Chapter 11 provides a framework for business reorganization. Unlike Chapter 7 liquidation, Chapter 11 allows businesses to continue operating while restructuring debt. The process is complex, expensive, and typically involves sophisticated negotiations among multiple creditor constituencies.
Who Files Chapter 11
Businesses of all sizes use Chapter 11. Large corporations restructure billions in debt through complex plans. Small businesses use streamlined subchapter V procedures.
Individuals with debts exceeding Chapter 13 limits may file Chapter 11. The debt ceiling for Chapter 13 excludes some high-income individuals and those with significant liabilities.
Partnerships, LLCs, and corporations all have access to Chapter 11. The entity continues operating under court supervision.
Voluntary petitions are filed by the debtor. Involuntary petitions can be filed by creditors meeting specific requirements, forcing the debtor into bankruptcy.
Debtor in Possession
The debtor in possession continues operating the business. Management stays in place. The DIP has the rights and duties of a trustee but operates without outside appointment.
Fiduciary duties require the DIP to act in the best interest of the estate and creditors. Self-dealing, preferential treatment, and mismanagement can result in appointment of a trustee.
Trustee appointment occurs for cause, including fraud, dishonesty, incompetence, or gross mismanagement. Appointment displaces management. Courts are reluctant to appoint trustees absent serious misconduct.
Examiner appointment provides investigation without displacing management. Examiners review specific issues and report to the court.
First Day Motions
First day motions address immediate operational needs. Courts hear these motions shortly after filing to prevent business disruption.
Cash collateral motions seek authority to use cash in which secured creditors have interests. Lenders with liens on receivables and deposit accounts must consent or be adequately protected.
DIP financing motions seek approval of new borrowing to fund operations during the case. DIP lenders receive priority over pre-petition creditors and often receive liens on previously unencumbered assets.
Critical vendor motions seek to pay pre-petition claims of vendors essential to continued operations. The doctrine is controversial but allows payment when the vendor would otherwise stop supplying.
Employee wage motions seek authority to pay pre-petition wages and benefits. Employee morale and retention require prompt payment.
The Automatic Stay
Filing triggers the automatic stay, halting all collection activity. Lawsuits, foreclosures, repossessions, and enforcement actions stop immediately.
Secured creditors may seek relief from stay to foreclose on collateral. Grounds include lack of adequate protection and absence of equity combined with no necessity for reorganization.
Utility companies cannot discontinue service based on pre-petition debt but can require adequate assurance of future payment.
The stay binds all creditors regardless of whether they receive notice. Willful violations can result in damages and sanctions.
Claims and Classification
Proof of claim establishes the creditor’s right to distribution. Scheduled claims are deemed filed unless disputed. Unscheduled creditors must file proofs of claim.
Claim objections challenge validity or amount. Disputed claims are resolved through contested proceedings.
Secured claims are secured by collateral. The claim is secured to the extent of collateral value. Any deficiency becomes an unsecured claim.
Priority claims receive payment before general unsecured claims. Administrative expenses, wages, taxes, and domestic support obligations have priority.
Classification groups similar claims for plan treatment. Each class must contain substantially similar claims. Classification affects voting and cramdown.
The Plan of Reorganization
Exclusivity gives the debtor the initial right to propose a plan. The exclusivity period is typically 120 days, extendable by the court.
Plan contents specify treatment of each claim class. Classes may receive cash, new debt, equity, or other consideration. Some classes may receive nothing.
Disclosure statement provides adequate information for creditors to make informed voting decisions. Court approval of the disclosure statement precedes solicitation.
Voting occurs by class. A class accepts if creditors holding two-thirds in amount and more than half in number vote yes. Not all classes must accept.
Confirmation requires meeting statutory requirements. The plan must be proposed in good faith, be feasible, and comply with the best interests test and other standards.
Cramdown
Cramdown allows confirmation over rejecting classes. At least one impaired class must accept. The plan must not discriminate unfairly and must be fair and equitable.
Fair and equitable for secured claims requires payment of the secured claim amount with interest over time or other specified treatment.
Absolute priority rule for unsecured claims requires that senior classes be paid in full before junior classes receive anything. Equity receives nothing unless all creditors are paid.
New value exception may allow equity to retain interests by contributing new value. The exception is narrowly construed.
Small Business Reorganization
Subchapter V streamlines Chapter 11 for businesses with debts below approximately $7.5 million. The process is faster and cheaper.
No disclosure statement is required. The debtor files a plan with the petition. The timeline is compressed.
Trustee role differs in subchapter V. The trustee facilitates the case rather than operating the business.
Cramdown is easier. No accepting impaired class is required. The debtor commits projected disposable income for three to five years.
Absolute priority rule does not apply in subchapter V. The debtor can retain equity while paying less than full value to creditors.
For Service Members
Chapter 11 affects service members as business owners, employees of bankrupt companies, and creditors.
Veteran-owned businesses in financial distress may use Chapter 11 to reorganize. VOSB and SDVOSB certification may be affected by bankruptcy. Maintaining certification through reorganization requires attention to ownership and control requirements.
Defense contractors in Chapter 11 face unique challenges. Government contracts may contain termination for convenience provisions. Facility security clearances must be maintained. Novation of contracts to successor entities requires government approval.
Employee service members of bankrupt employers have claims for wages and benefits. Priority claim status applies to wages earned within 180 days. USERRA protections continue to apply.
SCRA protections extend to service members who are creditors or guarantors. Default judgments in bankruptcy proceedings can be challenged. Stays of proceedings may be available.
Security clearance implications arise when service members have ownership interests in bankrupt businesses. Financial difficulties reflected in business bankruptcy may trigger review.
Deployment during Chapter 11 proceedings creates practical challenges. Business owners who are service members must arrange for management during absence. Powers of attorney and authorized signatories ensure continuity.
A military attorney understands how Chapter 11 affects veteran-owned businesses, the intersection of defense contracting with bankruptcy, and how service member status affects rights in bankruptcy proceedings.
Disclaimer
This article is provided for general informational and educational purposes only. Nothing in this article constitutes legal advice, and no attorney-client relationship is formed by reading this content.
Chapter 11 bankruptcy is extraordinarily complex and involves significant legal and business decisions. The outcome depends on specific facts, creditor negotiations, and court approval. The information presented here may not reflect current law or apply to any specific situation.
Do not rely on this article to make legal decisions. Chapter 11 cases require experienced bankruptcy counsel and often involve teams of professionals including financial advisors and investment bankers.
If your business is considering Chapter 11 or you are affected by a Chapter 11 case, consult with qualified bankruptcy counsel immediately.
The authors, publishers, and distributors of this content expressly disclaim any liability for actions taken or not taken based on this information. Reading this article does not create an attorney-client relationship with any person or entity.
For service members with business interests or affected by business bankruptcy, seek counsel familiar with both bankruptcy law and military-specific considerations.