Dealing with Distress for Fun & Profit— Installment #18—How to Confirm a Chapter 11 Plan

A written tour of business bankruptcy and its alternatives.

This is the latest in the series, Dealing with Distress for Fun & Profit, which you can read from the beginning if you like.  In this bat-installment, we turn to what is, theoretically, one of the most important parts of any chapter 11 case: confirming a chapter 11 plan.

Chapter 11 Plans Are Not Always in the Cards

Notice our use of the word “theoretically” above?  That is because in many chapter 11 cases there never is a plan. Some cases get dismissed. Others get converted. A dismissal or conversion is not necessarily a failure.  Like so many things in life, it depends.

Depends on what?  Well, it depends on where you sit (you know that expression, “where you stand depends on where you sit”- kind of like why some wealthy Republicans living in California today started out as Hippies in the 1960s and 70s.  But we digress…

If you are the senior secured lender who came into the case seeking to maximize the sale price for your collateral and you want to use some of the powers of bankruptcy to do that, then you may not care at all whether a plan is ever confirmed. Indeed, you may prefer that one not be confirmed at all.  But that’s a topic for a different article.

At its Core, a Chapter 11 Plan is a Lot Like a Contract

At its most basic level, a chapter 11 plan is much like a multi-party contract that binds the various interested parties to specific treatment based on their class of claims against or interests in the bankruptcy estate. There are, however, methods by which a plan can be confirmed over the non-agreement of some parties. This is what cramdown is. For more about cramdown, you can read Cram Down: An Impaired Class of Claims Says “No” But the Plan is Confirmed Anyway.

Types of Chapter 11 Plans

Chapter 11 plans come in all shapes and sizes.

• One way to look at them is by the level of constituency agreement prior to the bankruptcy filing.
• Another is to look at what the principal purpose of the plan is.
• Yet another is by reference to whether the plan is consensual or non-consensual.

Let’s examine each.

Level of Pre-Filing Agreement

A major way to distinguish between chapter 11 plans is by reference to the level of agreement there is (or is not) about the plan immediately before the filing of the chapter 11 case:

• Pre-packaged- all the parties whose votes are necessary to approve the plan agreed to so vote pre-filing.  “Prepacks” are, almost by definition, purely financial restructurings. These are rare and usually involve very large companies with complicated debt structures.
• Pre-arranged- a significant number of the parties have agreed, pre-filing, to approve the plan.
• “Regular”- there is no generally accepted term to contrast the vast majority of chapter 11 plans in which there was no prepetition agreement. There is, however, a term commonly used to describe such cases: free-fall.

Purpose – Liquidating Plan or Reorganization Plan

In days of old (i.e. as recently as the early 1980s), liquidating plans were uncommon.  The title of chapter 11 of the Bankruptcy Code is, after all, “Reorganization.”

Times have changed. Today, debtors commonly seek and obtain authority to sell substantially all their assets by way of mere motion (the famous “363 motion”) and then distribute the proceeds of that sale under the terms of a chapter 11 plan- a liquidating plan.

In stark contrast are “plans of reorganization.” These are the classic chapter 11 plans that law students learn about, in which a true reorganization occurs.  That is, rather than the assets of the debtor being sold to a third party, prepetition stakeholders retain some significant interest in the company post-bankruptcy (that is, in the reorganized debtor). True plans of reorganization are the exception these days (except perhaps in the context of chapter 11 cases involving single asset real estate).

Consensual or Non-consensual

There are consensual plans and non-consensual plans. Don’t confuse this with the question of whether the plan is pre-packaged, pre-arranged, or “regular.”  What we are referring to here is whether the plan needs to be crammed down or not. A non-consensual plan is a plan that has to be crammed down.  If you want to read more about cramdown, read Cram Down: An Impaired Class of Claims Says “No” But the Plan is Confirmed Anyway.

Anatomy of the Code’s Plan Provisions

The distinctions above are not the only ways to divide chapter 11 plans into buckets, but we’re feeling all bucketed-out so let’s now turn to the hows of the Bankruptcy Code’s structure surrounding chapter 11 plans. Think of the following as a Cliff Notes / Monarch Notes / Spark Notes / Dummies’ Guide / Idiot’s Guide to the provisions of the Bankruptcy Code that deal most with chapter 11 plans:

1. Section 1121 addresses who has the right to file a plan.  A debtor has the exclusive right to propose a plan for the first 120 days of a case (subject to potential extension to nor more than 18 months after entry of the order for relief). Any other party may propose a plan after this exclusivity period.  The rules are slightly different in small business and single asset real estate cases. See § 1121(e).
2. Section 1122 addresses the classification of claims and interests under a plan. It provides that a plan proponent (the party who proposes the plan) can only classify claims together if they are “substantially similar.” The Bankruptcy Code does not, however, tell us what “substantially similar” means, nor does it say whether a debtor can classify claims that are “substantially similar” into separate classes.
3. Section 1123 outlines the contents of a plan. Subsection (a) tells us what a plan must contain. Subsection (b) lists provisions that a plan may contain (subject to § 1129).
4. Section 1124 defines “impairment” of a class of claims or interests under a plan. This is important because “impaired” classes get to vote on the plan. To oversimplify, if a plan alters the rights of a party in any manner (negatively or positively) the party is impaired.
5. Section 1125 deals with requirements for a disclosure statement and provides that a plan proponent cannot solicit acceptances of a plan without a court-approved disclosure statement. An objection to a disclosure statement will trigger a hearing on its adequacy.
6. Section 1126 tells us how to how to count the votes of a creditor or interest holder within a class and how to count the collective vote of each class.
7. Section 1127 deals with modifying a plan. The important rules here are (1) the plan proponent cannot modify a plan so that the plan fails to comply with the requirements for a confirmable plan; and (2) if the plan proponent modifies a plan in a material way after creditors have voted, then the plan proponent will likely have to re-disclose and re-solicit—that is, tell creditors about the change and give them a chance to change their vote.
8. Section 1128 is very short and clear (for a change) and tells us that the court will hold a hearing to consider confirmation of the plan and that parties can object to confirmation.
9. Section 1129 governs the confirmation hearing. That is, it delineates what a court must find before confirming a chapter 11 plan.  It is long, and it is complicated. If you are a bankruptcy virgin and want to understand this section, we suggest that you (a) read this article through to the end; (b) review each of the other Bankruptcy Code sections we refer to in this article (but not § 1129); (c) read this article again; and (d) review some of the articles we generously and modestly provided hyperlinks to.

Overview of § 1129

Think of § 1129(a) as the place you want to start.  It refers in its various subsections to all of the other sections we discuss above. When it does that you should go review those sections.

Each subsection sets forth one requirement. Some are easily satisfied (and not litigated all that much) and some are not (and as a result are the subject of more litigation).

The Vote

Before a plan reaches a confirmation hearing it must be put out for a vote (pursuant to § 1129(a)(8)).  If all the impaired classes accept the plan, then the plan is a consensual plan and the court will look at all the other factors under § 1129(a).  This should sound familiar (quoting ourselves from earlier in this article, “[t]here are consensual plans and non-consensual plans . . . What we are referring to here is whether the plan needs to be crammed down or not”).

One important point: do not confuse voting with the other confirmation requirements. To be clear, even if everyone votes to accept a plan, that plan still needs to satisfy the other confirmation requirements, and any party in interest (even one who voted to accept the plan) can object to the plan on the ground that it does not do so.

Consensual or Cram Down?

If even one impaired class does not vote to accept the plan, then the plan cannot be confirmed under § 1129(a). But the plan can still be confirmed under § 1129(b).  This is the famous (perhaps infamous, depending on your perspective) cramdown.  That is, when the plan is confirmed under § 1129(b), it is being crammed down on one or more classes. To do this, the plan proponent must also still satisfy all of the requirements of § 1129(a), other than (a)(8).

Going deeper: if you are the plan proponent you should think of your options for each class as follows (excuse the redundancy, it is intentional):

• Leave the class unimpaired. If the class is unimpaired, it is deemed to accept the plan.
• Get the class’s vote. If the proponent gets the right number of votes, it can confirm with respect to a class. In other words, the proponent can impose the plan on dissenters within a class.
• Cram the class down. Even if the class is impaired and votes to reject the plan, the proponent may still be able to confirm the plan and impose it on the dissenting class over its objection.

Feasibility

Section 1129(a) contains a number of other subsections that are commonly litigated.  For example, under § 1129(a)(11), the plan proponent must show that the plan is not likely to be followed by a liquidation or further reorganization of the reorganized debtor, unless the liquidation or further reorganization is provided for in the plan. This is known as the feasibility test.

Other Requirements

There are other requirements that are worth understanding to be sure, but we are not going to do all your work for you! To learn more about the basics of bankruptcy, please read the other installments in this series.

[i]  We don’t particularly like this term, however, since it connotes a dire situation.  Don’t get us wrong- companies that file chapter 11 tend to be facing dire circumstances. But everything is relative. And while the vast majority of debtors file chapter 11 cases with a general goal in mind, few have the luxury of formulating—let alone seeking the agreement of stakeholders about—a specific chapter 11 plan before filing.  This fact alone does not necessarily make these situations more dire than others.

[ii] In many, if not most, cases, the plan proponent is the chapter 11 debtor. But other parties may propose plans, including secured creditors, creditors’ committees, or other parties in the case. In some cases, the debtor may work jointly with one or more of these parties to propose a plan.