CHARLESTON — Bankruptcy is a situation where an individual, business or other entity cannot meet all of its financial obligations. This may be the result of unusually high expenses, reduction of income, mismanagement, litigation or a combination of factors.
Bankruptcy is a means of regaining financial stability when other methods have failed. The Bankruptcy Code is designed to help debtors eliminate or repay debt under the protection of the Bankruptcy Court.
There are two primary categories of business bankruptcy — liquidation and reorganization.
Liquidation (or Chapter 7 bankruptcy): An independent trustee is appointed and charged with the responsibility to sell or dispose of the company’s assets and make distributions to creditors. The debtor discontinues operations and allows the trustee to divide assets according to each creditor’s priority. Chapter 7 is the most common form of bankruptcy.
Reorganization (or Chapter 11 bankruptcy): The business is allowed to continue while it works with creditors to create and implement a viable plan to return to financial health and profitability while repaying its debts. Chapter 11 necessitates filing a written disclosure statement and plan of reorganization, for creditors to form a sound judgment regarding the debtor’s plan to reorganize.
Advantages of Chapter 11
A business will get an “automatic stay” from creditor action as soon as it files the bankruptcy petition. The company needs external help when the situation gets out of hand, in which case the Bankruptcy Court intervenes and allows management to get their business back in order.
An important advantage of bankruptcy to the debtor is the avoidance powers it gives. Those are the powers to reject unfavorable contracts and leases, and to overturn certain transactions deemed to have given an unfair preference to one creditor over others.
Another advantage of bankruptcy is that creditors who dissent to the plan of reorganization can be forced to accept it if the bankruptcy court decides to “cram down” the plan on dissenters.
One rationale behind Chapter 11 is that in some cases the value of a business is greater if sold as a “going concern,” rather than the value of the sum of its parts if the business assets were to be sold off individually.
Disadvantages of Chapter 11
A disadvantage of filing Chapter 11 bankruptcy is the reduction of management control. While it is true that management can continue running the operations of the company, it is the United States Trustee and the Bankruptcy Court that will have a final say in most significant business matters. Chapter 11 can also be very expensive, especially when it comes to professional fees.
West Virginia is blessed with one of the fairest and most efficient bankruptcy systems anywhere. I have practiced in this area for more than twenty years and, over that time, the Bankruptcy Court judges and staff, U.S. trustee personnel, attorneys and other bankruptcy practitioners in West Virginia have consistently been among the best in their profession.
By saving the business, jobs may be saved for a number of people left exposed to financial ruin.
Nistendirk is a partner at Woomer, Nistendirk & Associates PLLC, a CPA firm located in Charleston, West Virginia. Bob has extensive experience in tax accounting, strategic planning and financial/business consulting. He may be contacted at email@example.com.