This article, written by attorney Jim LaMontagne, was originally published by the NHBR and can be found here.
Businesses facing financial distress with lenders, landlords or vendors have options other than closing their doors.
Two options for businesses to consider are forbearance agreements and the Subchapter V bankruptcy process, which is a streamlined, less expensive and more efficient bankruptcy process for smaller businesses.
Forbearance agreements
It is critical for financially distressed businesses to communicate with their lenders, landlords and vendors if an out-of-court restructuring is to take place.
One form of such a restructuring is a forbearance agreement. Forbearance agreements (FA) are agreements between a debtor (the business) and creditor (lender, landlord or vendor) that result after a debtor has defaulted on its payment terms with its creditor and the debtor has asked the creditor to forbear from exercising its collection or foreclosure rights.
Under an FA, the creditor agrees not to take collection action or to foreclose for a period of time in exchange for modified payments from the debtor, or other concessions if payments are suspended.
For a debtor, it is critical that an FA include, among others: attainable benchmarks including feasible payments, and a clear time frame of forbearance.
For a creditor, it is critical that an FA include, among others: statements that the lender has no obligation to lend additional money to the debtor or extend/renew the FA; and release language.
Both debtor and creditor will also want specific provisions within the FA regarding the defaults. While an FA is not a long-term solution, it can be designed to assist a debtor in stabilizing its finances, while also providing the creditor with certain benefits, thereby potentially saving the relationship between the debtor and creditor.
Subchapter V bankruptcy process
Chapter 11 of the Bankruptcy Code has historically been the manner through which struggling businesses have attempted to reorganize while retaining control of their assets and operations.
Chapter 11 provides invaluable tools for a business to restructure debt and do away with burdensome contracts, among other things, but chapter 11 also often involves slow and expensive processes that prohibit smaller businesses from utilizing chapter 11.
In February 2020, this problem was addressed with the enactment of the Small Business Reorganization Act (SBRA). SBRA amended the Bankruptcy Code to add Subchapter V, a streamlined chapter 11 process for smaller businesses. Subchapter V aims to make bankruptcy proceedings more expeditious and less costly by eliminating certain procedural hurdles, expediting time frames and eliminating certain fees, among others. For a debtor to be eligible to file a Subchapter V case, a debtor must be engaged in business and have secured and unsecured debt not exceeding a total of $7,500,000.
Why should a Subchapter V bankruptcy case be an attractive option for financially distressed smaller businesses? Subchapter V affords a debtor all the advantages of a traditional chapter 11 case — the ability to restructure and decrease debt, the ability to reject unfavorable leases and contracts, and, at the end of the process, a financially healthier debtor — but through a quicker and less expensive process.
In a Subchapter V case, the debtor must submit its plan of reorganization within 90 days of filing bankruptcy, thus ensuring a speedy process.
A trustee is appointed in each case, and the trustee’s primary task is to facilitate a consensual plan of reorganization, thereby providing the debtor with an independent third party to assist in expediting the process. Fees owed to the federal government are eliminated.
As a result, Subchapter V has become a less expensive and more manageable process for smaller businesses, providing a restructuring opportunity that otherwise may have been too costly and too unpredictable.