From Cradle to Grave: Using Bankruptcy Skills to Advise Clients on New Deals

This article is the last installment of a series published in November and December addressing the practice of having bankruptcy counsel get involved in lease deals from the outset.

TENTH RULE: IF YOUR CLIENT IS A VENDOR OR SERVICE PROVIDER, IT IS EXTENDING CREDIT. TREAT THE TRANSACTION THAT WAY. Financial institutions extend credit and protect themselves in ways that should be instituted for clients that also extend credit, such as vendors or service providers.

Bankruptcy lawyers see how lenders protect themselves from the potential risks of bankruptcy and default. At the initiation of a transaction, lenders get a credit application from the debtor, including a financial statement. They find out about its assets and liabilities, its principal and affiliates. They get periodic financial reports. Others who extend credit, such as vendors and service providers, should think about adopting similar devices. In this regard, I drafted a system of credit applications for an industry that had never used them before, to provide an early warning that those to whom they extended credit might later default.

Bankruptcy lawyers also see economic and financial trends, which portend future trouble. They can do a quick overall analysis of the industry in which the debtor operates, based on prior experience ' is it relying on the continued success of “buggy whips” which will be outdated by new products; could it be hurt by overbuilding and increased competition even though it is doing fine at the moment; is it dependent on the “new economy” like the Internet, which may be faced with a downturn? All of these factors could change a long-term deal over time from a winner into a disaster.

By doing such an analysis, they can advise clients to consider getting a credit enhancement of a guaranty, collateral or a letter of credit, putting in place an early warning system, or utilizing some of the other suggestions set forth above.

ELEVENTH RULE: GET THE RIGHT TO OFFSET AND RECOUPMENT.

Pursuant to Bankruptcy Code Section 502, the holder of the right to setoff is a secured creditor. In addition, the debtor or a trustee cannot obtain a turnover of the amount subject to setoff unless the creditor is given adequate protection. Accordingly, bankruptcy lawyers are aware of the value of expressly providing for setoff rights in every contract.

Recoupment also is a right that has great value. The right to recoup may not be subject to the automatic stay in bankruptcy. Therefore, this also should be provided in every contract.

TWELFTH RULE: IF THE DEBTOR IS THE LICENSOR OF INTELLECTUAL PROPERTY, MAKE SURE THAT THE CONTRACT STATES THAT IT IS COVERED BY SECTION 365(N) OF THE BANKRUPTCY CODE. Section 365(n) of the Bankruptcy Code provides unique rights to licensees of intellectual property from a licensor that is a debtor in a bankruptcy case. As such, bankruptcy lawyers can assist in structuring and drafting an intellectual property transaction so as to maximize the ability to use these special protections.

THIRTEENTH RULE: PROTECTING THE PURCHASER OF ASSETS FROM SUCCESSOR LIABILITY AND FRAUDULENT CONVEYANCE LIABILITY. The purchaser of assets from a financially troubled company can be the target of lawsuits asserting successor liability or seeking to avoid the purchase as a fraudulent transfer. Bankruptcy lawyers are attuned to these risks and can suggest alternatives such as using a bankruptcy case as a way to “wash the assets” through a sale or a plan, so as to reduce or eliminate these risks.

FOURTEENTH RULE: THE HUNT FOR HIDDEN ASSETS. Bankruptcy lawyers are used to searching for and finding hidden assets. Thus, when a debtor asserts that it has no free assets to provide collateral or is financially unable to provide the payments to which it had agreed, bankruptcy lawyers have the skills to test those contentions and provide the client with a true picture of the debtor's financial condition, making negotiations by the client more effective and its “wish list” more comprehensive.

FIFTEENTH RULE: BANKRUPTCY AS THE COURT OF LAST RESORT: A client may be considering a settlement agreement on disadvantageous terms because it is faced with litigation that is time consuming or expensive; a corrupt or hostile judge that is prejudiced against the client or unwilling to take into account facts and law in the client's favor; or may be unable to post a supersedeas bond in order to perfect an appeal. In those situations and others of similar import, bankruptcy might be a viable alternative. Although the debtor might face a motion to dismiss based on bad faith filing, Manville and others have used bankruptcy successfully for this purpose. A debtor need not be insolvent to file for bankruptcy protection. Therefore, before such settlement agreement is entered into, this alternative should be weighed. Even after it is signed, it could be avoidable as a preference or fraudulent conveyance if a bankruptcy is filed within the requisite time periods.

The foregoing is only a brief summary of the ways in which bankruptcy lawyers effectively can assist their clients “from cradle to grave” by utilizing their unique expertise and experience. I invite others to contribute their views and suggestions on this topic.

This article is the last installment of a series published in November and December addressing the practice of having bankruptcy counsel get involved in lease deals from the outset.

TENTH RULE: IF YOUR CLIENT IS A VENDOR OR SERVICE PROVIDER, IT IS EXTENDING CREDIT. TREAT THE TRANSACTION THAT WAY. Financial institutions extend credit and protect themselves in ways that should be instituted for clients that also extend credit, such as vendors or service providers.

Bankruptcy lawyers see how lenders protect themselves from the potential risks of bankruptcy and default. At the initiation of a transaction, lenders get a credit application from the debtor, including a financial statement. They find out about its assets and liabilities, its principal and affiliates. They get periodic financial reports. Others who extend credit, such as vendors and service providers, should think about adopting similar devices. In this regard, I drafted a system of credit applications for an industry that had never used them before, to provide an early warning that those to whom they extended credit might later default.

Bankruptcy lawyers also see economic and financial trends, which portend future trouble. They can do a quick overall analysis of the industry in which the debtor operates, based on prior experience ' is it relying on the continued success of “buggy whips” which will be outdated by new products; could it be hurt by overbuilding and increased competition even though it is doing fine at the moment; is it dependent on the “new economy” like the Internet, which may be faced with a downturn? All of these factors could change a long-term deal over time from a winner into a disaster.

By doing such an analysis, they can advise clients to consider getting a credit enhancement of a guaranty, collateral or a letter of credit, putting in place an early warning system, or utilizing some of the other suggestions set forth above.

ELEVENTH RULE: GET THE RIGHT TO OFFSET AND RECOUPMENT.

Pursuant to Bankruptcy Code Section 502, the holder of the right to setoff is a secured creditor. In addition, the debtor or a trustee cannot obtain a turnover of the amount subject to setoff unless the creditor is given adequate protection. Accordingly, bankruptcy lawyers are aware of the value of expressly providing for setoff rights in every contract.

Recoupment also is a right that has great value. The right to recoup may not be subject to the automatic stay in bankruptcy. Therefore, this also should be provided in every contract.

TWELFTH RULE: IF THE DEBTOR IS THE LICENSOR OF INTELLECTUAL PROPERTY, MAKE SURE THAT THE CONTRACT STATES THAT IT IS COVERED BY SECTION 365(N) OF THE BANKRUPTCY CODE. Section 365(n) of the Bankruptcy Code provides unique rights to licensees of intellectual property from a licensor that is a debtor in a bankruptcy case. As such, bankruptcy lawyers can assist in structuring and drafting an intellectual property transaction so as to maximize the ability to use these special protections.

THIRTEENTH RULE: PROTECTING THE PURCHASER OF ASSETS FROM SUCCESSOR LIABILITY AND FRAUDULENT CONVEYANCE LIABILITY. The purchaser of assets from a financially troubled company can be the target of lawsuits asserting successor liability or seeking to avoid the purchase as a fraudulent transfer. Bankruptcy lawyers are attuned to these risks and can suggest alternatives such as using a bankruptcy case as a way to “wash the assets” through a sale or a plan, so as to reduce or eliminate these risks.

FOURTEENTH RULE: THE HUNT FOR HIDDEN ASSETS. Bankruptcy lawyers are used to searching for and finding hidden assets. Thus, when a debtor asserts that it has no free assets to provide collateral or is financially unable to provide the payments to which it had agreed, bankruptcy lawyers have the skills to test those contentions and provide the client with a true picture of the debtor's financial condition, making negotiations by the client more effective and its “wish list” more comprehensive.

FIFTEENTH RULE: BANKRUPTCY AS THE COURT OF LAST RESORT: A client may be considering a settlement agreement on disadvantageous terms because it is faced with litigation that is time consuming or expensive; a corrupt or hostile judge that is prejudiced against the client or unwilling to take into account facts and law in the client's favor; or may be unable to post a supersedeas bond in order to perfect an appeal. In those situations and others of similar import, bankruptcy might be a viable alternative. Although the debtor might face a motion to dismiss based on bad faith filing, Manville and others have used bankruptcy successfully for this purpose. A debtor need not be insolvent to file for bankruptcy protection. Therefore, before such settlement agreement is entered into, this alternative should be weighed. Even after it is signed, it could be avoidable as a preference or fraudulent conveyance if a bankruptcy is filed within the requisite time periods.

The foregoing is only a brief summary of the ways in which bankruptcy lawyers effectively can assist their clients “from cradle to grave” by utilizing their unique expertise and experience. I invite others to contribute their views and suggestions on this topic.