About Chapter 11 bankruptcy

  • Updated: January 15, 2009 - 9:46 PM

 

What is Chapter 11 bankruptcy? It's a voluntary step companies take to reduce or eliminate their debt. "Chapter 11" refers to a section of the U.S. Bankruptcy Code.

Are they out of business? No, that would be a Chapter 7 filing, or liquidation. In Chapter 11, companies continue to operate. Their stocks and bonds continue to trade. But bondholders stop receiving interest and principal payments, stockholders stop receiving dividends and debt payments are suspended to give companies time to develop a reorganization plan. That's why you often hear about a company operating "under the protection" of Chapter 11.

What happens after a company files for Chapter 11? A trustee appoints committees to represent creditors, bondholders and shareholders. The company works with the committees to develop a plan to get out of debt. The plan must be accepted by all groups and approved by the court, but a bankruptcy judge can impose a plan over the objections of one or more groups.

Are all creditors treated equally? No. Secured creditors such as banks and equipment makers -- whose loans are backed by buildings, property or equipment -- are repaid first. They may have to accept lower interest rates, or some of their debt may be converted to stock in the company when it emerges from bankruptcy.

Unsecured creditors, a group that includes everyone from bondholders to the landscaping service, are next in line.

Bondholders may receive new stock in exchange for their bonds, new bonds or a combination of stock and bonds. Trade vendors may get a fraction of what they are owed. Shareholders often get nothing or a small number of shares in the reorganized company.

How long does all of this take? Bankruptcies can take anywhere from three months to more than a year to complete.

Sources: Securities and Exchange Commission; Investopedia
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