Businesses fail all the time. Business owners can run into difficulties trying to sustain operations while dealing with the various demands from their banker, employees, suppliers, government regulators and most importantly, customers. This puts stress on a business owner and they may unexpectedly become so entangled in debt and other issues that the business is in financial distress.

We often see small business owners frantically trying to juggle payments to creditors in an effort to avoid a business failure and ultimately, bankruptcy. In some cases, businesses succumb to significant cash strain requiring a business owner to make some very tough decisions – which creditors should I pay and which creditors should I not pay? When faced with a situation like this, it is important for a business owner to not make any rash decisions.

The first step to finding a solution to a problem is to first recognize that you have one. Finding a solution may not always be easy; however, it is best to seek advice from a professional who deals specifically with insolvency and restructuring at the onset of a problem before it is too late.

So the big question is: how can a business owner get out of such a dire situation without making an assignment in bankruptcy?

Informal Negotiations with your Creditors

This is a no brainer. A business can always attempt to restructure its debt by negotiating with its creditors. This option is generally used in small, less complex situations where there is one large creditor to be dealt with. Unfortunately, in view of the today's complex market, this option is not often available.

Making a Formal Proposal to Your Creditors

If your business debts have grown to the point where you are unable to pay them in the ordinary course of business, but you still see hope in turning things around and wish to avoid bankruptcy, a proposal may be an option for you. A proposal is a mechanism to deal with your debts which is administered under the Bankruptcy and Insolvency Act (the "BIA") of Canada which promotes the rehabilitation of a business or an individual.

Unlike an informal restructuring as a result of negotiations referred to above, a proposal acts as a binding contract between you and your creditors. The form of a proposal is very flexible and can be tailored specifically to your circumstances. For instance, a proposal can involve compromising your debts, delaying payment, converting debt to equity or a combination of these alternatives all of which is negotiated between you as a business owner and your creditors.

In order to proceed, you will first require the assistance of a licensed Trustee in Bankruptcy who will conduct a formal assessment in order to determine what options are available to you. The decision of which option to proceed with is ultimately up to you. If you decide to file a proposal, your Trustee will work with you in developing a plan for presentation to your creditors.

Upon the filing of a 'Notice of Intention to File a Proposal', all creditors are stayed for an initial thirty-day period which can be extended up to six months with approval of the Court. Creditors cannot continue or commence any legal proceeding against you without leave of the Court while the stay is in effect and, in general, no payments are made to the outstanding unsecured creditors while the proposal is being formulated for presentation to creditors. This can help in improving cash flow to deal with current operations and stabilizing the business.

Exceptions occur in cases where a secured creditor has issued a 'Notice of Intention to Enforce its Security' ("NOI") and the prescribed ten-day notice period has expired. If the ten-day notice period expires with no action by you, the secured creditor can continue to deal with its security which may include the appointment of a Receiver. It is important for business owners to understand their rights and remedies when faced with an NOI issued by a secured creditor so that they can make informed decisions on how to protect themselves within the ten-day period.

Once a plan is developed, the proposal is presented to your creditors for approval. The proposal must be approved by a majority in number of your creditors holding at least two-thirds in value of the claims. Once the proposal has been accepted by the requisite majority of creditors, it must then be approved by the Court.

A proposal accepted by the creditors and approved by the Court is binding on all unsecured creditors and the secured creditors whose classes voted for the acceptance of the proposal.

Unlike bankruptcy, a proposal allows you to remain in possession of your business. It provides you with an opportunity to restructure your affairs while at the same time offering protection from your creditors and allowing you to continue to operate. Once the terms of the proposal have been fulfilled, your company is released from any further legal obligations to those creditors.

Ultimately, your outstanding unsecured creditors may not be paid in full after you have filed for protection. In addition, proposals can be tailored to address certain director obligations which may follow a business owner personally in the event of a bankruptcy.

There are numerous provisions in the proposal section of the BIA which may impact a proposal filing. There are also risks associated with filing a proposal – for example, if the proposal is not accepted by the creditors or approved by the Court, the business is deemed to have made an assignment into bankruptcy. It is extremely important to consult with an insolvency and restructuring professional in order to determine what options are right for you.

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.