United States: Not All Creditors Are Created Equal: Critical Vendors And Bankruptcy

Last Updated: September 6 2019
Article by Jason B. Binford

Recent economic indicators suggest that the manufacturing industry in the United States has contracted and that the economy may be headed towards recession. Such news is cause for concern for both healthy and struggling companies. A struggling company may be concerned about the prospect of its own bankruptcy filing, but every company is at risk of becoming a creditor in a bankruptcy case.

The level of recovery for a creditor in a bankruptcy case varies dramatically based on the nature of the claim. In the very common scenario where there is not enough money to pay all creditors in full in Chapter 11 bankruptcy cases, unsecured creditors may receive pennies on the dollar – or even nothing at all. Creditors will jostle for position in an attempt to be included in claim classes that take priority over general unsecured claims. For example:

  • A creditor who has a first priority, perfected, and unavoidable lien on collateral of the bankrupt party (the debtor) can typically expect to be paid in full up to the value of the collateral.
  • A creditor who provides goods and services to a debtor following the bankruptcy filing is entitled to administrative expense claims that must be paid in full in order for debtor to confirm a plan of reorganization.
  • A creditor who provides goods delivered to the debtor within 20 days prior to the bankruptcy filing is entitled to an administrative expense claim for the value of such goods.

For the less fortunate unsecured creditor who provided services (rather than goods), or provided goods outside the 20-day pre-bankruptcy period, the default under the law is that the creditor is entitled to nothing more than a general unsecured claim. For this creditor, the best case scenario in bankruptcy may to obtain designation as a critical vendor who is providing goods or services necessary to the debtor's survival. A designated critical vendor's pre-bankruptcy claim will be paid in full, subject to certain conditions.

The term "critical vendor" does not appear anywhere in the Bankruptcy Code. Rather, the concept has been developed over time by bankruptcy courts and other participants in the Chapter 11 process. The issue arises from the fact that, unless there is an enforceable contract providing otherwise, a debtor cannot compel a creditor to continue to do business with it. Note that a creditor threatening to cease doing business with the debtor unless the creditor's pre-bankruptcy claim is paid in full may be accused of violating the automatic stay. If the creditor has no binding contract, and does not make any such threat, however, there is nothing to stop the creditor from no longer doing business with the debtor. In many cases, a debtor who has been cut off by a creditor can simply purchase from the creditor's competitor as an alternative. But, if the creditor is a sole source supplier or otherwise provides goods or services that are very difficult to replace, the debtor may find itself struggling to reorganize. In such circumstance, the debtor may deem the creditor "critical" and seek authority from the bankruptcy court to pay the creditor's pre-bankruptcy claim in full. Debtor's usually offer such designation on the condition that the creditor continue supplying the debtor on the same credit terms as were in place prior to the bankruptcy filing.

In large to mid-size Chapter 11 bankruptcy cases, critical vendor motions are quite typical. Such motions are filed at the beginning of the case and allow for a certain amount of funds to be used by the debtor to pay the claims of critical vendors. Most often, the debtor will be the party determining which creditors are deemed critical. However, other parties in the case such as the senior secured creditor with a lien on cash, or the official committee of unsecured creditors, may have a say in how determination is made and how the funds are paid.

Creditors seeking critical vendor status face several challenges, including:

  • At the most fundamental level, the creditor must convince the debtor that they should be included on the list of critical vendors. Whether a creditor is entitled to be included can differ from jurisdiction to jurisdiction, depending on applicable case law. A common test adopted by many courts requires a critical vendor to demonstrate each of the following:
    1. dealing with the creditor is virtually indispensable to the profitable operations of the debtor;
    2. a failure to deal with the creditor risks probable harm or eliminates an economic advantage disproportional to the amount of the claim; and
    3. there is no practical or legal alternative to payment of the claim.
  • The standard for determining whether a creditor will be deemed critical can vary widely across jurisdictions and the approach can even differ from judge to judge within a single jurisdiction. In some jurisdictions, millions of dollars in critical vendor claims are routinely paid via a "first day" motion filed at the beginning of the case. In other jurisdictions, the issue may be involve a contentious dispute resulting in a court order not allowing for any meaningful amount of critical vendor payments.
  • Designating a claim as critical will usually come with strings attached. As a condition to being paid, the creditor likely will be required to provide the debtor with reasonable credit terms for a particular period of time. Thus, debtors can use critical vendor motions as leverage to obtain post-bankruptcy credit terms from parties that otherwise would likely require the debtor to pay in advance. Critical vendors incur a relatively small amount of risk in providing credit on a go-forward basis to the debtor. If the debtor later falters in bankruptcy and is forced to liquidate, the creditor will have an administrative expense claim for such post-bankruptcy receivables. While administrative expense claims will not be paid in full if a debtor is "administratively insolvent," such a claim is greatly preferred to general unsecured status.
  • Creditors who are vying for critical vendor treatment must be careful not to frame their efforts as an ultimatum. Once again, threats to supply a debtor only on the condition that a pre-bankruptcy claim be paid in full can be seen as a sanctionable violation of the automatic stay. Because the line between sanctionable threat and forceful request can be fuzzy, creditors are well advised to have experienced bankruptcy counsel assist with the matter.

Ultimately, critical vendor treatment can be the answer to the prayers for a creditor who finds itself owed a significant amount of money by a bankrupt party. The main point to remember is that critical vendor treatment, by definition, is an extraordinary step taken by debtors to ensure their economic survival. Creditors should recognize that some other general unsecured claimants will also be seeking this special treatment. While only a select few may make it onto the list, the time and effort taken to be included is often well worth it.

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.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Similar Articles
Relevancy Powered by MondaqAI
In association with
Related Topics
Similar Articles
Relevancy Powered by MondaqAI
Related Articles
Related Video
Up-coming Events Search
Font Size:
Mondaq on Twitter
Mondaq Free Registration
Gain access to Mondaq global archive of over 375,000 articles covering 200 countries with a personalised News Alert and automatic login on this device.
Mondaq News Alert (some suggested topics and region)
Select Topics
Registration (please scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.


The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.


Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions