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The Benefits of Prepackaged Bankruptcies For Debt Restructuring

By Spodek Law Group | February 20, 2024

The Benefits of Prepackaged Bankruptcies for Debt Restructuring

Filing for bankruptcy can be a daunting process, especially for large corporations with complex debt structures. However, there is a streamlined form of bankruptcy called a “prepackaged bankruptcy” that can make the process much simpler. Prepackaged bankruptcies allow companies to negotiate a restructuring plan with creditors before formally filing for bankruptcy. This helps expedite the bankruptcy process and reduces costs.

What is a Prepackaged Bankruptcy?

A prepackaged bankruptcy, also known as a “prepack,” is a hybrid of an out-of-court restructuring and a formal bankruptcy filing. With a prepack, the company first negotiates the terms of a restructuring agreement with its major creditors, like bondholders and banks. This is done privately, without filing for bankruptcy yet.

Once the agreement is reached, the company files a bankruptcy petition along with the pre-negotiated restructuring plan. This allows the prepackaged plan to be approved quickly by the bankruptcy court, usually within 60-90 days. The fast-track process reduces legal fees and uncertainty compared to a traditional Chapter 11 bankruptcy.

Key Benefits of Prepacks

There are several major benefits that make prepackaged bankruptcies an attractive debt restructuring option:

1. Speed

The pre-negotiated deal expedites the bankruptcy filing and approval process. Companies can emerge from bankruptcy within a few months rather than 1-2 years with traditional Chapter 11 cases. This preserves value by minimizing business disruptions.

2. Lower Costs

Attorneys fees, financial advisors, and other bankruptcy costs can easily exceed $100 million for large Chapter 11 cases. Prepacks have much lower costs given the shortened timeframe and limited court involvement needed to confirm the pre-approved plan.

3. Greater Creditor Support

Gaining creditor consensus before filing improves the chances the restructuring plan will be approved. With traditional Chapter 11 cases, contentious creditor disputes can delay proceedings and drive up costs. Prepacks avoid this risk.

4. Less Disruption to Operations

Prepacks allow companies to stabilize operations by calming vendors, customers, and employees prior to entering bankruptcy. This preserves business relationships and value. With traditional Chapter 11 cases, vendors often tighten trade credit and customers defect amidst uncertainty about the company’s future.

When are Prepackaged Bankruptcies Appropriate?

While prepacks offer advantages, they are not appropriate for every distressed company. Two factors determine whether a prepackaged bankruptcy filing makes sense:

1. Creditor Agreement – For a prepack to work, the company must obtain support for the proposed restructuring plan from creditors holding a majority of the debt in each class. This requires extensive pre-filing negotiations.

2. Timing – If a company faces a severe liquidity crisis or has trade vendors threatening to cut off supplies essential to operations, there may not be time to negotiate a prepack plan. Traditional Chapter 11 that provides immediate cash flow and vendor relief may be necessary.

If these two factors are addressed, a prepackaged bankruptcy can be preferable to a lengthy Chapter 11 process. Even if consensus cannot be reached out-of-court on a complete restructuring, obtaining agreement on some issues can streamline the bankruptcy case.

The Prepackaged Bankruptcy Process

While each case varies, prepackaged bankruptcies generally follow this timeline:

1. Company struggles financially

Liquidity tightens, debt payments are missed, or default appears likely in next 6-12 months. Management changes may occur. Company hires restructuring advisors to assess options.

2. Restructuring negotiations

If filing bankruptcy appears necessary, the company negotiates a restructuring plan with creditors. This may take 2-4 months. Key terms include debt/equity conversions, maturity extensions, and interest rate reductions.

3. Prepack Filing

The company files Chapter 11 petition along with approved restructuring agreement. Typically 75%+ of voting creditors in each class must consent for court approval. Company continues operating in bankruptcy.

4. Plan Confirmation

Within 60-90 days of filing, the court confirms the pre-negotiated restructuring plan. Little litigation occurs since major disputes addressed pre-filing.

5. Exit from Bankruptcy

After the restructuring plan takes effect, the company emerges from Chapter 11 as a newly reorganized entity typically within 6 months.

Prepackaged Bankruptcy Timeline Example

While every case varies, prepacks generally take 6-12 months start to finish compared to 12-24+ months for traditional Chapter 11 bankruptcies. This accelerated timeline is the main advantage.

Prepackaged Bankruptcy Case Studies

Several major corporations have successfully utilized prepackaged bankruptcies over the past decade:

Claire’s Stores – The teen jewelry retailer negotiated a debt-for-equity swap with first lien creditors and entered Chapter 11 in March 2018 with a pre-approved restructuring agreement. Claire’s emerged just 2 months later.

Neiman Marcus – The luxury department store chain completed a speedy prepack restructuring during 2020, eliminating $4 billion of debt and receiving $750 million in new financing to fund operations.

Connecticut Electric & Power – CEP pre-negotiated a restructuring support agreement with creditors through mediation before filing Chapter 11 in January 2020. It exited bankruptcy just 60 days later.

These and other cases demonstrate how prepackaged bankruptcies can smoothly facilitate debt restructurings and financial turnarounds for distressed corporations.

Consulting a Restructuring Lawyer

The complex negotiations involved in prepackaged bankruptcies require experienced legal advice from restructuring attorneys. Here are important ways an attorney can help:

  • Analyze the company’s financial position and best reorganization options
  • Lead negotiations with secured lenders, bondholders, trade creditors, and equity holders
  • Draft the plan of reorganization and disclosure statement
  • Ensure consent thresholds are met for each voting class
  • Manage regulatory approvals needed from gaming and liquor license authorities
  • Appear in court during the bankruptcy case to obtain approvals
  • Answer management and creditor questions throughout the process

With millions of dollars and the company’s future at stake, enlisting an expert bankruptcy legal team is prudent for any debtor considering a prepackaged filing.

Conclusion

Prepackaged bankruptcies offer distressed corporations a faster and less disruptive path to implementing a debt restructuring compared to traditional Chapter 11 filings. By negotiating with creditors in advance, companies can enter bankruptcy with a pre-approved plan and exit within months. This avoids lengthy legal fights and minimizes costs. Prepacks enable companies to right-size their balance sheet and gain a fresh start with a deleveraged capital structure. Management can then refocus on long-term growth rather than short-term liquidity concerns. With careful planning and legal guidance, prepackaged bankruptcies represent an efficient financial reorganization option.

Resources

Overview of Prepackaged Bankruptcies [Quora]

Chapter 11 Bankruptcy Timelines [Avvo]

Traditional Chapter 11 Costs [Wall Street Journal]

Prepack vs Traditional Chapter 11 [ABA Journal]

Claire’s Successful Prepack Filing [Wall Street Journal]

Neiman Marcus 2020 Bankruptcy Case [Forbes]

Connecticut Electric & Power Prepack [Reorg Research]

Image Source: Restructuring Associates

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