Preparing To File
Preparing to file for bankruptcy begins similarly to the process of deciding whether to file at all: with communication between business owner, accountant, and attorney, as well as the gathering of pro forma financial statements (i.e., forward-looking financial statements). Information about the creditors, debt (secured vs. unsecured), and executory contracts will be gathered, and schedules for filing with the petition will be created. A basic plan of repayment may be needed prior to filing.
Along with the filing will be first-day motions. There will also be an order about the cash proceeds from the sale of a secured lender’s assets, which will typically be needed if there is a secured lender for the business who has an all-asset lien or a blanket lien of all business assets. This motion is necessary because when bankruptcy is filed, that creditor will still have a lien over all the inventory and products of the business; when the business sells those products, that bank’s lien attaches to those proceeds. Prior to bankruptcy, the assets of the business are subject to a lien of the creditor. When those assets are sold, the cash proceeds would then be subject to the lien of the creditor. Then that cash gets turned into more product and more sales, and the circle continues. But the lender’s lien remains over those proceeds.
It is important to note that once bankruptcy has been granted, the cash proceeds from the sale of products belong to the lender. When those proceeds are received, they are subject to the lender’s lien. Absent an order from the bankruptcy court, the debtor cannot use that cash; it belongs to the creditor. For this reason, there must be an agreement in place with the secured creditor prior to the bankruptcy (hence, the need to communicate with creditors prior to bankruptcy) or a court order that allows for continued business operations via the use of a lender’s cash collateral (i.e., the money obtained from the sale of products or goods subject to the lender’s lien). Assuming it is a small business bankruptcy, this will require discussions with creditors about a solution, and a proposed plan of action to handle the debt.
When it comes to creditors who are imperative to the operation of the business, one option is to file a “first-day motion” asking the bankruptcy court to immediately address the business’ continued dealings with that creditor. The court could be asked for an emergency hearing, during which it would hear a motion for the allowance of what would otherwise be considered preferential payments to important or material suppliers or vendors that are critical to the operation of the business. Ultimately, it is up to the court to decide whether or not to grant such a request.
It is important to note that, from an economic perspective, anything that was due to creditors before the day that bankruptcy is filed is considered pre-petition (pre-bankruptcy) debt, and will be part of the bankruptcy and any plan created for repayment; for any post-bankruptcy operations, the business owner must pay those creditors under the normal terms (e.g., cash on delivery, net 30). If the business owner does not pay for those post-bankruptcy operations going forward, then those debts are going to be priority claims in the bankruptcy.
From a creditor’s perspective, while frustrating, the amounts that were owed as of the bankruptcy filing date may not be paid in full. However, creditors can be confident that, if the business is going to survive the bankruptcy, they will get paid in full for any post-petition charges and sales. Because of this, it does not make much sense to walk away from a debtor simply because the debtor filed for bankruptcy. Because the creditor knows it will be paid if that debtor is continuing operations in the Chapter 11 case, and those debts will be “priority claims,” which means those debts will be paid before payments to unsecured creditors.
Another type of first-day motion allows for the ability to pay the company’s employees. Typically, employees will be paid in arrears. As soon as bankruptcy is filed, there may be a week or two when the employees have worked but have not been paid; thus making the debtor’s employees also creditors of the debtor. For this reason, there needs to be an order from the court that allows for the use of post-petition dollars (i.e., dollars created from the operation of the business going forward after the bankruptcy) for a pre-petition debt (the debt owed to those employees).
Status Conferences And 341 Meetings
Within 60 days, a status conference will be set by the court to hear from the debtor and the debtor’s counsel about how the debtor plans to solve its financial problems and what steps the debtor is taking to create and implement a (consensual) plan.
Within that 60-day period, there will likely be a “341 meeting” or a meeting of the creditors. This meeting takes its name from section 341 of the bankruptcy code. This meeting is not heard by a judge but is run by the trustee. At this meeting, the creditors will be given an opportunity to ask questions of the debtor, who will be under oath. The debtor will need to be adequately prepared for this to ensure that the debtor provides reasonable and thoughtful responses regarding their plan for moving the business out of bankruptcy. Failure to adequately prepare and respond by the debtor could destroy a case.
Within 90 days, the debtor must be prepared to file a plan of reorganization with the court and begin the process of soliciting votes for the plan from the creditors. Ultimately, these steps will move the plan toward confirmation by the bankruptcy court.
For more information on Readying To File & Filing Of Bankruptcy, an initial consultation is your next best step. Get the information and legal answers you are seeking by calling (205) 506-3354 today.