Chapter 11 (bankruptcy)

Chapter 11 bankruptcy is a legal process under the United States Bankruptcy Code that allows businesses, and in some cases individuals, to reorganise their debts while continuing operations. It is primarily designed to give financially distressed companies an opportunity to restructure their obligations, restore profitability, and avoid complete liquidation. The process is often referred to as “reorganisation bankruptcy”, as opposed to Chapter 7, which involves liquidation of assets.

Background and Legal Framework

The concept of Chapter 11 bankruptcy is derived from the U.S. Bankruptcy Reform Act of 1978, which modernised earlier bankruptcy laws. Chapter 11 is codified in Title 11 of the United States Code. It reflects a policy of giving viable but struggling enterprises a second chance to recover rather than forcing their closure, which would have wider economic and employment consequences.
The process is supervised by the United States Bankruptcy Court, and the debtor (the company or individual filing for bankruptcy) usually retains control of business operations under court oversight. This framework is unique because it allows debtors to remain in possession of their assets while negotiating with creditors, vendors, and shareholders to develop a reorganisation plan.

Who Can File Under Chapter 11

• Corporations: Most Chapter 11 filings involve corporations that need to restructure business operations and debt obligations.
• Partnerships and Limited Liability Companies (LLCs): These entities may also use Chapter 11 to reorganise debts without dissolving.
• Individuals: Wealthy individuals or sole proprietors whose debts exceed Chapter 13 limits can file under Chapter 11, though such cases are rare compared to business filings.

The Process of Chapter 11 Bankruptcy

1. Filing the Petition: The process begins when the debtor files a voluntary petition with the bankruptcy court. Creditors may also file an involuntary petition under certain circumstances. Once the petition is filed, an automatic stay takes effect, halting all collection actions, lawsuits, and foreclosures against the debtor.
2. Debtor-in-Possession (DIP): Unlike in Chapter 7, where a trustee takes control, the debtor usually continues operating the business as a debtor-in-possession (DIP). The DIP retains managerial control but must operate under the court’s supervision and in compliance with bankruptcy regulations.
3. Appointment of Committees: The court may appoint a creditors’ committee, typically consisting of unsecured creditors, to represent the interests of all creditors. This committee reviews the debtor’s financial operations and negotiates on behalf of creditors during restructuring.
4. Reorganisation Plan: The debtor must submit a plan of reorganisation, outlining how it intends to pay its creditors, modify or discharge debts, and restructure its operations. The plan may involve:
   • Debt reduction or rescheduling of payments.
   • Sale of certain assets to raise capital.
   • Mergers, acquisitions, or downsizing.
   • Issuance of new equity or restructured ownership.The debtor has an exclusive period (usually 120 days, extendable to 18 months) to propose the plan before creditors can submit their own proposals.
5. Disclosure and Voting: A disclosure statement accompanies the plan, providing detailed financial information to allow creditors to make informed decisions. Creditors then vote to accept or reject the plan. For approval, a majority of creditors in each class, representing at least two-thirds of the total claim amount, must accept it.
6. Court Confirmation: Once approved by creditors, the plan must be confirmed by the bankruptcy court. The court evaluates whether the plan is feasible, proposed in good faith, and fair to creditors. Upon confirmation, the debtor must implement the reorganisation plan under judicial supervision.
7. Discharge of Debts: After the plan’s confirmation and substantial implementation, the debtor is discharged from certain debts, and future obligations are governed by the terms of the reorganisation plan.

Advantages of Chapter 11

• Business Continuity: The debtor remains in control of daily operations, avoiding disruption and preserving jobs.
• Automatic Stay Protection: Creditors cannot take independent collection action during proceedings.
• Debt Restructuring Flexibility: Allows renegotiation of debt terms, including interest rates, maturity periods, and payment schedules.
• Operational Reorganisation: Enables the business to address inefficiencies, reduce costs, and improve management.
• Potential for Recovery: If managed successfully, Chapter 11 allows companies to emerge stronger and financially viable.

Disadvantages and Criticism

• High Cost: Legal and administrative fees are substantial, often making Chapter 11 unsuitable for small businesses.
• Complexity: The process involves extensive documentation, court hearings, and compliance requirements.
• Time-Consuming: Cases may take several months or even years to conclude, delaying recovery.
• Uncertainty: There is no guarantee of success; many companies ultimately convert to Chapter 7 liquidation if reorganisation fails.
• Creditor Resistance: Creditors may oppose restructuring terms, leading to prolonged negotiations or litigation.

Examples of Major Chapter 11 Cases

Several prominent corporations have filed for Chapter 11 bankruptcy, illustrating its role in modern business restructuring:

• General Motors (2009): Filed during the global financial crisis; restructured under government supervision and emerged as a profitable company.
• Delta Airlines (2005): Filed to renegotiate labour contracts and reduce debt; successfully emerged after two years.
• Lehman Brothers (2008): One of the largest bankruptcy filings in U.S. history, though liquidation followed due to financial instability.
• Hertz Global Holdings (2020): Filed during the COVID-19 pandemic and reorganised successfully.

Chapter 11 vs. Other Bankruptcy Types

Modern Reforms and Variants

Recent reforms have aimed to simplify Chapter 11 for small enterprises:

• The Small Business Reorganisation Act (SBRA) of 2019 introduced Subchapter V to make Chapter 11 faster and less expensive for small businesses with limited debt.
• Subchapter V provides a streamlined process, reduced paperwork, and allows owners to retain control while proposing simplified repayment plans.