Bankruptcy can seem like the end, but for some small businesses, it is actually a chance at a new start. A Chapter 11 bankruptcy does not need to be a disaster for a struggling business. Instead, it can be an opportunity for leaders to confront the root causes of their problems and rethink the entire business. Many such businesses emerge stronger for the experience.
Both sides of a business bankruptcy have their own complications. Accounting and reporting rules become complicated before, during and after any restructuring. But leaders also face a new range of possibilities. Technical accounting issues can complicate otherwise easy decisions. Accountants can help.
And bankruptcy can be the worst time to discover how difficult the accounting process is. Accounting for a business is hard enough on its own, but a bankruptcy adds new layers of complexity. Federal bankruptcy laws, along with IRS regulations and tax laws, lay out rules that filers must follow. Great care is required.
Businesses falling into bankruptcy experience both internal and external issues. Even before you file, problems arise that can throw a company into chaos. Struggling businesses face disruptions in inventory, high prices, bad revenue, supply or lease deals, among other issues. Accounting becomes complex even before filing bankruptcy.
Valuation and accounting issues for several types of assets and liabilities, including: Receivables and contract assets Inventories Long-lived assets Intangible assets (including goodwill) Contingent liabilities not on the books Tax liabilities Owner interests before and possibly after filing Conformity with debt covenants and debt modifications Changes in revenue, supply, and lease arrangements Restructuring Activities - Exit and disposal activities; discontinued operations; changes in ownership interests; net operating losses Operating segment reporting Projections of cash flow and liquidity Going concern assessment
Once You File for Bankruptcy
Once you file for bankruptcy, financial reporting doesn’t stop. Many companies keep issuing financial reports after filing for bankruptcy protection. Reorganizing companies under Chapter 11 follow ASC 852 (Reorganizations). The standard covers companies that petitioned for bankruptcy and expect to reemerge as going concerns. Companies in liquidation in Chapter 11 or outside it are excluded and generally turn to ASC 205-30 (the liquidation basis).
ASC 852 (Topic 852) is not a replacement for generally accepted accounting principles in the U.S. Mostly it just adds to them, because readers of the financial statements of a bankrupt company have special needs. It only kicks in after the filing is made. A filing after the end of the fiscal year but before the statements are issued requires evaluation, accounting and disclosure of subsequent events.
To reflect the unique status of Chapter 11 reorganizing debtors, liabilities appear in three categories: (1) prepetition subject to compromise, (2) prepetition not subject to compromise, and (3) post-petition. The portions are evaluated every reporting period for changes in expectations and court rulings.
How debt is presented or disclosed in Chapter 11 depends on the specific circumstances of the bankruptcy. Caution should be exercised.
As an ongoing business, you still need to report operating results, although revenues, expenses (including professional fees), realized gains and losses and loss provisions related to reorganization are reported separately as reorganization items, also separately in the operating, investing and financing sections of the cash flow statement. Judging what counts can take some thought, and you may run into complications if you had discontinued operations or only part of your company went Chapter 11; you should also make sure you meet the disclosure requirements of ASC 852.
Other U.S. GAAP generally continue to apply for your company while in bankruptcy, and you still have to consider all the accounting issues that come from before you filed.
When Emerging from Chapter 11
When emerging from Chapter 11, ASC 852 adds rules to guide reporting. Once the court confirms the plan of reorganization and all of the material conditions precedent are met so that the plan is to be consummated, the plan is considered effective and its effects are generally reflected in the accounts as of the confirmation date.
”Fresh start” reporting is needed on emergence if these two tests are met: (1) reorganization value of assets just before confirmation is less than all post-petition liabilities and allowed claims and (2) old voting shareholders get less than 50 percent of the new entity’s voting shares, a loss of control that is substantive, not temporary.
Ascertaining that value requires care, as does deciding whether the loss of control for old voting shareholders is substantive and permanent. Failing one of the two tests means no fresh start, and no new reporting entity for reporting purposes.
Under fresh-start accounting, assets and liabilities are stated at fair value, except in some cases. Adjustments from the old carrying amounts for the predecessor go into the statement of operations. A third-party valuation is typically required.
Planning the Road Ahead
Planning the road ahead
Whatever stage a business is in, its leaders have a job to do to get the company out of financial trouble.
Keeping an accounting team in-house during a business bankruptcy is not a one-or-the-other proposition. Supplementing the process with outside professionals can be a help, particularly where in-house staff may be stretched thin or may lack GAAP or bankruptcy experience. Having a resource on the outside can save valuable time and effort.
About Delancey Street
Delancey Street is a premier, and award winning, business debt settlement company that helps business owners nationwide. Our goal is simple: help you escape debt in a safe and legal manner. Based out of New York, we can help in 49 of 50 states. We tell you how it is; because your business and future is on the line.
