Coronavirus-era bankruptcy surge heavily favors reorganizing over liquidation
While 2020 has been a bumper year for corporate bankruptcies in the United States, more of the struggling businesses devastated by the COVID-19 pandemic are using legal proceedings to restructure instead of going out of business.
Nearly 62% of U.S. corporate bankruptcy filings in 2020 requested reorganizations, with the highest rate of all years dating to at least 2010, according to data from S&P Global Market Intelligence. Companies were less likely to liquidate in 2020, a difference from 2019 and 2018 when company liquidations outpaced reorganizations in bankruptcy filings. As of March 30, the share of restructuring requests is higher in 2021 than in 2020.
In U.S. bankruptcy courts, companies can file restructuring plans through a process known as Chapter 11, which allows for liquidations in some cases, although they are less common. Chapter 7 bankruptcy proceedings are strictly reserved for liquidations.
It’s generally more common for large U.S. companies to go for Chapter 11 bankruptcy because it gives managers more control over the fate of their businesses, experts say. When businesses go into Chapter 7 bankruptcy, they effectively cease to exist and a trustee is appointed to manage the business.
Strong brands and operations in niche markets give large companies a longevity that makes them less likely to pursue Chapter 7 bankruptcies, Diane Shand, senior director at S&P Global Ratings, said in an interview.
Reorganizations are increasingly common as otherwise healthy companies use the bankruptcy process to navigate the extreme environment created by the pandemic, experts say. Creditors and debtors made deals before filing for bankruptcy, and there were numerous asset sales to pre-existing lenders and bondholders, Joshua Friedman, global head of restructuring data at Debtwire, said in an interview. .
“We saw significant Chapter 11 activity in an attempt to protect the business,” Friedman said.
Retail sales plunged in April 2020 following containment measures aimed at quelling the spread of the coronavirus. Even when some states lifted restrictions, businesses faced a loss of consumer confidence in the early months of the pandemic.
Stimulus money and a higher number of asset sales could spur more companies to reorganize rather than liquidate, said Connor Murphy, director of Burford Capital, a global finance law firm, in an interview. Many companies that have filed for Chapter 11 bankruptcy in the past year have done so because they needed help navigating the “zero income environment” created by the pandemic, Murphy said.
“There was not necessarily basically anything broke about their business model, ”Murphy said.
Hertz Global Holdings Inc. is a prime example. There was nothing inherently wrong with the business, but the car rental company entered Chapter 11 quite quickly when the economy started shutting down in March 2020, Murphy said. Chapter 11 was Hertz’s only real option, and it got the company to restructure some of its debt and get through a rough patch, Murphy said.
Hertz has asked the court overseeing its bankruptcy to approve the adequacy of its proposed disclosure statement to allow the company to emerge from bankruptcy ahead of the company’s busy summer season. The company did not respond to a request for comment from Market Intelligence.
When JC Penney Co. Inc. requested its reorganization, it did so with a restructuring plan that aimed to reduce the company’s debt and give it more financial flexibility. By December 2020, JC Penney had become Old COPPER Co. Inc. and had finalized the sale of most of its retail and operating assets.
More pre-arranged or pre-arranged bankruptcies also help explain the higher number of Chapter 11 bankruptcies in 2020, experts say. In those prepackaged bankruptcies, financial stakeholders agreed that there was a viable business plan and investment proposal for companies beyond the pandemic, said Lex Suvanto, head of financial communications at Edelman, in an interview.
“Everyone was ready to stay on board and reinvest in the business,” Suvanto said.
Few large business bankruptcies begin in Chapter 7, although some eventually convert, Ed Flynn, a consultant with the American Bankruptcy Institute, said in an interview. Small businesses tend to be involved in Chapter 7 bankruptcies more often than Chapter 11 bankruptcies, Flynn said.
Small businesses looking to liquidate typically have no other options or business owners lack the energy to continue with a sinking ship, said David Berliner, Services Practice Partner BDO USA LLP Restructuring and Turnaround, in an interview.
While 2020 saw the most personal bankruptcies filed in 11 years, the pace of Chapter 11 filings slowed at the end of 2020. There will likely be fewer personal bankruptcies in 2021 than in 2020, and more storefronts are expected to close as businesses reposition themselves. themselves to better benefit from the growth of e-commerce, Berliner said.
The broader pace of bankruptcies in 2021 has returned to pre-pandemic levels despite long-held expectations of a second wave, experts say. According to experts, the resumption of bankruptcies depends at least in part on the pandemic and the reaction of consumers and businesses to the reopening of the economy.
“I would expect a jump if we saw things deteriorate again,” said Friedman of Debtwire. “Otherwise, in the world of bankruptcy it seems like business is business as usual, contrary to what I think most people have been expecting for a long time.”