1. Corporate bankruptcy under the US law Vinod Kothari 1012 Krishna 224 AJC Bose Road Calcutta 700 017 Phone 033-23233863/23233864/2281 1276/22817715/22813742 Fax 91-33-23233863/22811276 Email: vinod@vinodkothari.com; vinodk@vsnl.comvinod@vinodkothari.com

2. Corporate insolvency by Vinod Kothari 2 Copyright information All rights reserved with Vinod Kothari. The presentation is to be used only for the purpose of the training course/meeting/class for which it is intended and any use of any part of it, other than for distribution at such training course/meeting/class is unauthorized. No rights of any kind have been transferred in soft copy of the presentation, meant only for the purpose of printing. The soft copy should be purged immediately after printing. No copying or distribution of this presentation in any form is allowed except with the express permission of the author.

3. Corporate insolvency by Vinod Kothari 3 General scheme of US bankruptcy laws Title 11 of US code deals with bankruptcies – Chapter 1: general provisions, definitions – Chapter 3: Administrative matters, automatic stay, etc – Chapter 5: proofs, priorities, property, avoidance, etc – Chapter 7: Liquidation – Chapter 9: Adjustment of debt of municipality – Chapter 11: reorganization – Chapter 13: Adjustment of debt of individual with regular income

4. Corporate insolvency by Vinod Kothari 4 General scheme of US bankruptcy laws 4 kinds of bankruptcy proceedings: – Chapter 7 is the most common: applies to individuals, married couples, corporations and partnerships assets of the bankrupt are seized by the bankruptcy trustee and distributed discharge within 4-6 months – Chapter 11: reorganisation proceedings companies, partnerships debtor remains in possession of assets and continues to pay creditors debtor prepares a reorganisation plan to be accepted by a majority of creditors; then binding on all – Chapter 12 is meant for family farmers – Chapter 13: repayment plan for debtors with small income and assets - this is not liquidation but a sort of compromise Meaning of insolvency: – sec. 101.32 defines insolvency as excess of debts over fair value of assets, excluding assets transferred or hidden, and exempt assets

5. Corporate insolvency by Vinod Kothari 5 Stay of proceedings Filing of a bankruptcy petition operates as automatic stay [362]: – Commencement or continuation of any process, judicial or administrative – Enforcement of a judgement against the debtor or property of the debtor – Any act to obtain property or its possession – Any act to create, perfect or enforce security interests – Any act to create or recover any claim – Any set off – Commencement or continuation of any tax proceeding However, the following are not stayed: – Criminal proceedings – Set off rights under specified market transactions – such as securities, commodity trades – Several other specific exceptions listed in the section Court may, on application, grant relief against stay

6. Corporate insolvency by Vinod Kothari 6 Proof of claims and interests Claims mean claims of creditors; interests mean interests of equity holders Claimants and interest holders may file proof – sec. 501 – Permissive section; filing of proofs not mandatory – However, rules provide for priority and distribution based on filing of proofs – Debtor may also prove the claims and interests All proofs are taken to be allowed unless a party in interest objects – sec 502 Debtor is also required to file a list of claims and interests – sec 521

7. Corporate insolvency by Vinod Kothari 7 Bankruptcy estate - 541 Filing of bankruptcy petition shall create an estate – called bankruptcy estate. Includes: – All legal and equitable interests – Proceeds, product, profits, rent from estate – Interest in property after bankruptcy Does not include: – Power solely exercisable for the benefit of others Duty of every person to turn over bankruptcy estate – sec 542

8. Corporate insolvency by Vinod Kothari 8 Preferences - 547 Undue preferences may be avoided by the trustee if transfer made 90 days prior to filing; – 12 months in case of transfer to insiders Saving clause for: – Contemporaneous exchange of value – Ordinary course of business – On ordinary terms Fraudulent transfers – sec 548 – All voluntary transfers made within 12 months prior to bankruptcy: Transfer to hinder delay or defraud other entities Received less than equivalent in value Post-petition transactions must be confirmed by Court: sec 549 Transferee under avoided transfer liable to return the asset Abadonment of burdensome property – sec 554

9. Corporate insolvency by Vinod Kothari 9 Chapter 7 Chapter 7 deals with liquidation, as opposed to revival The overall scheme of chapter 7 is similar to global bankruptcy laws: Impact of chap 7 petition: – automatic stay on suits against debtor or property – even telephone calls demanding payment are stayed assets of the debtor are classed into exempt assets, non-exempt assets and avoidable transfers - bankruptcy estate is created meeting of creditors is called for creditors to question the debtor – the debtor gets a discharge from his debts – non-discharged debts: taxes support: alimony, child support liens credit card debt incurred within 60 days before filing reaffirmed debts debts for a willful injury caused by the debtor - say accident

10. Corporate insolvency by Vinod Kothari 10 Priorities under US bankruptcy laws – sec 507 Administration expenses Involuntary gap, that is, debt incurred in ordinary course of business after filing for involuntary bankruptcy but before appointment of trustee Wages upto $ 4000, or sales commission earned during 90 days prior to filing of petition Dues to employee benefit plan upto $ 4000 per employee Claims of farmers and fishermen to extent of $ 4000 per person Claims upto $ 1800 per individual of deposit for purchase of property, services etc for personal purposes Govt. income taxes pertaining to income for a year before bankruptcy filing, excise, customs, etc and penalty thereon Unsecured claims allowed by Federal depository institutions

11. Corporate insolvency by Vinod Kothari 11 Chapter 11: Reorganization Chapter 11 is reorganization proceeding: – Typically meant for business entities – Corporates typically file under Chapter 11 – Individuals seeking to reorganize their business may also file Corporates wanting to go for bankruptcy may file under Chapter 7 Chapter 11 petition may be filed either voluntarily, or involuntarily[sec 303] by: – By 3 or more entities holding unsecured claims of at least $ 10000 – If there are 12 or lesser creditors, any one such claimant with at least $10000 claim –

12. Corporate insolvency by Vinod Kothari 12 Basic difference between Chapter 7 and Chapter 11 In Chapter 7, the company ceases to carry business; in Chapter 11, the business is continued: – Concept of DIP: the debtor remains in possession of the property – However, significant decisions are approved by the Court Obviously, Chapter 11 route is chosen by most companies

13. Corporate insolvency by Vinod Kothari 13 Institutional machinery of Chapter 11 proceedings The US Trustee, bankruptcy arm of the Justice department, will appoint committees to develop a reorganisation plan: – Typically, committees represent interest of unsecured creditors, stockholders, employees, subordinated lenders, etc. – May also appoint professionals to assist Plan to be accepted by shareholders, bondholders, creditors Court may confirm a plan even if not approved by stakeholders

14. Corporate insolvency by Vinod Kothari 14 Steps in development of the plan The debtor company develops a plan with committees. Company prepares a disclosure statement and reorganization plan and files it with the court. SEC reviews the disclosure statement to be sure it's complete. Creditors (and sometimes the stockholders) vote on the plan. Court confirms the plan, and Company carries out the plan by distributing the securities or payments called for by the plan.

15. Corporate insolvency by Vinod Kothari 15 Steps in Chapter 11 proceedings Filing of the petition: – Bankruptcy proceedings commence on filing – Who may file it – sec 301/303 Voluntary and involuntary petition Presentation of the plan [1121] – Debtor may file it with the petition or at any time thereafter – Other interested parties may file it, if the debtor has not filed within 120 days, or not accepted in 180 days: Debtor has exclusive right within 120 days Disclosure statement [1125]: – For solicitation of acceptance of a plan, a written disclosure statement is required, containing adequate information. Disclosure statement is approved by Court – Solicitation of acceptance of a plan is not covered by SEC requirements Acceptance/rejection of plan – A plan may be accepted or rejected [1126]; a plan may also be pre-petition accepted – Acceptance of class plans: if 2/3rds in value and majority in number of a class have accepted a plan it is deemed to have been accepted [ 1126 (c )] Court may, on application, declare a party whose acceptance will not be treated as in good faith. Such party to be excluded in reckoning the number Deemed acceptance/ deemed rejection

16. Corporate insolvency by Vinod Kothari 16 Steps in Chapter 11 proceedings -2 Modification of plan – Proponent of a plan may file for modification any time before its confirmation – Proponent of the plan or reorganized debtor may also file for modification before substantial consummation : Substantial consummation defined as effective steps such as transfer of property, succession in business, etc. – Acceptance or rejection of modification implied, unless, within time fixed, concerned party changes consent Hearing of confirmation Confirmation order Implementation of the plan: orders of the Court are mandatory If the plan provides for any surrender of security, the same shall be done within 5 years of confirmation Within 180 days, upon application, the court may revoke a confirmation

17. Corporate insolvency by Vinod Kothari 17 Pre-conditions for confirmation Proposed in good faith and not in breach of applicable law All payments for services or exps in connection with the plan have been approved by the court Identity of directors/ officers/ trustees or insiders post-plan has been disclosed If any govt regulation is applicable as to rates, either such sanction has been obtained or the confirmation is subject to such approval Each party in interest and each impaired class has accepted the plan & will receive under this plan at least as much as it would under Chapter 7 Priority payments – provisions of sec 507 are satisfied Confirmation of the plan is not likely to be followed by liquidation or reorganization Retirement benefits are continued If it is fair and equitable for those who did not accept it: – Fairness condition includes: For secured creditors, they retain their lien on the property to the extent of their accepted claims, and deferred cash payments equivalent thereto For unsecured creditors, the plan provides for payment equal to accepted claims and that subordinated claimants will not receive payment before unsecured creditors paid off

18. Corporate insolvency by Vinod Kothari 18 Impact of filing a Chapter 11 plan Debtor becomes debtor-in-possession Impact of confirmation: – Mandatory nature – All estate bests in the debtor – Property dealt with by the plan is free of all claims – Discharges the debtor from all debt contracted before the confirmation

19. Corporate insolvency by Vinod Kothari 19 Concept of debtor-in-possession While under bankruptcy proceedings under Chapter 7, trustee takes over the business, in Chapter 11, debtor remains in possession Debtor remains DIP until: – Passing of confirmation order – Rejection of the case – Conversion of the case in Chapter 7

20. Corporate insolvency by Vinod Kothari 20 Contents of a plan - 1123 Designation of classes of claims and classes of interests: – Claims similar may be put under classes: E.g., Unsecured claims upto a particular amount – Same treatment to all claims or interests in a class Claims or interest that are not impaired Claims or interests that are impaired, and their treatment: – Meaning of impaired claims [sec 1124] – all claims unless their contractual terms are not adversely affected, or they are adequately compensated Means of implementation – Measures envisaged for implementation of the plan, such as sale, merger, curing or waiving of defaults, etc

21. Corporate insolvency by Vinod Kothari 21 Special provisions for small business Meaning of small business Time for presentation of plan reduced to 100 days

22. Corporate insolvency by Vinod Kothari 22 Chapter 13 Debtors with regular income are granted time upto 3 years to pay debt in instalments unsecured debts less than USD 269250 and secured debt less than 807750 corporations and partnerships are not allowed automatic stay on collection and foreclosure debtor to file plan of repayment within 15 days