Despite the Supreme Court’s rejection of a structured dismissal in 2017, there is a growing trend of bankruptcy courts approving structured dismissals of chapter 11 cases following a successful sale of a debtor’s assets under Section 363 of the Bankruptcy Code. A structured dismissal is a cost-effective way for a company to exit chapter 11 and is an alternative to (a) confirming a post-sale liquidating plan, which is expensive and not always viable, or (b) converting the case to chapter 7, which introduces significant uncertainty and unpredictability with the appointment of a trustee to replace management. Private credit lenders should take note of this approach because structured dismissals slash significant costs from an already expensive chapter 11 process. This article explains when structured dismissals are ripe for consideration, the alternatives on the table after a successful Section 363 sale, and the reasons why structured dismissals are gaining popularity.
Private credit lenders have a simple investment thesis – get repaid in full at maturity. That game plan doesn’t work when the borrower’s business deteriorates to the point where there is no realistic prospect of loan repayment either through refinancing, merger or sale or an “amend & extend” to allow for performance and profitability to rebound. In this downside scenario, lenders pivot to “Plan B,” which sometimes involves – as the option of last resort – acquiring or selling to a third party the borrower’s business through a Section 363 sale in Chapter 11 free and clear of all or most all its debt. In this scenario, a lender may feel like an “ATM machine” routinely disbursing cash to preserve and protect its investment, including through: (a) agent advances and rescue loans in the period leading up to bankruptcy as the parties develop and document a sale strategy, (b) new money DIP loans to pay for the costs of the bankruptcy case from the filing date through consummation of the sale, and (c) post-closing working capital for the new business in those situations where the lender’s credit bid is the successful bid.
In these situations, the final expense on the lender’s tab is the funding needed for post-closing “wind-down” expenses (or “burial expenses”) of the estate for the period after the Section 363 sale is consummated. Bankruptcy courts generally refuse to allow themselves to be used to sell businesses if the interested parties will not allocate funds to a soft landing as opposed to a situation where administrative expenses are left unpaid and the debtor’s shell is left in shambles check here. Wind-down expenses, which vary by business and industry, typically include (a) costs to sell, dispose of or otherwise monetize non-core assets (if any) that were excluded in the 363 sale, (b) costs to terminate employee benefit plans, to prepare final tax returns and to dissolve corporate entities in accordance with state law, (c) costs to reconcile claims and distribute excess cash to administrative claimants and, in some instances, unsecured creditors, and (d) other miscellaneous costs, including continued payment of U.S. Trustee fees, final fee applications for estate professionals and other ministerial matters. These expenses are customarily funded by the exclusion of cash collateral (equal to the wind-down amount) from the assets acquired by the credit bidding lender/purchaser.
Anyone who has been through the scenario described above knows that wind-down negotiation inevitably turns to the means of implementing a wind-down. There are three options: (1) confirmation of a liquidating chapter 11 plan, (2) conversion of the chapter 11 case to a case under chapter 7, or (3) a “structured dismissal” of the bankruptcy case. The negotiation occurs among the secured creditors who are providing funding for the wind-down, the debtor and its professionals who are guiding the company through its bankruptcy case, and, sometimes, a statutory creditors’ committee.