What is Debtor-in-Possession Financing?

: Reese Baker & Associates

  Filed under: Chapter 11

Businesses that wish to continue operations while also struggling with company debt have the option of filing for Chapter 11 bankruptcy in Texas and every other state in the Union. A Chapter 11 business bankruptcy works quite different from a personal bankruptcy (Chapter 7 or Chapter 13), with the biggest difference being who is in control of the money during the bankruptcy process. In a typical consumer bankruptcy, a debtor turns over all non-exempt property to a “bankruptcy estate” which the bankruptcy trustee controls. In a Chapter 7 bankruptcy case, the trustee will sell non-exempt property and us the estate to calculate monthly Chapter 13 repayment amounts. In a Chapter 11 bankruptcy, however, the company is still “in possession” of the business and its assets during the bankruptcy period, and this is referred to as a debtor-in-possession. Therefore, debtor-in-possession financing is the funding that a business uses to continue business operations while they form a viable plan to turn the company around.

Debtor-in-Possession Financing Explained

When a company files for Chapter 11 bankruptcy, it will seek to convince lenders that the company has a legitimate plan for reorganizing company finances to become financially viable again. This type of funding is a necessary lifeline to any company that hopes to emerge from a Chapter 11 bankruptcy. Alternatively, if a company isn’t able to obtain debtor-in-possession financing, they will most likely have to liquidate part of or the entire company. In a recent San Antonio bankruptcy case for a retail company in Chapter 11 bankruptcy, the Texas bankruptcy lawyer involved was quoted as saying that “it’s critical for a debtor to obtain exit financing in order to emerge from Chapter 11”. Once a company accepts debtor-in-possession financing, the US Bankruptcy Code allows for the company to take on the new debt by filing a post-bankruptcy petition lien.

Debtor-in-Possession Lending

The majority of business owners may not realize that they can access financing after formally declaring bankruptcy. Some wonder why any lender would make a loan to a company that isn’t profitable or needs restructuring, but bankruptcy laws treat debtor-in-possession loans especially, moving them to the front of the line for repayment.  Once a Chapter 11 bankruptcy reorganization plan is approved, business management can immediately begin restructuring assets, work to obtain funding for equipment, payroll, and supplies, and finally work to obtain exit financing.

Obtaining Debtor-in-Possession Financing

When seeking Debtor-in-possession financing, your company must have sufficient collateral to cover the bankruptcy loan and must have the approval of the Bankruptcy Court in which the company is filing. When seeking bankruptcy financing, Chapter 11 bankruptcy rules state that the company must obtain permission from its existing lenders to take on the new loan. Alternatively, the company can convince the Bankruptcy Court that existing lenders are adequately protected and won’t be hurt financially by assuming new, more senior debt.

Chapter 11 Bankruptcy Attorneys

Texas bankruptcies for business are a complicated matter, and therefore, require the expertise of a bankruptcy law firm that has extensive experience in helping companies turnaround their financial situation using bankruptcy. A distressed company has several advantages found in Chapter 11 Bankruptcy Code, and thus should certainly consult a Houston business bankruptcy attorney to obtain necessary liquidity it needs for a corporate restructuring.