Wind-Down Outside of Bankruptcy in New York

As a result of the current economic conditions many business owners in New York City have decided that they will need to shut down their businesses. They are faced with the decision of how to best do this. Essentially, the options are to liquidate the business in chapter 7 bankruptcy, to liquidate the business by an assignment for the benefit of creditors in state court, or to liquidate the business outside of bankruptcy. For businesses with greater resources another option is liquidating the business in chapter 11 bankruptcy.

1. Chapter 7 Business Liquidation
This involves filing a chapter 7 bankruptcy petition, with supporting schedules of assets, debts and other information with the Bankruptcy Court. A chapter 7 trustee is then appointed to administer the assets of the business and liquidate them to raise cash to pay creditors’ claims.

One major benefit of a chapter 7 bankruptcy is that, immediately upon filing of the bankruptcy case, the automatic stay goes into effect. This stops all further collection activity against the debtor, as well as any pending litigation, foreclosures or judgment enforcement.

Another positive of a chapter 7 bankruptcy for a business is it is a fairly straightforward process to prepare the bankruptcy papers. Our law firm handles these types of cases on a flat fee basis so the business owners know in advance what their legal fees will be.

One of the negatives is that a trustee is appointed to liquidate the assets of the company, and he or she has the ability to investigate financial transactions involving the company and bring lawsuits against insiders to seek to avoid or recover certain transactions. This topic is discussed further in the Frequently
Asked Questions (FAQs) on our website.

2. Liquidation in Chapter 11 Bankruptcy
Another option for the company is to liquidate its assets in a chapter 11 bankruptcy case. This is the option we typically see larger companies pursue, such as for example, Circuit City did this.

In a chapter 11 bankruptcy there is an automatic stay immediately upon filing the case, just as in chapter 7 bankruptcy.

Also, in a chapter 11 liquidation there is typically no trustee appointed and the pre-bankruptcy management of the debtor company will continue to manage the company’s affairs during the liquidation. This allows management to determine the method and manner that assets will be sold, subject to Bankruptcy Court approval. While a chapter 7 trustee will typically seek to have an auction conducted by an auctioneer to sell assets, management in a chapter 11 case may pursue a method likely to result in a higher sale price.

3. Assignment for the Benefit of Creditors
Assignment for the Benefit of Creditors is a topic that we have covered in detail in the Frequently Asked Questions (FAQs) on our website. Basically it is a state court procedure in which all of the debtor company’s assets are assigned to an “assignee for the benefit of creditors.” The assignee then liquidates the assets and pays off creditors claims in accordance with applicable NY
law on this topic.

One downside of an assignment for the benefit of creditors is that stay is much less comprehensive than that in a bankruptcy case. While the state court will issue an injunction to prevent certain action by creditors, the injunction does not have nationwide force and effect like a bankruptcy stay. Also creditors outside the jurisdiction of the NY court may ignore it.

Another downside is that the assignment for benefit of creditors will typically be more expensive, at least in small cases, than a chapter 7 bankruptcy. In larger cases it may, however, be more economical because there is no bankruptcy trustee with his or her many professionals billing their fees and expenses to the estate (such as lawyers, accountants, auctioneers, etc.).

4. Wind Down Outside Court
Finally, the last option is wind the company down outside of bankruptcy. This option may be the cheapest in terms of immediate cash outlay compared to the other options, but also poses the greatest risk and uncertainty to officers, shareholders and directors of the business.

In New York a corporation or limited liability company (LLC) cannot be formally dissolved unless {adequate provision of existing liabilities} has been made [NEED CITE}, This means that if the company has unpaid debts it cannot voluntarily dissolve.

The alternative of merely ceasing business without formally dissolving is unsatisfactory because the company continues in existence (at least legally) and can continue to be sued. Creditors obtaining a judgment can continue to pursue enforcement efforts and seek to acquire information from management. Also, absent a fair and impartial insolvency proceeding, such as a chapter 7 or 11 bankruptcy, or assignment for the benefit of creditors, management may be more subject to creditor claims seeking to hold officers, directors and shareholders responsible for the debts of the company, such as fraudulent transfer, alter ego, piercing the corporate veil and other legal doctrines.

Please feel free to contact Starr & Starr, PLLC if you have any questions or to schedule a consultation.

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