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Published Articles by David Balovich

Title: Bankruptcy Is No Longer Seen As A Business Tool
Published in: Creditworthy News
Date: 2/19/09

Back in the late 70’s and into the early 80’s there was an unusual increase in Chapter 11 Bankruptcy filings by businesses of all sizes. Chapter 11 allows the business to continue to operate while under the protection of the Bankruptcy Code. While in Chapter 11 a business is not required to pay its existing debts, can cancel lease agreements, renegotiate loan payments and modify labor agreements and has time to figure out how to return to profitability without worrying about creditors taking legal action to recover what they are owed.

During the late 80s and early 90s the majority of the business schools in the United States added courses in bankruptcy to their curriculum as bankruptcy was considered to be a business strategy right along with marketing and advertising. 

The present economy and the failure of large banks, investment houses and insurance companies have caused Chapter 11 to no longer be looked upon as the valuable business tool it once was. One only has to look at the reluctance of several large firms in various industries to file Chapter 11. Although opinion within and outside the companies is they should file many are perplexed as to why they won’t. The answer is painfully simple, the fear that they will not be able to emerge out of reorganization because of the inability to obtain sufficient financing to reorganize and thus be forced into Chapter 7, liquidation. 

One only has to look at several companies who have previously filed Chapter 11 and then had to convert to liquidation. Companies like Linen ‘n Things, Mervyn’s, and Circuit City, for example. Back in the 80s and 90s most companies that filed bankruptcy, like UAL parent of United Airlines, immediately were able to obtain millions of dollars from financial institutions or banks that permitted them to remain in bankruptcy until they felt comfortable they had shed enough debt and contracts to emerge and generate a profit again. Today, those same banks and financial institutions have their own difficulties and are reluctant to lend money to companies facing similar financial stress.

 So companies that once would have gotten together with their creditors and worked out a plan acceptable to all parties are avoiding bankruptcy, if at all possible, because they know if they cannot obtain financing from financial institutions or investors or sufficient credit from their trade creditors, the odds of emerging from Chapter 11 are slim and many of the jobs they still provide will probably vanish forever along with the companies. 

The number of businesses filing bankruptcy in 2007 was the second lowest number of filings since 1980 according to the American Bankruptcy Institute. And though we have seen the number of bankruptcy filings begin to increase in 2008, historically bankruptcy filings usually trail an economic downturn and so far the number of filings is not even close to the number of Chapter 11 filings in previous downturns. According to the American Bankruptcy Institute businesses that would normally be in bankruptcy by now are holding off for as long as they can. 

Although things look dismal for both the debtor and creditor, there is an option to bankruptcy. Assignment for The Benefit of Creditors is an alternative to formal bankruptcy proceedings. In an Assignment, the debtor and their creditors work together to either re-organize the debtor back to profitability, while the creditors still get paid, or liquidate the business in orderly fashion to obtain maximum return to the creditors. 

Assignment for Benefit of Creditors proceedings are governed by state law rather than federal law like bankruptcy. Many states like California, Delaware, Georgia, and Texas to name a few have governing laws found in their States Civil Procedures or Business & Commerce Codes. In addition several foreign countries have similar laws that provide an alternative to bankruptcy. 

We will not cite any specific states law in this article but rather cite the generalities found in most states statutes. Specific information concerning an assignment can be found in the states statutes where the organization is incorporated. Delaware corporations, for instance, regardless of where they are headquartered can generally avail themselves of Delaware’s voluntary assignment statutes and procedures that have both similarities and differences from other states laws. A full analysis of how an assignment would function in a particular state and the affect it would have on both creditor and debtor will require legal advice from knowledgeable counsel. The following, however, highlights some of the key features of an assignment. Please note this does not include all of the features of an assignment.

 Court Filings; may or may not be required and depends on the state law. 

The Assignee; unlike the bankruptcy trustee, who is selected from an authorized panel, the debtor is generally able to approve the assignee. 

Assignee as Fiduciary; the assignee is a fiduciary to the creditors and is typically a professional in re-organization of businesses and liquidation of assets. 

Assignee Fees; the fees charged by assignees often involve a upfront payment plus a percentage either based on the assets liquidated or the return to creditors. 

No Automatic Stay; in many states, like California and Texas, an assignment does not give rise to an automatic stay like bankruptcy does, although an assignee can often block judgment creditors from attaching assets. 

Event of Default; the making of a general assignment for the benefit of creditors is usually considered a default under most contracts. As a result contracts may be terminated upon the assignment. Further consultation with legal counsel should be considered prior to notifying anyone of a default situation. 

Proof of Claim; for creditors, like bankruptcy, a proof of claim is generally submitted to the assignee by a stated deadline or bar date. Creditors are not required to file a proof of claim or participate in an assignment. However, creditors who do not agree to an assignment normally do not participate in the distribution of proceeds from the sale of an asset or agreed to payout schedule. 

Employee Priority; employee and other claims are governed by state law and may involve different claim amounts than what is covered under the Bankruptcy Code. 

Administrative Claims; generally, state law does not give creditors who provided goods within 20 days of an assignment, like in bankruptcy, a priority claim. 

Landlord Claim; unlike bankruptcy, there is generally no ceiling imposed on a landlord’s claim for breach of a real property lease. 

Sale of Assets; in many states sales, by the assignee, of the company’s assets are treated as a private transaction without approval of any court. However, unlike a bankruptcy section 363 sale, there is usually no ability to sell secured assets without the consent of the lien holders. 

Avoidance Actions; most states, particularly California and Delaware, allow assignees to pursue preferences and fraudulent transfers. 

Thus in an assignment for benefit of creditors, simply put, the debtor and/or creditors engages the services of an outside administrator (assignee) to assume the financial activities of the debtor to liquidate the assets of the business while providing maximum benefit (returns) to the creditors that often do not occur in bankruptcy. The creditors sometimes agree to continue to supply the debtor with sold goods while at the same time they receive payments distributed by the administrator for their receivables. All payments from the debtor are disbursed by the administrator including any payroll disbursements. 

In a time where businesses are trying to stay afloat and provide jobs while banks and lending institutions are still focusing on their own problems and are reluctant to lend money, The Assignment for Benefit of Creditors can be a win-win for both the debtor and their creditors.   

I wish you well

The information provided above is for educational purposes only and not provided as legal advice. Legal advice should be obtained from a licensed attorney in good standing with the Bar Association and preferably Board Certified in either Creditor Rights or Bankruptcy.  

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