Chapter 11 for the Smaller Guys. Until very recently, filing for Chapter 11 reorganization was a tool for larger businesses since the process is expensive and time consuming while the Debtor corporation seeks to negotiate deals with suppliers, utilities, service providers and other creditors. However, on February 19, 2020, the Small Business Reorganization Act (“SBRA”) was passed by Congress. The intent of the legislation is to afford the same restructuring benefits to smaller businesses that could still be profitable but are not large enough to handle the costs associated with a typical Chapter 11 filing. The SBRA is set out in sub-chapter v of Chapter 11 of the Bankruptcy Code. Originally, to qualify for the small business provisions, the total amount of non-contingent, liquidated debts of the corporation, both secured and unsecured, could not exceed $2,725,625.
Enter COVID-19. To address the impact of the COVID-19 virus on small businesses, Congress amended the SBRA on March 27, 2020 as part of the Coronavirus Aid, Relief and Economic Security (“CARES”) Act. The amendment raises the debt limit from $2,725,625 to $7.5 million for a one year period, after which the limit goes back down to the original amount absent further action by Congress. As a result, this fast and much easier process through Chapter 11 now covers a substantially greater number of firms, many of which are family owned enterprises that are struggling with lost revenue and creditor pressure from quarantines and business closures. Assuming the business has good prospects to survive and prosper if it can shed a substantial portion of debt owed creditors, and “out of court” negotiations have a low probability of quick success, a small business chapter 11 filing may be an excellent tool for a clean start.
High Speed, Low Cost. The main benefits of the amended SBRA, unlike the usual Chapter 11 cases involving larger businesses, include (i) the absence of a large retainer required by the company’s bankruptcy counsel, (ii) likelihood of no appointment of a creditors committee, who come with expensive lawyers and financial advisors to investigate and negotiate with the debtor, (iii) the ability of existing ownership to retain its ownership after emergence from bankruptcy even while paying creditors a fraction of the amounts owed to them from “disposable income”, (iv) no requirement that impaired classes of creditors to vote to approve the plan, (v) no ability of a creditor to file its own “hostile” plan of reorganization or liquidation since only the company may file the Chapter 11 plan, (vi) no fees payable to the United States Trustee and (vii) the ability to pass through Chapter 11 very quickly, because the plan must be filed within 90 days after the bankruptcy case is started.
Plan of Attack. This is the perfect time for small businesses to meet with their legal advisor to see if a small business filing is advisable. Clients should be prepared to discuss the formulation of income and expense projections to determine the amount of disposable income of the company that must be committed for creditor repayments. Disposable income excludes the expenditures for the continuation, preservation or operation of the business of the company. Also, your advisor will work with you to prepare a brief history of the business operations of the company and a liquidation analysis, both of which are included in the reorganization plan, as well as the other filing requirements.
Leaner and meaner. If successful, a small business reorganization can eliminate crushing debt that cannot be serviced outside of bankruptcy. It will result in a full discharge of creditor claims in exchange for repayment over 3 to 5 years of an aggregate amount that is much less than the amount of pre-bankruptcy debt owed to creditors. A cleaner balance sheet allows for revenue to be used to continue operations, grow the business and avoid having to borrow for these purposes.
