Chapter 11 Bankruptcy: The Ultimate Corporate Finance Tool | Tonkon Torp LLP – JDSupra – JD Supra

COVID-19 ushered in a volatile economic climate that has made it difficult for many companies to meet their debt obligations. These companies may soon face a lender demanding repayment of debt that the company cannot pay. Refinancing with a replacement lender may be unavailable or cost prohibitive. Although a company may be experiencing financial difficulties, and unable to meet upcoming debt obligations, it may have a significant going concern value which would be lost if the company is liquidated.

In such cases, pursuing a Chapter 11 "reorganization" bankruptcy may be the best, and perhaps only, option to save the company. Under a Chapter 11 bankruptcy, a debtor remains operating while it "reorganizes" its business (eliminates and/or restructures its debt). Often times, a Chapter 11 bankruptcy can help a struggling business become a thriving business.

Due to Chapter 11's great flexibility, the range of restructuring alternatives is extremely broad. Below we discuss just a few of the possible debt restructuring alternatives available to a company in a Chapter 11 bankruptcy.

Restructure of existing debt with existing lender

One of the most powerful tools a company utilizes in Chapter 11 is restructuring its existing secured debt, which allows the company to emerge from bankruptcy with greater cash flow, improved profitability, and a strengthened balance sheet. The "cram down" provision, outlined in Section 1129(b) of the Bankruptcy Code, allows a bankruptcy court to deny the objections of a secured creditor and approve a debtor's reorganization plan as long as it is "fair and equitable."

Because of this "cram down" power, a debtor in a Chapter 11 has leverage over its lender that the debtor does not have outside of bankruptcy. Facing a potential "cram down" of its debt on unfavorable terms, an existing lender will often work cooperatively with the debtor to restructure the existing debt on terms the lender would not agree to outside of the bankruptcy. This often includes lowering interest rates, eliminating personal guarantees, extending the maturity date, eliminating financial covenants, and reducing reporting requirements.

Replace existing secured debt with new lender

In a Chapter 11 bankruptcy, the debtor has numerous tools to strengthen its balance sheet and increase profitability (e.g., by eliminating or greatly reducing its unsecured debt and rejecting unfavorable contracts). Given this improved position, a debtor often is in position to attract exit financers that were not available to the debtor pre-bankruptcy. The result is exiting the Chapter 11 with replacement (or "exit") financing that takes out the existing secured debt, on much improved terms, furthering the companys chance for long-term success.

Debt-to-equity swap

While loans remain the most common form of exit financing in a Chapter 11, another form of financing the company is issuing stock in the reorganized debtor in exchange for cancellation of existing debt. In a debt-to-equity swap, the company first cancels its existing stock shares. Next, the company issues new equity shares. It then swaps these new shares for the existing debt held by bondholders and other creditors.

This "debt-to-equity" swap can serve to eliminate the company's existing debt, greatly improving the company's balance sheet and cash flow. It also puts the company in a much improved position to obtain financing post-bankruptcy (like a line of credit) that the company could not obtain prior to bankruptcy.

Combination of the above

In many Chapter 11 plans, the debtor will often use a combination of the above (debt and equity) to finance its plan obligations and continuing operations.

Although no company is excited about the prospect of filing for bankruptcy, a Chapter 11 reorganization may be the most powerful tool a struggling company can use to ensure its survival and long-term success. Oregon bankruptcy courts can be efficient and cost-effective venues for struggling businesses to rebound.

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Chapter 11 Bankruptcy: The Ultimate Corporate Finance Tool | Tonkon Torp LLP - JDSupra - JD Supra