may:
- Review the progress of the case with the debtor. As the debtor is required to file periodic financial reports with the Trustee, these reports will provide valuable information for the committee to make certain evaluations and decisions
- Investigate the financial condition of the debtor, the operation of the debtor’s business, and decide whether or not the debtor’s business should continue
- Participate in the formulation of a plan
- Ask the Court to appoint an examiner in the bankruptcy case. An examiner is a professional (often a CPA) with the expertise to investigate the business and file a report regarding the viability of the debtor, the competence of past or current management, and the possibility of fraud
- Request the appointment of a trustee to be charged with the responsibility of controlling the debtor’s assets
- Ask the Court to either dismiss the case or to convert it to one under Chapter 7 (liquidation)
The Trustee will appoint committee members. The committee ordinarily consists of those persons who hold the seven largest unsecured claims and who are willing to serve. Generally, at the first meeting of creditors the committee will:
- elect a chairman
- discuss the status of the case
- consider whether and which of the committee’s powers should be invoked
- make plans for future meetings
In order for a committee to be effective in a bankruptcy case, its members must possess knowledge about the bankruptcy process and be committed to working with the debtor to do all that is necessary to achieve the best results possible. Committee members should commit themselves to reviewing the information and issues that are presented to them in an objective and professional manner. Their recommendations and decisions should be based on sound business judgment designed to move the debtor toward a successful resolution of its problems and challenges.
Serving on a committee can provide a creditor with several benefits that include:
- influencing the direction and the outcome of the bankruptcy filing
- accessing information about how the debtor fell into a distressed situation
- deciding whether or not you should consider to sell to the debtor on “post petition” open account terms
- notifying management of any post petition invoices becoming past due
While the appointment on a committee does not guarantee that the case will have a successful conclusion, one thing is certain: the absence of a dedicated creditors committee will increase the chances of allowing the debtor’s already distressed financial situation to evolve into a full blown liquidation.
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This article has been edited by Steven Gan
* Please note that the above article is not legal advice and should not be relied upon in making legal, credit, or financial decisions.