Corporate Insolvency & Reorganisation Report 2018: US

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The US environment for corporate restructuring cases is very accommodating. The US enjoys the advantage of an experienced judiciary comprised primarily of former restructuring lawyers. The US also has a well-established statute – the US Bankruptcy Code – and a sophisticated advisory community that is accustomed to using the US Bankruptcy Code's tools to resolve complex domestic and cross-border corporate restructuring cases.

The US Bankruptcy Code has proven to be versatile in cross-border cases. The US Bankruptcy Code's debtor-friendly eligibility requirements and worldwide automatic stay have facilitated several complex cross-border restructuring cases. For example, CGG and its subsidiaries, a geophysical and geoscience services company, recently used a pre-arranged Chapter 11 plan to implement a financial restructuring for over $3 billion of debt that involved a parallel sauvegarde proceeding in France and Chapter 15 recognition of the sauvegarde plan in the US, which was the first of its kind.

The US retail sector is likely to continue to face challenges this year. Retailers are coping with the growth of e-commerce and the prospect of rising interest rates which may curtail consumer spending. These headwinds have caused Toys "R" Us to announce the closure of its US stores. In the first three months of 2018, five major US retailers – The Walking Company, Bon-Ton, Claire's Stores, Kiko USA and A'gaci – have sought Chapter 11 protection.

We expect to continue to see companies in need of financial restructuring seek shorter, less expensive pre-arranged or pre-packaged Chapter 11 cases in which the company reaches an agreement with creditor constituencies before the company files for Chapter 11. For example, in the last 18 months, Atlas Resource Partners, LP, Walter Investment and Memorial Production Partners, LP each spent less than four months in a Chapter 11 case using a pre-packaged or pre-arranged chapter 11 plan.

There have been several notable legal decisions in the last 12 months. The US Supreme Court recently issued a decision that may expand the scope of leveraged buyout (LBO) transactions that can be successfully challenged as constructive fraudulent transfers. In Merit Management Group v FTI Consulting, the US Supreme Court held that the US Bankruptcy Code's safe harbour provisions for certain financial contracts does not apply to a leveraged buyout in which the consideration merely passes through a financial institution that is acting only as a conduit between two parties that are not protected by the safe harbour provisions. The Supreme Court's decision will open the door to challenges to LBO transactions that do not involve financial institutions on both sides of the transaction.

In an important development relating to cram-down plans, the US Court of Appeals for the Second Circuit (which includes New York) ruled that a dissenting class of secured creditors was entitled to a market rate of interest on new secured notes being issued under the Chapter 11 plan, subject to showing that an efficient market for exit financing exists. Accordingly, the Second Circuit's decision potentially deprives the debtor of some of its negotiating leverage over a dissenting class of secured creditors in plan negotiations.

In the context of Chapter 15 recognition of foreign proceedings, courts continued to expand the flexibility of those provisions to facilitate foreign restructurings. The US Bankruptcy Court for the Southern District of New York issued a decision in December 2017 recognising a French sauvegarde plan for the first time in CGG's Chapter 15 case. In that same opinion, the Bankruptcy Court held that the exemption from registration of securities issued under a plan contained in section 1145 of the US Bankruptcy Code could be applied to securities issued under the sauvegarde plan. In addition, a California District Court recently held that an Australian debtor was eligible to file for Chapter 15 protection based on a retainer established with the debtor's California counsel prior to the filing of the Chapter 15 petition. That is consistent with the views of US Bankruptcy Courts in New York and Delaware.

The US Bankruptcy Code provides two primary types of insolvency cases for financially distressed corporate debtors: Chapter 7 and Chapter 11. A debtor does not need to be insolvent to commence a Chapter 7 or Chapter 11 case. Chapter 11 is a reorganisation regime used frequently by corporate debtors because it provides an opportunity to reorganise as a going concern. Typically, in a Chapter 11 case, the debtor's management and board of directors remain in place, and the debtor attempts to confirm a Chapter 11 plan of reorganisation.

Chapter 7 bankruptcies are liquidation proceedings in which a court-appointed trustee shuts down the business, liquidates the assets, and then distributes the proceeds to creditors. It is less common for a large company to file a Chapter 7 case because the company will likely not remain as a going concern.

Immediately upon the filing of a bankruptcy petition, the debtor enjoys the statutory protections of an automatic stay. The automatic stay is a pervasive worldwide injunction that protects a debtor and its assets wherever located from litigation, lien enforcement, declaration of acceleration and other actions (judicial or otherwise) that attempt to enforce or collect a prepetition claim or otherwise affect the debtor's property.

The automatic stay remains in effect while a bankruptcy case is pending unless one of the narrow exceptions applies or the court terminates or modifies the stay upon a party's request. The US Bankruptcy Code contains an exception for certain protected financial contracts. A provision in a contract that provides for its termination upon insolvency or bankruptcy is generally unenforceable.

The US Bankruptcy Code permits a debtor to bind dissenting creditors to a confirmed Chapter 11 plan and cram down a class of creditors that does not vote to accept a Chapter 11 plan.

A dissenting creditor will be bound by a confirmed Chapter 11 plan if the class of creditors in which the dissenting creditor sits votes to accept the plan by two-thirds in amount and one-half in number of those creditors that vote in such class and certain other statutory requirements are satisfied.

A Chapter 11 plan of reorganisation can be crammed down on a class of creditors that does not vote to accept a plan. A debtor can take advantage of this power if it can show, among other things, that: (i) at least one impaired class of creditors has voted to accept the plan; (ii) the plan does not discriminate unfairly against the dissenting class; and (iii) the plan is fair and equitable with respect to each impaired dissenting class (meaning that the proposed Chapter 11 plan complies with the absolute priority rule).

The US Bankruptcy Code provides a debtor with the authority to sell its assets outside the ordinary course of business. Any asset sale outside the ordinary course of business must be approved by the US Bankruptcy Court after notice and a hearing. A debtor's decision to sell assets outside the ordinary course of business is reviewed by the US Bankruptcy Court under the deferential business judgment standard. The US Bankruptcy Code induces potential buyers to acquire an asset from a debtor by permitting the assets to be sold free and clear of liens, claims and interests if certain statutory requirements are met. If a debtor decides to sell its assets, it often seeks a stalking horse purchaser whose bid will usually be subject to an auction process.

In general, directors and officers owe fiduciary duties of loyalty, care and good faith to the company and shareholders for which they serve. As a company begins to experience financial distress, it is important that the board of directors hire legal and financial advisors to assist them in discharging their duties. Although those duties do not shift to a particular group of stakeholders when a company is in financial distress, the board's actions will often be scrutinised by creditors particularly if the company subsequently files for bankruptcy protection.

The US Bankruptcy Code permits a debtor to challenge certain pre-bankruptcy transactions after it commences a case. The US Bankruptcy Code provides a two-year look-back period from the petition date to challenge any transactions in which the debtor transferred assets (i) with an intent to hinder, delay, or defraud creditors (known as actual fraudulent transfer) or (ii) for less than reasonably equivalent at a time when it was insolvent (known as constructive fraudulent transfer).

The US Bankruptcy Code provides a 90-day look-back period to challenge any alleged preferential transfers made by a debtor. The look-back period is one year if such transfers are made to a debtor's insider. A preference occurs when a debtor makes a transfer on account of antecedent debt at a time when it is insolvent that permits the creditor to recover more than it would have recovered in a hypothetical Chapter 7 case.

The US Bankruptcy Code designates certain prepetition claims to be treated as priority claims, including employee wages earned within 180 days of the bankruptcy case (subject to a statutory cap), contributions to an employee benefit plan and taxes owed to governmental authorities. Priority claims are senior in right of payment to general unsecured claims. A Chapter 11 plan cannot be confirmed unless it provides for the payment of priority claims in full in cash.

The US Bankruptcy Code provides inducements to lenders to provide post-petition financing to a financially distressed company. The debtor can grant a priming lien on its assets that ranks senior to certain pre-bankruptcy liens and a superpriority administrative claim that ranks senior in right of payment to all other administrative and priority claims. A debtor's ability to obtain debtor-in-possession (DIP) financing is a major advantage of the US Bankruptcy Code because it usually facilitates a debtor's reorganisation.

Different insolvency regimes exist under federal and state law to resolve national and state-chartered banks and other financial institutions, such as insurance companies, securities brokers and commodities broker. Insolvency regimes applicable to financial institutions generally require that a governmental regulator or trustee assume management of the business to wind down the business and satisfy claims in accordance with statutory priorities. In addition, the passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act in the aftermath of the financial crisis introduced another insolvency regime, known as the Orderly Liquidation Authority, which is applicable to financial institutions identified as systemically important.

Non-US companies can commence a Chapter 11 or Chapter 15 case because the threshold for establishing debtor eligibility is low. A foreign company is eligible to be a debtor under the US Bankruptcy Code if it has a place of business or property in the US. US Bankruptcy Courts have interpreted the property requirement broadly, holding that maintaining a bank account in the US or establishing a retainer with US counsel is sufficient.

Chapter 15 of the US Bankruptcy Code incorporates the Model Law on Cross-Border Insolvency to facilitate cooperation between US and foreign courts in cross-border insolvency cases. Recognition will be granted if certain statutory conditions are met and affording comity would not be manifestly contrary to US public policy. If the statutory requirements for recognition are satisfied, a foreign debtor can obtain the protection of the automatic stay in respect of its property located within the territorial jurisdiction of the US. US Bankruptcy Courts also have discretion to provide additional assistance, including recognising and enforcing approved schemes of arrangement or sauvegarde plans and related third party releases.

Various governmental or other stakeholders could have a material impact on the outcome of a reorganisation. Labour unions, the Pension Benefit Guaranty Corporation (PBGC) and other governmental or regulatory agencies (including state and federal taxing authorities) could all have an impact on the outcome of a restructuring depending on the circumstances of each case. For example, a debtor's failure to satisfy minimum funding requirements or attempts to terminate pension plans may result in significant claims by a plan trustee or the PBGC, a governmental agency that regulates pension plans and guarantees certain pension benefits.

We expect to see continued restructuring activity in retail, shipping, oil and gas and healthcare sectors. Moreover, companies with operations in multiple jurisdictions, particularly those that have debt documents governed by New York law, will continue to consider which insolvency regime best serves their restructuring goals. The creditors of those companies, many of whom have strong connections to the US, may push those cross-border restructurings to be negotiated in accordance with the framework of Chapter 11 which offers a familiar forum in which parties can rely on an experienced judiciary and sophisticated advisory community to implement complex restructurings.

About the author
		Margot Schonholtz Partner, Linklaters New York, USA T: +1 212 903 9043 F: +1 212 903 9100 E: margot.schonholtz@linklaters.com W: https://www.linklaters.com/en/find-a-lawyer/margot-schonholtz Margot Schonholtz heads Linklaters' US restructuring and insolvency practice. She has been recognised as a leading restructuring and bankruptcy lawyer, having advised key institutional creditors, agents to syndicated lending groups, and large lender groups in major debt restructurings, complex loan workouts, asset sale transactions and insolvency matters for over 38 years. Schonholtz draws on a wealth of experience in lender representations in complex distressed situations with expertise in handling both courtroom and out-of-court proceedings. She has led numerous engagements on behalf of financial institutions in cases involving oil and gas, merchant and midstream energy, coal, chemical and solar energy businesses. Schonholtz has been recognised as a leading practitioner in Chambers Global since 2004 and Chambers USA since its inception in 2003. Chambers has noted that she is 'one of the most talented bank-side lawyers operating in the New York market. Schonholtz has also been listed in Expert Guides, Best Lawyers in America since 2006, the Guide to the World's Leading Women in Business Law, and New York Magazine's The New York Area's Best Lawyers.

About the author
		Robert Trust Partner, Linklaters New York, USA T: +1 212 903 9217 F: +1 212 903 9100 E: robert.trust@linklaters.com W: https://www.linklaters.com/en /find-a-lawyer/robert-trust Robert Trust is a partner in Linklaters' US restructuring and insolvency practice. He has extensive experience advising clients in Chapter 11 restructurings, out-of-court workouts, acquisitions of troubled companies and the structuring of corporate and credit transactions. Trust has focused his practice on representing banks and other financial institutions in the restructuring of large syndicated credit facilities extended to borrowers in a wide range of businesses and industries, including health care, automotive, energy, steel, retail, financial, textile, real estate, media, entertainment and telecom. He also represents investors in and acquirers of distressed companies in workouts and Chapter 11 cases, as well as financial advisors in connection with retention matters. Trust was recognised in corporate restructuring (including bankruptcy) in the 2015 edition of Legal 500 US and was named a Rising Star in restructuring and insolvency in the 2014 – 2017 editions of IFLR1000.