Contract attorney bankruptcy review work slows a bit as liquidation increases

Restructuring under Chapter 11 bankruptcy protection process can sometimes take  years.  The large ones generate significant document reviews.  But as reported in the legal press and on various bankruptcy blogs (some examples here, here and here), some large Chapter 11 bankruptcies have turned into liquidations.  Virtually every large company that filed for Chapter 11 in the past year intended to reorganize but things have changed.  And as a result the stream of anticipated document review work has slowed a bit.

The first thing a bankrupt company does is arrange what’s known as debtor-in-possession (DIP) financing, which enables the firm to keep stores open and pay salaries even as it starts stiffing other creditors.  Because the rules permit DIP lenders to jump to the head of the creditors’ line, large banks viewed the DIP market as a relatively low-risk business.  Now, of course, many of the firms that provided DIP financing (are themselves functionally bankrupt.  The surviving banks now regard all types of lending — to consumers and businesses, in bankruptcy and out of bankruptcy — as a highly hazardous activity.  Meanwhile, the private-equity firms and hedge funds that had been big buyers of bankrupt firms are shying away.

So U.S. companies face greater risk of liquidation because sources of financing that allow them to reorganize are drying up.  The previous big providers of DIP financing were companies like GE Capital and JP Morgan.  Standard & Poor’s has reported that there has been no substantial increase in DIP volumes in 2008, in spite of a jump in the number of bankruptcies, highlighting the reluctance of banks and investors to finance companies in bankruptcy.

When we made the rounds of law firms last month, and also attended a few ACC functions, the lack of DIP financing was discussed but so was the strategy of avoiding the whole bankruptcy conundrum by looking at debt exchange, where creditors are asked to accept concessions to reorganize debt outside the courts.  It was expected that more “quiet” deals/negotiations would be cut.

Other companies have been contemplating pre-emptive bankruptcies while they have cash, to improve their chances of an organized restructuring.  Many bankruptcy bloggers speculated this was the case with Nortel Networks which filed for Chapter 11 earlier this month.