Focus Antitrust & Trade/Bankruptcy Law Updates to the Small Business Reorganization Act

BY JEFFERY M. VETETO

The allures of eligibility for the new reorganization under Subchapter V of Chapter 11 are undeniable; it is faster, less expensive, and a significantly less onerous avenue for debtors to restructure. It even has the hallmark bonus of an unobstructed path for shareholders to retain their equity without paying new value—a prized occurrence. Despite its statutory title, the “Small Business Reorganization Act,” the scope of companies that are subject to the Act is much broader than the name would lead you to believe. Counsel for large businesses would be remiss not to explore whether distressed clients, their affiliates, subsidiaries, or portfolio companies are eligible.

Advantages of Subchapter V

Effective in February 2020, the Small Business Reorganization Act of 2019 (SBRA) enacted the new Subchapter V of Chapter 11 of the Bankruptcy Code, codified as 11 U.S.C. §§ 1181–95. The stated purpose of the SBRA was to use the new Subchapter V to streamline the reorganization and financial rehabilitation process for small business debtors. To facilitate this effort, Subchapter V provides notable benefits over traditional Chapter 11. Debtors do not pay quarterly fees to the United States Trustee based on disbursement. An unsecured creditors’ committee cannot be appointed without a specific court order. Debtors are not required to file a disclosure statement and they are the only party eligible to file a plan of reorganization. Such plan can be approved without any creditor support so long as it is “fair and equitable” and does not “discriminate unfairly” against any classes of creditors. Each of these differences can result in substantial cost savings, often through a less obstructed route to plan confirmation.

That said, possibly the most attractive difference is the SBRA’s departure from the “Absolute Priority Rule.” In traditional Chapter 11, the Absolute Priority Rule prevents a creditor class from receiving payment or property until the more senior creditor claims are paid in full, unless otherwise consented to. Equity holders are last in priority and, by effect, cannot retain their old equity interests unless: (i) all creditors are paid in full; (ii) all creditor classes consent to the plan; or (iii) the equity holders contribute sufficient new value. Subchapter V removes the Absolute Priority Rule.

Subchapter V Eligibility

To qualify for Subchapter V, a debtor must be engaged in commercial or business activities and have less than $7.5 million of aggregate debt as of the petition date, not including: (i) contingent debts; (ii) unliquidated debts; and (iii) debts owed to affiliates or insiders. A debtor does not qualify if it is a member of a group of affiliated debtors whose aggregate debts collectively exceed the $7.5 million cap.

With this eligibility definition, there are notable openings for creative application. For example, a wholly-owned subsidiary of a privately held company could qualify even if it owes $100 million to its parent company. A similarly situated company could qualify despite large pending lawsuits against it. In either example, no debt of the parent company or any affiliate subsidiaries counts towards the cap so long as they do not also file bankruptcy.

A debtor cannot file under Subchapter

V if it is a company subject to the reporting requirements under sections 13 or 15(d) of the Securities Exchange Act of 1934 or an affiliate of a corporation subject to such requirements. But if the debtor’s and its affiliates’ stock are not publicly offered and registered with the SEC, then the aggregate debt requirement may be the only eligibility impediment.

Expansive Qualification

In many parent-subsidiary structured business ventures—both private and foreign public—and in other liabilitylimiting organizational structures, isolated downstream Subchapter V filings are not only possible but highly advantageous. Businesses in the transportation, logistics, hospitality, and technology sectors, of other industries, may find Subchapter V filings especially useful. Early-stage private equity invested companies should also find eligibility in Subchapter V welcome, especially in consideration of the opportunity to preserve even a multi-series equity table. Much as it is in other aspects of bankruptcy, the available benefits to a Series LLC remain more elusive; but, logically, even a company with that structure could potentially qualify under Subchapter V.

With Subchapter V still being relatively new, creative approaches are worth testing given the significant advantages of qualification. It may have been intended as a small business law, but large business can share in the bounty of its benefits. HN Jeffery M. Veteto is an Associate at the Law Offices of Frank J. Wright, PLLC. He can be reached at jeff@fjwright.law.

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