The Examiners: Extra Restructuring May Help Companies Survive, Thriv...

When a company files for Chapter 11 protection a second, third or even fourth time, who’s to blame?

Answering the question of who, or more appropriately, what, is to blame for a company refiling for Chapter 11 is not simple. New York University Professor Edward Altman has written extensively on the topic, focusing on, among other things, analytics that can be utilized to help predict the likelihood a debtor will need to restructure again.

I posit that there is no one identifiable party (or factor) to blame for repeat corporate bankruptcy filers. Rather, understanding why a company may need to file for Chapter 11 more than once requires an in-depth analysis of the specific company at issue. There are, however, recurring themes in habitual debtor scenarios. These include both factors intrinsic to the company itself and macroeconomic factors which are beyond the company’s control.

At the forefront of any repeat debtor-offender is the capital structure with which the company emerges from its first Chapter 11 case. Often, a reorganized debtor will have a highly levered balance sheet—though not as highly levered as before the bankruptcy. The debt service associated with the new capital structure undoubtedly will be sustainable on paper in accordance with projections prepared by company management and scrutinized by debtor and creditor advisors alike— and indeed, will be part of the Bankruptcy Court’s analysis as to whether a plan of reorganization is “feasible” and can be confirmed. These projections may be aggressive for a company emerging from Chapter 11 seeking to rid itself of the “taint” of bankruptcy but otherwise will be in line with industry metrics and imminently reasonable for a healthy company. The corresponding debt instruments also may contain tight covenant packages that can be used as a real-time barometer to gauge the health of the company during the post-bankruptcy period.

Other factors that may play into a debtor revisiting Chapter 11 include the risk tolerance of investors, competition from healthier “untainted” competitors, new technology, labor, obsolescence, regulatory issues and politics.

Of course, unforeseen factors can play a significant role in the need for a debtor to refile. In the airline industry, for example, an unforeseen increase in the price of crude oil can have a material adverse impact on business, while at the same time fueling (pun intended) a boom in the energy industry. The opposite holds true as well, where a drop in crude oil likely will boost airline values while adversely impacting energy company values.

In sum, while it may be en vogue to blame professionals, vulture investors, aggressive management teams or even a bankruptcy court for permitting a debtor to emerge from Chapter 11 with an over-leveraged balance sheet, the Bankruptcy Code provides that confirmation of a plan should not occur “if it is likely to be followed by…the need for further financial reorganization.” The Code does not prohibit confirmation of a plan if there is a potential that further reorganization may be necessary—although a good rule of thumb is that a bankruptcy court needs to look 18 to 24 months into the future. If possible, every company, its stakeholders and its employees should have the opportunity to survive and thrive following Chapter 11, even if a further restructuring down the road potentially may be required.

Philip C. Dublin is a partner at Akin Gump Strauss Hauer & Feld LLP in New York, where he concentrates on creditors’ rights, corporate restructurings and bankruptcy law.