A case filed under Chapter 11 of the United States Bankruptcy Code is a reorganization bankruptcy; this is the purpose of Chapter 11.
The Importance of Chapter 11
Historic US bankruptcy laws have either been creditor or debtor friendly. As a result of the implementation of the current bankruptcy code in 1978, US law laid down comprehensive guidelines for reorganizing business propositions for financially distressed companies. Consequently, these guidelines form part of Chapter 11 of the code.
Chapter 11, therefore, highlights the primary policy of US bankruptcy law for corporate debtors.
Read more about the bankruptcy chapter here
The Purpose of Chapter 11
The purpose of Chapter 11 is to preserve the debtor’s business by restructuring its debt and equity interests. This is done in a way that realizes the actual state of the business and creates equity value for shareholders. Hence, this helps to retain the value of the business.
Entities Eligible for Chapter 11
Any commercial enterprise or individuals can file for relief under Chapter 11.
However, one notable exception is the Bankruptcy Code Provision. The Securities Investors Protection Act allows stockbrokers and commodity brokers to act as debtors. The Lehman Brothers case is a good example of this.
Entities not Eligible for Chapter 11
The entities that are not eligible for relief under one or more chapters of the code are:
- Banking and insurance institutions
- Entities having no residence, domicile, place of business or property in the US
- Government units that are not municipalities
Filing of Petition under Chapter 11 (Voluntary and Involuntary Petitions)
A Chapter 11 case can begin on a voluntary or involuntary basis. The debtor begins a voluntary Chapter 11 case by filing a petition for relief with the help of a bankruptcy court clerk.
The filing of a voluntary Chapter 11 petition also automatically allows entry of an order for relief opening the case.
In contrast, an entity (excluding debtors) starts an involuntary case. Usually, a creditor is responsible.
Most businesses will need three creditors having bona fide unsecured claims of certain fixed value in aggregation to file an involuntary petition against a debtor. However, the debtor may fail to contest the involuntary petition promptly or the court may decide that the statutory criteria have been met. In this case, the court then enters an order of relief and conducts the case like any voluntary Chapter 11.
Read more about the process of bankruptcy filings here
Role of Creditors’ Committees
Creditors’ committees play a major role in the purpose of Chapter 11 cases. The US trustee appoints the committee and it consists of unsecured creditors holding the seven largest unsecured claims against the debtor. The committee then discusses with the debtor, evaluates the debtor’s conduct, how the business operates and forms a plan.
What is the Bankruptcy Estate?
The Bankruptcy estate is created once the bankruptcy case starts. The estate comprises all the debtor’s property. This includes legal property interests of the debtor and recoverable property from third parties with rents and profits from the property of the estate.
Primary Parties in Reorganization Process for the Purpose of Chapter 11
- United States Trustees
- Other relevant interested parties
It takes anywhere from a few months and two years to complete a Chapter 11 bankruptcy case. The purpose of Chapter 11 is to help businesses restructure their debts and obligations. In fact, many large US companies including General Motors filed Chapter 11s. As a result, they avoided critical debt situations.
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