1. To provide a “fresh start” for economically viable debtors;

2. To promote equality of distribution among similarly situated creditors;

3. To concentrate the activities of judgment creditors into a single court of broad and exclusive federal jurisdiction;

4. To provide “breathing space” to a debtor, permit a structured process outside of a quick liquidation to enhance asset values, and a determination by creditor classes of a “plan” for the distribution of the value of those assets.

When is Chapter 11 useful?

1. To provide an opportunity for financially troubled but economically viable company to restructure and continue operations, either under new ownership or a new financial structure, or by removing debt impediments to viability such as ruinous unsecured debt or disastrous contracts; or

2. To provide an orderly liquidation of a failed business that possesses assets that will have an enhanced value if sold for their “going concern” value or that need to be marketed through a special process, or that would benefit from the retention of current management and continuing operations throughout the liquidation process.

When is it not useful?

1. To postpone the death of an irretrievably failed business that lacks significant salvageable assets;

2. To halt a foreclosure entirely upon speculative hope that something will turn up in a few weeks;

3. To escape the oppressive terms of a secured lender with a blanket lien on all business assets (except in a few rare instances);

4. When a consensual workout or an assignment for the benefit of creditors in state court would work and is the less costly alternative.

Use of bankruptcy as a sales vehicle

1. Under § 363 (f) of the Bankruptcy Code, a debtor may sell property of the bankruptcy estate free and clear of liens, claims and encumbrances, subject to certain restrictions. This allows debtor to make assets more marketable by severing third party claims and cleaning title.

2. Under certain conditions, a bankruptcy court can also, pursuant to § 363 (f), permit the debtor to sell property for which the debtor holds only a partial interest or where the debtor’s interests are contested by a third party.

II. First Steps in a Chapter 11 Case

Petition and Initial Filings

A chapter 11 case is commenced by filing a petition. The petition consists of an official form (or a document that substantially conforms to the official form) that requires the debtor to estimate the amount of its assets and liabilities. The required initial filings also include a list o the top 20 creditors and their addresses, parties with whom the debtor has executory (existing) contracts and leases, a corporate resolution authorizing the filing (if the debtor is a corporation) and an attorney’s verified statement disclosing the attorney’s fee arrangement.  A matrix of creditor addresses is also often required under the bankruptcy jurisdiction’s local rules.

Often filed initially, however, not required to be, are the schedules listing all secured and unsecured creditors, their potential claims, and the debtor’s assets and a list of equity security holders. Finally, a statement of financial affairs (called the “SOFA”) is required to be filed, a form document of some length that provides for a more detailed view of the debtor’s finances and situation regarding such things as litigation and property transfers pre-petition.

“First Day Motions”

Because the bankruptcy process initiated by the bankruptcy petition places the debtor under court supervision and restricts its ability to operate its business, a debtor must in the first instance obtain court permission to operate realistically. So-called “first day motions” are not necessarily filed the first day, but with an operating business they are often required to be filed and heard by the bankruptcy court as soon as possible, if not, in fact, the first day. Typical first day motions include:

 1. Employee Wages

2. Cash Collateral

3. Debtor in Possession (”DIP”) Financing

4. Retention Motions

5. Utilities

III. Small Business Debtor v. Non-Small Business Debtor

A small business bankruptcy case is a chapter 11 case involving a small business debtor, whom the Bankruptcy Code defines as a person engaged in commercial or business activities other than owning or operating real estate with debt no greater than (as of December 28, 2009) $2.19 million, not including debt to insiders and affiliates.

All chapter 11 debtors must attend meetings and timely file schedules and tax returns and allow the UST to inspect its books, but the 2005 amendments to the Bankruptcy Code added other obligations for the small business debtor. One theme of the small business amendments is that creditors deserve more and better information, presented in understandable and recognizable formats. Many sections of the small business amendments were framed with this goal in mind. As a result, small business debtors must file balance sheets, income statements, and cash flow statements with the petition, or state under penalty of perjury that none exist.

Small business debtors can receive only a 30 day extension of its time to file schedules and statement of financial affairs. In a small business case, the United States Trustee is required to conduct an initial interview with the small business debtor before the Section 341 meeting. Senior management and counsel are required to the initial debtor interview, as well as scheduling conferences and meetings of creditors.

IV. Leases and Executory Contracts

1. Leases

Section 365(d) (4) requires a debtor to assume or reject a lease of non-residential real property within 120 days of the petition date or the lease will be rejected. The court upon motion may extend the deadline an additional 90 days. No additional extension is permitted accept with the written approval of the landlord. The deadline may force a debtor to make premature decisions as to its future needs related to subject real estate, since, not atypically, a Chapter 11 debtor may not have its financing in place or its plan formulated (particularly if it turns on settlement of litigation) by the 210 day deadline.

In large retail cases, where there may be dozens of leases and sites to analyze, this requirement may be particularly burdensome. Leases may be rejected, assumed, or assumed and assigned, in accordance with the rules discussed below for executory contracts.

2. Executory Contracts

Section 365 of the Bankruptcy Code provides a debtor with authority to assume or reject an executory contract subject to court approval. In re Carlisle Homes, Inc., 103 B.R. 524, 534 (Bankr. D. N.J. 1988) the court explained: The purpose of § 365 is, in part, to enable the debtor to take advantage of favorable agreements that benefit the estate. The Bankruptcy Code does not define “executory contract.” The legislative history of § 365, however, is instructive as to the meaning of the term in the bankruptcy context. An executory contract is one on which performance remains due to some extent on both sides.

Upon rejection, the debtor must pay “rejection damages”, consisting of damages for breach of the contract, however, despite the fact the contract is rejected after the filing of the bankruptcy petition, the claim is as a general unsecured pre-petition claim and thus subjected to the limitations of any pro rata distributions to unsecured creditors. A debtor may also assume a favorable contract, and obligate itself to pay a “cure amount” and provide adequate assurance of future performance. Cure amounts are paid in full amount as a current obligation.

With some exceptions, a debtor may also assume and assign (i.e. sell) a favorable contract to a third party, subject to court approval. In such instances, the third party pays the cure amount and provides the adequate assurance of future performance. With both executory contracts and leases, upon assumption, the debtor is required to meet post-assumption obligations under those contracts and leases as those obligations come due.

Chapter 11 bankruptcy reorganizations have emerged as the hottest venue for quickly buying, trading and breaking up companies.

Bankruptcy is built around the idea of reorganization where cash-strapped firms enter court and often spend, years paying off creditors and attracting new financing. Now, with that financing in short supply, companies are rushing to hash out deals in weeks and months. That is reshaping traditional deal making and restructuring. The number of prearranged bankruptcy plans – which receive significant creditor blessing before entering court should increase significantly in 2009. Meanwhile, the numbers of asset sales directly out of bankruptcy court are well ahead of last year’s pace.

For example Masonite International Inc., a debt-laden door maker once controlled by Kohlberg Kravis Roberts & Co., entered bankruptcy court in mid-March. Three months later it has new owners and virtually no debt.

‘The traditional stand-alone reorganization is on the endangered species list due to the lack of financing, so the acquisition in bankruptcy is much more prevalent now. General Motors Corp.’s fast-paced strategy to sell its desirable assets to a “New GM” while its more-onerous assets wind down in bankruptcy court.

So many situations are dire, like with retailers, that there need to be quick solutions; stakeholders have to have a reorganization plan in place even prior to the company’s Chapter 11 filing. Masonite chief executive has been quoted as saying the company is poised to use its clean balance sheet to make acquisitions. Whenever you can de-lever the way we have through Chapter 11, it clearly puts you in a position to be on the offensive.

In other cases, investors are acquiring company assets in so-called 363 bankruptcy sales, which are named after a section of the Bankruptcy Code. In such sales, companies quickly auction assets and leave many liabilities behind. That makes the assets attractive to new owners. These auctions can raise legal challenges, with sellers accused of using the sale as a substitute for a reorganization plan requiring creditors’ endorsement. But bankruptcy lawyers have generally cited such sales as “bulletproof,” because they are difficult to undo once approved by a judge.

Debt is the new equity. There are tremendous opportunities for investors to really take control of, or purchase, companies at a very good price.

Bankruptcy and financial professionals have speculated that such scenarios where the expected outcome of the application of rules of law could make investors and lenders demand higher interest rates on debt given the uncertainty over how they might fare should the borrower encounter financial difficulties.

The concern is that lenders have factored certain expectations of identifiable events happening having a predictable result based on precedent of rules and laws.

How are investment decisions to be made and quantified when lenders are faced with bankruptcy courts that appear to disregard the rules? Are such arguments for speed a short-term concern that likely will not be followed when the financial crisis ends? Chrysler maintains that it used established bankruptcy procedures, and that extraordinary measures were needed during the unprecedented economic crises.

Lawyers who represent secured creditors fear the Chrysler precedent could be used to allow companies to get around established procedures for reorganizations which require negotiations and creditor vote approving a plan of reorganization.

At issue with Chrysler was a procedure called a “363 sale,” which refers to a section of the U.S. Bankruptcy Code which allows the court to approve a sale assets without the approval of creditors. Such sales are typically used to sell a single or group of asset(s) in bankruptcy proceedings, such as a building that needs to be sold quickly to maximize its value, and can be done without creditor approval. Creditors claim Chrysler used the procedure to effect a restructure of the entire company, not just a single or group of asset(s).

Lawyers are citing these examples in the name of speed, claiming emergency circumstances. The question remains how these impact future attempts at 363 sales will.