Insight

Getting Reorganized

Taking a second look at first day relief: an examination of recent bankruptcy trends through the lens of two important debtor motions and their impact on Chapter 11 bankruptcy proceedings.

Desk lamp with yellow background
SA

Sameer M. Alifarag and Seth H. Lieberman

September 8, 2022 09:04 AM

A Chapter 11 Bankruptcy often begins with a debtor filing an array of “first day” motions—requests for relief that a debtor deems necessary upon the case’s commencement. First day motions ease the transition into bankruptcy and enable a debtor’s operations to continue uninterrupted.

Obtaining first day relief is important to establish credibility with the bankruptcy court; maintain the support of the debtor’s suppliers, customers and employees; and maximize the value of the bankruptcy estate at the outset of the case. Notwithstanding its importance, such relief can feel routine, leading some to suggest that bankruptcy courts simply rubber-stamp first day motions. Lately, however, courts have increasingly scrutinized first day relief, adjudging that relief with an eye toward fairness and due process while ensuring that bargains between a debtor and its creditors maximize the estate’s value.

This is not to suggest that courts have ignored these considerations in the past—yet as commercial parties’ sophistication continues to evolve, analyzing whether to grant such relief warrants a closer look at the specifics of first day requests. Below, we’ll examine trends concerning two particular first day motions—utility motions and critical vendor motions—and the impact they’ve had on Chapter 11 proceedings over the past year.

Utilities Motions

Utility services are necessary for debtors to continue operating during bankruptcy (a period also known as “post-petition”). With few exceptions, a debtor’s utility providers are generally not required to continue service upon commencement of the case; indeed, utilities will themselves often be creditors resulting from debt owed for unpaid services provided pre-bankruptcy. In these circumstances, a utility would have little incentive to continue its service unless it can be assured that the debtor will comply with its payment obligations post-petition.

A utilities motion is a debtor’s request to compel its providers to continue service post-petition, contingent on the debtor offering “adequate assurance” of payment. Obtaining approval of a utilities motion is a safeguard against the risk that utilities essential to a successful Chapter 11 reorganization do not alter or discontinue service. Utilities are authorized to do exactly that if the debtor fails to furnish adequate assurance of payment within 30 days after the bankruptcy is filed. So, what constitutes adequate assurance: a two-week utility cost deposit? a two-month deposit? The question is, paradoxically, both fact-intensive and subjective, as disputes often arise concerning the form or amount of such assurance, despite the Bankruptcy Code containing few adequate assurance examples. Although utility motions are rarely litigated and usually granted upon resolution of adequate assurance objections, the parties don’t always get to a resolution quickly.

Bankruptcy courts have expressed concern over utilities’ control over first day relief. As a result, recent trends include procedures whereby the debtor and utility negotiate and resolve adequate assurance objections without further court intervention. This preserves rights belonging to both the debtor and utility and gives the parties breathing room to settle disputes without being bound to time requirements under the Bankruptcy Code.

To successfully reorganize under Chapter 11, a debtor’s business must continue to operate."

For example, recent trends also consist of, in part, a utility’s authority to request a disbursement from the debtor’s utility account if an amount related to post-petition services is unpaid, even during the adequate assurance negotiation period. This ensures continuing utility service during a crucial stage of the case; offers the utility assurance of payment; and prevents the utility from exerting disproportionate control over the debtor’s operations (i.e., by altering, refusing or discontinuing service).

Critical Vendor Motions

To successfully reorganize under Chapter 11, a debtor’s business must continue to operate. Contributing to ongoing operations are entities referred to as “critical vendors”—typically suppliers that a debtor deems vital to its daily business. Critical vendor motions are requests by a debtor to pay pre-bankruptcy obligations owed to suppliers as an incentive toward continued business with the debtor on favorable terms.

Such relief can result in critical vendors “jumping the line” by receiving material recoveries during the bankruptcy on account of their pre-bankruptcy claims. Because the evidentiary basis supporting this relief can be scant, bankruptcy courts have recently moved away from the knee-jerk granting of these requests in toto without imposing appropriate restrictions, particularly if sufficient evidence supporting the request is lacking.

For example, recent critical vendor orders might condition a debtor’s authority to make payments on the vendor continuing to do business on existing or better trade terms than those that existed pre-bankruptcy and agreeing that receipt of payment followed by the vendor’s failure to adhere to the agreed-upon terms will constitute an unauthorized post-petition transfer subject to disgorgement.

Notwithstanding recent court developments, debtors’ flexibility to pay critical vendors has become increasingly limited. This is largely due to a debtor once having had unchecked discretion to make payments on account of pre-bankruptcy debt outside the normal priority scheme, and the concern that creditors receiving such payments are not truly “critical” to the reorganization. If an unsecured creditors committee (which represents the interests of all unsecured creditors) has been established, debtors are often instructed to provide the committee with notice of proposed vendor payments and allow the committee to halt the payment absent further order of the court. This check restricts a debtor’s autonomy, but such a restriction might be welcome, as the committee’s involvement in critical vendor approval adds credibility to the requested relief.

Debtors have also addressed a bankruptcy court’s concerns about whether vendors are truly critical by assessing:

• the general availability of goods or services provided by a vendor or supplier;

• whether a debtor’s current inventory levels or service coverage is sufficient to meet customer demands while an alternative vendor or service provider could be located or qualified;

• whether failure to pay all or part of a vendor’s claim could cause the vendor to refuse to provide inventory or critical services post-petition; and

• whether a debtor would be unable to obtain comparable goods or services from alternative sources cost-effectively within a reasonable time.

Conclusion

Bankruptcy courts’ recent enhanced scrutiny and debtor trends in response are significant not only to utility and critical vendor motion practice, but to Chapter 11 proceedings in their entirety. First day motions set the stage for a bankruptcy case—and thus a debtor’s approach to seeking such relief and a court’s consideration of the same go hand in hand. If first day relief is not granted, the prospect of a successful reorganization diminishes. And while courts’ greater scrutiny might bring challenges to debtors at the outset, debtors’ employment of new and creative relief trends might ultimately lead to a more structured and streamlined bankruptcy process.

Seth H. Lieberman, a partner and chair of Pryor Cashman’s Bankruptcy, Reorganization + Creditors’ Rights Group and co-chair of the Corporate Trust Practice, is an experienced restructuring attorney and litigator who represents clients ranging from indenture trustees and agents to distressed debt funds, trade creditors and landlords. Seth helps lead one of the most well-known and highly regarded default-side corporate trust practices, and he has an active creditor-side bankruptcy practice.

Sameer M. Alifarag is an associate and a member of Pryor Cashman’s Bankruptcy, Reorganization + Creditors’ Rights Group and the Corporate Trust practice. Sameer represents a diverse array of clients, including trustees, creditors, investors and secured and unsecured lenders in complex Chapter 11 reorganizations, out-of-court restructurings, assignments for the benefits of creditors and other distressed situations. He has particular experience in representing default-side corporate trust clients and sophisticated creditors.

Headline Image: ISTOCK/ BGBLUE

Related Articles

Accommodation Reigns


by J. Lott Warren and Kara E. Shea

A recent 6th Circuit Court decision could have big implications for employers who don’t follow reasonable-accommodation standards within disability and medical-leave law to the letter.

Blue lungs behind white clock

COVID-19 and a Cloud of Dust


by John J. Song and Theodore M. Becker

Think ERISA health plan litigation was convoluted before? The pandemic—and future pathogens such as the monkeypox virus currently causing consternation among health authorities worldwide—will further upend the legal landscape as new regulations and statutes take effect.

Masked man with airborne germs

The Great Debate: Do You Arbitrate Commercial Disputes?


by David K. Taylor

In a civil case, is it wiser for a business to try to persuade the counterparty to agree from the outset to arbitration—or potentially to place its very solvency in the unpredictable hands of a judge and jury?

Hand moving multicolor blocks

Before the Claim Hits


by George L. Lankford

General liability insurance is rarely as simple as it might seem—and if you wait to examine your policy specifics until your business has been sued, it’s too late.

Ship sinking surrounded by money

The 2023 Best Lawyers in Portugal™


by Best Lawyers

Announcing the elite group of lawyers recognized in Portugal for 2023.

Green and red Portuguese flag

Easton & Easton Knocks It Out of the Park


by Justin Smulison

With exceptional results and new strategic partnerships, 2023 U.S. News - Best Lawyers® "Best Law Firms" Tier 1* ranked powerhouse firm Easton & Easton is launching homeruns and scoring goals for personal injury victims.

Four men wearing jerseys and holding sports gear

Enhancing Consumer Safety Through Winning Jury Trials and Substantial Settlements


by Justin Smulison

Firm founder and lead trial lawyer James P. Frantz discusses how landmark victories in litigation and trial protect consumers.

Lawyers sitting around a table in conference room

California’s Plan to Phase Out Gas-Powered Cars by 2035


by Gregory Sirico

Best Lawyers weighs in on California, the largest automotive market in the U.S., and their current plan to phase out gas-powered transportation altogether.

Car fuel gauge reading empty

"Lawyer of the Year"


Woman standing in front of dark background

Julie Dunne

Litigation - Labor and Employment

San Diego, CA

2023

2023's Best Lawyers in Colombia™


by Best Lawyers

Announcing Colombia's elite group of lawyers recognized for 2023.

Yellow, blue and red stripes

Fighting for Florida


by Justin Smulison

Three-time “Lawyer Of The Year”* Steve Yerrid reflects on how South Florida was the setting for some of his most memorable trials.

Headshot of man with dark suit and red tie outside in front of fountain

At What Cost?


by Mark LeHocky

Litigants need to be completely honest with themselves about the costs and benefits of what they’re about to embark upon. A litigator turned general counsel turned mediator borrows from behavioral science to explain why.

Clockface with Ben Franklin in the backdrop

One Crucial Clause for Every Agreement


by Joshua Stein

No matter what legal agreement you’re signing, it probably ought to include a critical chunk of exculpatory text to prevent unexpected liability. Many documents lack it.

Two hands point to text on document

(Cyber) Squatting Not Allowed!


by Lisa Holubar, Peter Danos* and Ted Mahan

“Cybersquatting” has been a problem essentially since the internet’s earliest days. The law has caught up, giving aggrieved rights holders better control over their intellectual property.

Protective shield blocks internet search bar

Funds and Fiduciaries


by Scott Burnett Smith

Early in 2022, the Supreme Court issued a unanimous ruling in a key case dealing with pension funds’ obligations to their participants. The decision established two guardrails that govern how fund managers do their job.

Three figures stand on increasingly taller blocks

IN PARTNERSHIP

Rewriting 𝙃𝙀𝙍𝙨𝙩𝙤𝙧𝙮 One Verdict at a Time


by Justin Smulison

Athea Trial Lawyers was formed only a year ago by several prestigious lawyers seeking justice for their clients, and together they are making history.

Six female lawyers sitting in office

Trending Articles

The Best Lawyers in Spain™ 2023


by Best Lawyers

Announcing Spain's recognized lawyers for 2023.

Flag of Spain

Announcing the 2023 The Best Lawyers in America Honorees


by Best Lawyers

Only the top 5.3% of all practicing lawyers in the U.S. were selected by their peers for inclusion in the 29th edition of The Best Lawyers in America®.

Gold strings and dots connecting to form US map

The Best Lawyers in Chile™ 2023


by Best Lawyers

The results include an elite field of top lawyers and firms in Chile.

White star in blue box beside white box with red box on bottom

Thirteen Years of Excellence


by Best Lawyers

For the 13th consecutive year, “Best Law Firms” has awarded the most elite and talented law firms across the country through a thorough and trusted data review process.

Red, white and blue pipes and writing on black background

The Best Lawyers in South Africa™ 2023


by Best Lawyers

Best Lawyers proudly announces lawyers recognized in South Africa for 2023.

South African flag

The 2023 Best Lawyers in Portugal™


by Best Lawyers

Announcing the elite group of lawyers recognized in Portugal for 2023.

Green and red Portuguese flag

Announcing The Best Lawyers in Peru™ 2023


by Best Lawyers

Honoring our awarded lawyers for 2023 in Peru.

Red and white stripes with green leaf symbol

Best Lawyers: Ones to Watch in America for 2023


by Best Lawyers

The third edition of Best Lawyers: Ones to Watch in America™ highlights the legal talent of lawyers who have been in practice less than 10 years.

Three arrows made of lines and dots on blue background

The Best Lawyers in Spain™ 2022


by Best Lawyers

The results include an elite field of top lawyers and firms.

The Best Lawyers in Spain™ 2022

Famous Songs Unprotected by Copyright Could Mean Royalties for Some


by Michael B. Fein

A guide to navigating copyright claims on famous songs.

Can I Sing "Happy Birthday" in Public?

IN PARTNERSHIP

Rewriting 𝙃𝙀𝙍𝙨𝙩𝙤𝙧𝙮 One Verdict at a Time


by Justin Smulison

Athea Trial Lawyers was formed only a year ago by several prestigious lawyers seeking justice for their clients, and together they are making history.

Six female lawyers sitting in office

Announcing the 2022 Best Lawyers® in the United States


by Best Lawyers

The results include an elite field of top lawyers listed in the 28th Edition of The Best Lawyers in America® and in the 2nd Edition of Best Lawyers: Ones to Watch in America for 2022.

2022 Best Lawyers Listings for United States

Strength in Numbers: When Partnering Up May Be Best in Whistleblower Litigation


by Justin Smulison

Whistleblower claims make headlines when they result in multimillion-dollar settlements. But the journey to the courtroom is characterized by complexity and requires time and resources. Bienert Katzman Littrell Williams partner and The Best Lawyers in America awardee Michael R. Williams discusses when and why partnerships between counsel will strengthen whistleblower litigation.

A Blue Person in the Middle of White People

What the Courts Say About Recording in the Classroom


by Christina Henagen Peer and Peter Zawadski

Students and parents are increasingly asking to use audio devices to record what's being said in the classroom. But is it legal? A recent ruling offer gives the answer to a question confusing parents and administrators alike.

Is It Legal for Students to Record Teachers?

Announcing the 2023 The Best Lawyers in Canada Honorees


by Best Lawyers

The Best Lawyers in Canada™ is entering its 17th edition for 2023. We highlight the elite lawyers awarded this year.

Red map of Canada with white lines and dots

Announcing the 2022 "Best Law Firms" Rankings


by Best Lawyers

The 2022 “Best Law Firms” publication includes all “Law Firm of the Year” recipients, national and metro Tier 1 ranked firms and editorial from thought leaders in the legal industry.

The 2022 Best Law Firms Awards