Corporate bankruptcy under the US law Vinod Kothari 1012 Krishna 224 AJC Bose Road Calcutta 700 017 Phone 033-23233863/23233864/2281 1276/22817715/22813742

Corporate bankruptcy under the US law

Vinod Kothari1012 Krishna224 AJC Bose RoadCalcutta 700 017Phone 033-23233863/23233864/2281 1276/22817715/22813742Fax 91-33-23233863/22811276

Email: [email protected]; [email protected]

Corporate insolvency by Vinod Kothari2

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No rights of any kind have been transferred in soft copy of the presentation, meant only for the purpose of printing. The soft copy should be purged immediately after printing.

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General scheme of US bankruptcy laws

Title 11 of US code deals with bankruptcies– Chapter 1: general provisions, definitions– Chapter 3: Administrative matters, automatic stay,

etc– Chapter 5: proofs, priorities, property, avoidance,

etc– Chapter 7: Liquidation– Chapter 9: Adjustment of debt of municipality– Chapter 11: reorganization– Chapter 13: Adjustment of debt of individual with

regular income


General scheme of US bankruptcy laws

4 kinds of bankruptcy proceedings:– Chapter 7 is the most common:

applies to individuals, married couples, corporations and partnerships assets of the bankrupt are seized by the bankruptcy trustee and

distributed discharge within 4-6 months

– Chapter 11: reorganisation proceedings companies, partnerships debtor remains in possession of assets and continues to pay creditors debtor prepares a reorganisation plan to be accepted by a majority of

creditors; then binding on all– Chapter 12 is meant for family farmers– Chapter 13: repayment plan for debtors with small income and assets

- this is not liquidation but a sort of compromise Meaning of insolvency:

– sec. 101.32 defines insolvency as excess of debts over fair value of assets, excluding assets transferred or hidden, and exempt assets


Stay of proceedings

Filing of a bankruptcy petition operates as automatic stay [362]:– Commencement or continuation of any process, judicial or

administrative– Enforcement of a judgement against the debtor or property of the

debtor– Any act to obtain property or its possession– Any act to create, perfect or enforce security interests– Any act to create or recover any claim– Any set off– Commencement or continuation of any tax proceeding

However, the following are not stayed:– Criminal proceedings– Set off rights under specified market transactions – such as

securities, commodity trades– Several other specific exceptions listed in the section

Court may, on application, grant relief against stay


Proof of claims and interests

Claims mean claims of creditors; interests mean interests of equity holders

Claimants and interest holders may file proof – sec. 501– Permissive section; filing of proofs not mandatory– However, rules provide for priority and distribution

based on filing of proofs– Debtor may also prove the claims and interests

All proofs are taken to be allowed unless a party in interest objects – sec 502

Debtor is also required to file a list of claims and interests – sec 521


Bankruptcy estate - 541

Filing of bankruptcy petition shall create an “estate” – called bankruptcy estate. Includes:– All legal and equitable interests– Proceeds, product, profits, rent from estate– Interest in property after bankruptcy

Does not include:– Power solely exercisable for the benefit of others

Duty of every person to turn over bankruptcy estate – sec 542


Preferences - 547

Undue preferences may be avoided by the trustee if transfer made 90 days prior to filing;

– 12 months in case of transfer to insiders Saving clause for:

– Contemporaneous exchange of value– Ordinary course of business– On ordinary terms

Fraudulent transfers – sec 548– All voluntary transfers made within 12 months prior to bankruptcy:

Transfer to hinder delay or defraud other entities Received less than equivalent in value

Post-petition transactions must be confirmed by Court: sec 549 Transferee under avoided transfer liable to return the asset Abadonment of burdensome property – sec 554


Chapter 7

Chapter 7 deals with liquidation, as opposed to revival The overall scheme of chapter 7 is similar to global bankruptcy

laws: Impact of chap 7 petition:

– automatic stay on suits against debtor or property– even telephone calls demanding payment are stayed

assets of the debtor are classed into exempt assets, non-exempt assets and avoidable transfers - bankruptcy estate is created

meeting of creditors is called for creditors to question the debtor– the debtor gets a discharge from his debts– non-discharged debts:

taxes support: alimony, child support liens credit card debt incurred within 60 days before filing reaffirmed debts debts for a willful injury caused by the debtor - say accident


Priorities under US bankruptcy laws – sec 507

Administration expenses Involuntary gap, that is, debt incurred in ordinary course of

business after filing for involuntary bankruptcy but before appointment of trustee

Wages upto $ 4000, or sales commission earned during 90 days prior to filing of petition

Dues to employee benefit plan upto $ 4000 per employee Claims of farmers and fishermen to extent of $ 4000 per person Claims upto $ 1800 per individual of deposit for purchase of

property, services etc for personal purposes Govt. income taxes pertaining to income for a year before

bankruptcy filing, excise, customs, etc and penalty thereon Unsecured claims allowed by Federal depository institutions


Chapter 11: Reorganization

Chapter 11 is reorganization proceeding:– Typically meant for business entities– Corporates typically file under Chapter 11– Individuals seeking to reorganize their business may also file

Corporates wanting to go for bankruptcy may file under Chapter 7

Chapter 11 petition may be filed either voluntarily, or involuntarily[sec 303] by:

– By 3 or more entities holding unsecured claims of at least $ 10000

– If there are 12 or lesser creditors, any one such claimant with at least $10000 claim

–


Basic difference between Chapter 7 and Chapter 11

In Chapter 7, the company ceases to carry business; in Chapter 11, the business is continued:– Concept of DIP: the debtor remains in possession of

the property– However, significant decisions are approved by the

Court

Obviously, Chapter 11 route is chosen by most companies


Institutional machinery of Chapter 11 proceedings

The US Trustee, bankruptcy arm of the Justice department, will appoint committees to develop a reorganisation plan:– Typically, committees represent interest of

unsecured creditors, stockholders, employees, subordinated lenders, etc.

– May also appoint professionals to assist

Plan to be accepted by shareholders, bondholders, creditors

Court may confirm a plan even if not approved by stakeholders


Steps in development of the plan

The debtor company develops a plan with committees.

Company prepares a disclosure statement and reorganization plan and files it with the court.

SEC reviews the disclosure statement to be sure it's complete.

Creditors (and sometimes the stockholders) vote on the plan.

Court confirms the plan, and Company carries out the plan by distributing the

securities or payments called for by the plan.


Steps in Chapter 11 proceedings

Filing of the petition:– Bankruptcy proceedings commence on filing– Who may file it – sec 301/303

Voluntary and involuntary petition

Presentation of the plan [1121]– Debtor may file it with the petition or at any time thereafter– Other interested parties may file it, if the debtor has not filed within 120 days, or not

accepted in 180 days: Debtor has exclusive right within 120 days

Disclosure statement [1125]:– For solicitation of acceptance of a plan, a written disclosure statement is required,

containing “adequate information”. Disclosure statement is approved by Court– Solicitation of acceptance of a plan is not covered by SEC requirements

Acceptance/rejection of plan– A plan may be accepted or rejected [1126]; a plan may also be pre-petition accepted– Acceptance of class plans: if 2/3rds in value and majority in number of a class have

accepted a plan it is deemed to have been accepted [ 1126 (c )] Court may, on application, declare a party whose acceptance will not be treated as in good faith.

Such party to be excluded in reckoning the number Deemed acceptance/ deemed rejection


Steps in Chapter 11 proceedings -2

Modification of plan– Proponent of a plan may file for modification any time before its

confirmation– Proponent of the plan or reorganized debtor may also file for

modification before substantial consummation : Substantial consummation defined as effective steps such as transfer of

property, succession in business, etc.– Acceptance or rejection of modification implied, unless, within time

fixed, concerned party changes consent Hearing of confirmation Confirmation order Implementation of the plan: orders of the Court are mandatory If the plan provides for any surrender of security, the same shall

be done within 5 years of confirmation Within 180 days, upon application, the court may revoke a

confirmation


Pre-conditions for confirmation

Proposed in good faith and not in breach of applicable law All payments for services or exps in connection with the plan have been

approved by the court Identity of directors/ officers/ trustees or insiders post-plan has been

disclosed If any govt regulation is applicable as to rates, either such sanction has

been obtained or the confirmation is subject to such approval Each party in interest and each impaired class has accepted the plan & will

receive under this plan at least as much as it would under Chapter 7 Priority payments – provisions of sec 507 are satisfied Confirmation of the plan is not likely to be followed by liquidation or

reorganization Retirement benefits are continued If it is fair and equitable for those who did not accept it:

– Fairness condition includes: For secured creditors, they retain their lien on the property to the extent of their

accepted claims, and deferred cash payments equivalent thereto For unsecured creditors, the plan provides for payment equal to accepted claims and

that subordinated claimants will not receive payment before unsecured creditors paid off


Impact of filing a Chapter 11 plan

Debtor becomes debtor-in-possession Impact of confirmation:

– Mandatory nature– All “estate” bests in the debtor– Property dealt with by the plan is free of all claims– Discharges the debtor from all debt contracted

before the confirmation


Concept of debtor-in-possession

While under bankruptcy proceedings under Chapter 7, trustee takes over the business, in Chapter 11, debtor remains in possession

Debtor remains DIP until:– Passing of confirmation order– Rejection of the case– Conversion of the case in Chapter 7


Contents of a plan - 1123

Designation of classes of claims and classes of interests:

– Claims similar may be put under classes: E.g., Unsecured claims upto a particular amount

– Same treatment to all claims or interests in a class Claims or interest that are not impaired Claims or interests that are impaired, and their

treatment:– Meaning of impaired claims [sec 1124] – all claims unless their

contractual terms are not adversely affected, or they are adequately compensated

Means of implementation– Measures envisaged for implementation of the plan, such as

sale, merger, curing or waiving of defaults, etc


Special provisions for small business

Meaning of “small business” Time for presentation of plan reduced to 100

days


Chapter 13

Debtors with regular income are granted time upto 3 years to pay debt in instalments

unsecured debts less than USD 269250 and secured debt less than 807750

corporations and partnerships are not allowed automatic stay on collection and foreclosure debtor to file plan of repayment within 15 days

Documents

Corporate bankruptcy under the US law Vinod Kothari 1012 Krishna 224 AJC Bose Road Calcutta 700 017 Phone 033-23233863/23233864/2281 1276/22817715/22813742