United States: Prepackaged Bankruptcy Offers Investors A Quick Return To Liquidity

Chapter 11 bankruptcy cases are typically lengthy and expensive, potentially lasting years and costing millions of dollars in fees and expenses. One valuable technique to minimize a debtor's time in Chapter 11, reduce cost and disruption, and still secure the benefits of a Chapter 11 plan is a prepackaged bankruptcy (also called a "prepack"). In a prepack, a debtor negotiates the terms of a chapter 11 plan and solicits votes prior to the bankruptcy filing.

One of the greatest benefits of a prepack is that it allows a company to quickly implement a balance sheet restructuring without the consent of 100% of its creditors. While restructuring debt outside bankruptcy often requires unanimous consent from financial creditors, a prepack requires the support of creditors that hold two-thirds in amount and more than one-half in number of claims voting in a class under the bankruptcy plan. As a result, where full consensus cannot be obtained, a prepack may provide an attractive option for funds seeking to implement a balance sheet restructuring.

An analysis of the 12 largest prepacks in the U.S. Bankruptcy Court for the Southern District of New York ("SDNY") from 2012 to 2014 demonstrates that prepacks are relatively quick proceedings. Prepacks in the SDNY can be confirmed as soon as 30 days from the bankruptcy filing and generally do not take longer than approximately 80 days to complete (with many finishing much sooner). To this end, the local rules for the SDNY provide that the disclosure statement and confirmation hearings should be combined "whenever practicable," which eliminates the need to have (and prepare for) two hearings, the requisite notice period for each (28 days), and the accompanying cost. The local rules for the SDNY also permit the waiver of the requirements to (1) file schedules and statements of financial affairs and (2) hold a meeting of creditors pursuant to Section 341 of the Bankruptcy Code — all of which save the debtor time and money.

Moreover, in a prepack much of the work required to document the restructuring (including the drafting and solicitation of a chapter 11 plan) is completed before the bankruptcy filing so that as of the filing, the primary unresolved issue is confirmation of the chapter 11 plan. By minimizing a debtor's time in bankruptcy, a prepack limits the administrative costs that a debtor would otherwise incur during the bankruptcy case.

Furthermore, in prepackaged cases, the United States trustee often declines to appoint a statutory committee, leading to significant cost savings. Where, as is common in prepacks, all unsecured creditors are either unimpaired or have otherwise voted in favor of the plan, an unsecured creditors' committee is not necessary. Indeed, local rules for the SDNY contemplate that a creditors' committee should not typically be appointed in a prepack "where the unsecured creditors are unimpaired." In addition, an equity committee will not be appointed in cases where equity holders are clearly out of money. As a result, out of 12 cases analyzed, only two had a statutory committee.

Prepacks also help preserve vendor and customer confidence and employee morale. Since a chapter 11 plan is negotiated before a bankruptcy filing, the debtor can better provide these constituents with clarity on how they will be treated in the restructuring, thereby obtaining their cooperation and support upon the filing. Also, the accelerated bankruptcy timeline greatly simplifies vendor and creditor communications concerning the bankruptcy.

Finally, negotiating a plan prior to the bankruptcy filing limits an adverse party's ability to use the bankruptcy process as leverage in its negotiations with the debtor. Specifically, once the debtor is in bankruptcy, an adverse party can cause dislocation for the debtor through motion practice (including motions to appoint an examiner, lift the automatic stay and/or terminate exclusivity), whereas outside bankruptcy, an adverse party's ability to cause disruption is more limited.

In sum, the prepack structure provides a viable alternative to a traditional chapter 11 filing if the goal of the restructuring is to implement a balance sheet restructuring. A prepack offers a comparatively quick and efficient way to restructure a company's debt obligations with minimal operational disruptions and, even with unanticipated delays, allows a company to emerge from bankruptcy in a fraction of the time necessary for a traditional chapter 11 filing.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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