When you hear about Chapter 11 bankruptcies, the ones that dominate the headlines are the big ones. Chrysler’s filing got talked up as a success, GM’s has been more of a mixed bag. And then there’s the airlines – one big filing after another. Nobody talks much about the ones that small businesses go into. Small business Chapter 11’s take up a lot less lawyer time and court time than the big ones. But small business Chapter 11 filings are still a big part of the bankruptcy system. They can be a critical tool in helping a small business to survive – and even to thrive.
Chapter 11 Is Expensive for Everyone
Some of the things that make Chapter 11 hard, well, they’re the same for small businesses as they are for large ones. Every company that is allowed to keep running after it files for bankruptcy does so under a budget that’s overseen by the court, the US Trustee and its creditors. If it wants to borrow to keep going, it can, but the amount is limited, and sometimes it’s not allowed at all. So cash is a little short, and the business isn’t quite as nimble as it would like to be. Chapter 11 is expensive for everyone, but there are big variations in how expensive it is.
A lot of other problems hit small businesses harder. Chapter 11 debtors must file many administrative reports to cover things like the company’s operations, taxes, insurance and bank accounts. A large debtor can have a whole team of restructuring professionals crunch the numbers and fill out the forms so the executives can pay attention to the big picture. But a small business probably doesn’t have the money to do that, and suddenly the paperwork ends up being a distraction that eats up the owner’s time just when they should be trying to turn things around.
It Can Work in Some Circumstances
Chapter 11 has downsides, but it can work in some circumstances. You may want to consider it, if you can articulate a plan for restructuring the business and paying your creditors, or even liquidating it, before you file. Filing first and then trying to figure out how to reorganize later is a waste of time and usually money. Also filing solely to stall creditors is a waste of time and money and a violation of bankruptcy court rules. And if your restructuring plan involves hoping for a miracle, such as finding a buyer, an investor, a lender, or winning the lottery, then you don’t belong in Chapter 11.
Here’s the upside: if you already know what you would do if the creditors would all get together and agree, Chapter 11 may give you the chance to carry out that plan. For example, your plan of reorganization can restructure the debt, even the tax debt. You might be able to convert immediate demands for payment into term loans. You may be able to compromise trade debt. You can even convert debt into equity.
Advantages and disadvantages? Pros and cons? I’d put the cons as: a supervised budget, little or no working capital borrowing, the cost, and heavy reporting that falls on the owner. The pros? The power to restructure the debt, including taxes, stretch demand loans into term loans, settle with trade creditors and swap debt for equity. Which side wins? Depends on if you go in with a real plan.
If you’re a business owner reading this because you’re behind on your bills, be honest with yourself. If you have a real plan to reorganize and restructure the business and pay the creditors, go for it. If you don’t, don’t. But if you have a plan, and you feel like you’re well positioned to carry it out, then Chapter 11 might be worth a serious look.
Careful Planning
I believe that a successful Chapter 11 is almost always the result of careful planning, and I don’t think there is ever a perfect time to file a reorganization. But there can never be too much planning or too early a start. It’s the emergency filers who usually make the hardest cases. Sometimes there is a genuine, unexpected emergency. But more often the emergency is caused by management hoping, against hope, that the persistent problems will go away, or the management just denying there ever were any problems at all. Some of these “emergency” cases are filed after literally years of litigation.
I think optimism is great and essential to entrepreneurship. But if there’s even a small chance that you’ll need to reorganize your business in Chapter 11, plan ahead. And you’re going to need a very experienced Chapter 11 lawyer. You’re going to need to plan for the financial and administrative burdens that such a restructuring will entail. And you’re going to need at least the beginnings of a plan of your own as to how you’ll restructure the business. But with the right planning, the right counsel, and just a bit of luck, Chapter 11 can be a powerful survival tool for your small business.
