Is Silicon Valley Bank — formally known as SVB Financial Group — the canary in the coal mine? It would seem so. In March 2023, the corporate bankruptcy filings spiked to levels last seen in 2010, when many economic sectors were still struggling with the aftermath of the Great Recession.
News of SVB Financial Group’s abrupt decline and the Fed’s lack of corrective action despite prior knowledge of the bank’s woes dominated headlines. Silicon Valley Bank was the second-largest American bank to fail in history.
Two other small to midsized banks failed in subsequent days. Large banks bid to buy the failed banks and prove their financial health.
While banks may have captured the lion’s share of the public’s attention, the bankruptcy trends are not limited to the financial sector. The consumer sector has been hit hard with companies like Party City, Serta Simmons Bedding, and Bed Bath & Beyond — three of many in the sector to file for bankruptcy this year.
The increase in bankruptcies in the first quarter of 2023 came from all industries: utilities, real estate, health care, consumer goods, communication, energy and finance. By the end of Q1 2023, a total of 183 U.S. companies had filed for Chapter 11 protection per S&P. While the economic trends causing bankruptcies to increase in 2023 bear investigation, let’s take a closer look at the process companies filing Chapter 11 bankruptcy must go through.
What Is Chapter 11 Bankruptcy?
Leaving behind the bankruptcy trends of Q1 of 2023 for a minute, let’s review what a Chapter 11 bankruptcy filing means.
Chapter 11 bankruptcies are open to individuals and organizations. They’re often known as restructuring bankruptcies as opposed to the liquidation style of Chapter 7 bankruptcy proceedings. Restructuring refers to the process of reorganizing a company in the hopes of making it profitable.
In all bankruptcies there are two parties, debtors and creditors. Debtors are those who owe money, in this case, the troubled company. Creditors are those owed money, such as lenders.
In a Chapter 11 bankruptcy, the debtor declares themselves bankrupt through a court filing. When filing for bankruptcy, Chapter 11 offers more generous options than other types of bankruptcy, such as liquidation. Instead of selling off assets and closing the business, companies that elect Chapter 11 bankruptcy get to stay in business and maintain possession of the company. They can even borrow money.
The purpose of a Chapter 11 bankruptcy is to right the ship, so to speak — to make the company profitable once more so it can repay its creditors.
The restructuring process is often effective, yet it can be challenging. DFIN’s bankruptcy contract management software streamlines the process of filing for bankruptcy. It helps companies stay on top of key information for their bankruptcy and restructuring processes, making this often-difficult process a bit easier.
What Does Chapter 11 Bankruptcy Mean for a Company?
Let’s review the Chapter 11 bankruptcy filing and reorganization process, bearing in mind that corporate bankruptcies differ from individual bankruptcies.
Chapter 11 Bankruptcy Process
Chapter 11 bankruptcy cases start with an internal process. Because companies often try to hide a position of financial weakness, the first step involves disclosure to stakeholders. For example, a company will tell its board or its shareholders about its financial troubles. The board or shareholders will vote to formally allow the company to declare bankruptcy. Because this major step isn’t taken lightly, these stakeholders will usually allow the company to declare bankruptcy because it’s seen as the most viable option.
With permission of the board (or shareholders), companies will then file for bankruptcy with a bankruptcy court, the type of court with legal jurisprudence over these matters. The filing process involves completing a brief petition and paying a court filing fee. In most cases, the company must list:
- Their assets
- Their liabilities
- A financial statement
- Any leases or contracts still in effect
Once the company enters bankruptcy, it gains legal protection. For example, creditors can no longer attempt to collect debt. Instead, they must wait to be repaid through the bankruptcy process.
Creditors are also given financial incentives to continue to do business with the bankruptcy company since relationships will help the debtor continue its operation, earn money and repay debts as part of the process.
The next step in a Chapter 11 bankruptcy is reorganization. The point of reorganization is to give the company a chance to pay debts, overhaul its business operations and structure and — ideally — become profitable once more. By pausing debt collection efforts and giving the debtor legal protection, the bankruptcy process acts as a shield. The company relieved from market constraints to reorganize. Creditors are prevented from chasing down debts while the company moves through the bankruptcy process. Eventually, the company emerges from Chapter 11 bankruptcy with a debt repayment plan and stronger operations that allow the company to fulfill its obligations.
Strategies for Reorganization
As part of the bankruptcy process, companies must propose their own reorganization plan.
Generally, these plans allow companies to renegotiate terms of debt into manageable payment amounts. This list is a starting point of variables open to restructuring:
- Maturity rate
- Payment date
- Interest rate
- Base rate
- Indemnification
- Loan commitment
There are two key points to note about restructuring. One, creditors can propose a plan if the debtor does not. It’s in the debtor’s best interest to pull together a strong plan.
Two, a proposed restructuring plan can be declined by the bankruptcy court. If the plan fails to conform to laws regarding the bankruptcy process, the court can send the debtor back to the drawing board.
Chapter 11 Bankruptcy Technology
Filing for bankruptcy Chapter 11 is a lengthy process. Companies can move through the process quicker and get back on track faster by using technology that supports the filing process. DFIN offers several tools that streamline the workflow, including:
- Virtual data room and corporate repository solutions
- AI due diligence software for contract analysis
Virtual data rooms or VDRs support transactions such as mergers and acquisitions in a similar way as physical data rooms of decades past. Think of them as a digital gathering place for all documentation related to corporate transactions, from financial statements to intellectual property.
Since VDRs have access control features, only vetted parties can review documents. For example, a company can share its intellectual property and full financial statements with potential buyers and investors without worry about the information being widely viewed.
When it’s time to make a deal, contract analysis software can ensure everything is correct. Rather than relying on a team of workers to manually review complex documents which can run thousands of pages, AI-driven tools use machine learning to streamline the process. Workers instruct the AI-powered software, which analyzes contracts using rules set up by team members. Given the fast pace at which deals must proceed, the benefits are clear.
Filing for bankruptcy is never the ideal solution. However, a successful bankruptcy can protect the company and its reputation while making the business stronger. Given time, the company can emerge from a Chapter 11 bankruptcy with a renewed outlook, more competitive operations and all the tools needed to thrive. Major U.S. companies from General Motors to Delta, United and Chrysler have all gone through the process. Today, they continue as major players in the global economy. DFIN supports companies with digital and AI-powered business tools, including those built for the bankruptcy process, such as eBrevia.
