March 2012

ABF Journal, NYIC Approach the Bench…

For this year’s Bankruptcy Issue, ABF Journal and the New York Institute of Credit are pleased to present Judge Kevin J. Carey’s perspective on the shifting dynamics and new realities occurring in Chapter 11 process for middle-market companies.

U.S. Bankruptcy Judge Notes Shifting Dynamics in Times of Change: A conversation with Judge Kevin J. Carey, U.S. Bankruptcy Court, District of Delaware

Kevin J. Carey has served as a U.S. Bankruptcy Court Judge in the District of Delaware having first been appointed as U.S. Bankruptcy Judge in the District of Eastern Pennsylvania in January of 2001. Judge Carey began his legal career in 1979 as law clerk to Judge Thomas M. Twardowski. He received his J.D. in 1979 from the Villanova University School of Law in 1979 and his B.A. from Pennsylvania State University in 1976.

ABFJ/NYIC: Judge Carey, we note that in July of last year, the Chapter 11 Bankruptcy Venue Reform Act was introduced to prevent so-called “forum shopping” in some Chapter 11 cases. Could you give our readers your thoughts on the considered U.S. Bankruptcy Code changes relating to venue?

KJC:  Sitting judges should exercise care when asked to comment directly on pending legislation, so I’ll leave Congress to its wisdom. But I will say a few things about the current law and the current situation. First, when people talk about forum shopping, I don’t think that everyone is on the same page necessarily as to what it is and what it isn’t. I think it’s a term that’s used more loosely than it should be and it’s not necessarily helpful in the public discussion in determining what a good thing is versus a bad thing as it relates to where companies should be allowed to file.

The second thing I’ll note is that the current venue provision is a reflection of a long-standing congressional policy, which permits filings where companies are incorporated. The last thing is there are good bankruptcy judges everywhere and no matter where a case is filed, I think the parties have the right to expect that their cases will be handled promptly and fairly. As far as I’m concerned, every bankruptcy judge in the country is able to do that.

ABFJ/NYIC:  Our sense is that many are looking anxiously to the November presidential election, perhaps more so this year than in recent times. Given this reality, will the fact that we’re in an election year impact filings in 2012?

KJC:  It’s true that election years both before the election and as a result of the election can affect many things, but I think the primary driver of bankruptcy filings is going to be simply the state of the economy and whether it continues to improve and how quickly it continues to improve. Consider factors such as whether the unemployment rate changes very much and the state of the so-called “extend and pretend” deals. As long as lenders continue to make those deals, this has the effect of postponing the filings that might otherwise occur. I really don’t have a grasp of how long that will go on, but from what I’m hearing it’s still occurring.

ABFJ/NYIC:  What would you say are the realities today for those middle-market companies filing from the standpoint of obtaining financing in order to reorganize? Are you finding debtor-in-possession financing easier to obtain than say a year ago?

KJC:  Middle-market companies have problems outside of bankruptcy attracting help from the capital markets because they aren’t large enough. But I’ve heard from those in the business that they expect more middle-market and smaller companies to be filing in the coming year. We’ll have to wait and see if that’s true. With respect to debtor- in- possession financing, I have found for several years it’s hard to find new friends when you go into bankruptcy. So the trend of trying to make a deal with your pre-petition lender or with some from the pre-petition lender group to provide such financing is likely to continue. I do hear from time to time that there is competition for DIP loans, but mostly it involves making an arrangement with those who already know you and those deals are motivated either by the lender’s desire to salvage what it can from its collateral or by the expectation the lenders are going to end up owning the company.

ABFJ/NYIC:  Do you see debtor-in-possession financings being included as part of Section 363 sales?

KJC:  DIP financing is often paired with 363 sales, as a means to keep the debtor running until the sale process can be completed or by a lender whose ultimate goal is to credit bid its way to ownership of the debtor. I see that trend continuing.

ABFJ/NYIC:  Has the trend toward pre-negotiated bankruptcies with the ultimate goal to minimize time spent in Chapter 11 continued to increase over the past year or would you say the trend has stayed about the same?

KJC:   I’ve actually seen a decrease in pre-packaged bankruptcies in the last year, although I haven’t counted the numbers. I used to see them more frequently. The ones I’ve seen in the last couple of years weren’t really pre-packs. There was still some major constituency left outside that once the bankruptcy was filed either delayed or prevented the pre-petition deal from being approved by the court in a quick confirmation. So I see fewer of them now with no indication that I’m going to see more.
At the same time, I do hear that there are lots of restructurings going on outside of bankruptcy. Cost may be a factor on that as well, but it may be that others feel that controlling the process – provided that people are actually talking to each other — may be easier outside of bankruptcy.

ABFJ/NYIC:  Following loosely in that vein and from what you’re observing, which industries are more susceptible to financial stress and therefore entering into Chapter 11 these days?

KJC:   We’re seeing a wide variety of industries these days. We’ve probably seen more energy companies than any other … from new technology companies to good old-fashioned coal-fired energy plants. We still are seeing media companies and retail; we’re seeing gaming, but not as much as before. As I said, there’s a lot going on outside of bankruptcy.

ABFJ/NYIC:  To what extent are you seeing cases brought about by fraudulent activity these days?

KJC:   I see very little in the way of fraud cases being brought before me. I read a lot about it in the papers, but I haven’t had those cases.

ABFJ/NYIC:  Can we surmise then that the eyes that keep watch on such things are keener these days?

KJC:   Yes, I do think the eyes are keener both from the creditors’ standpoint as well as from law enforcement authorities and the regulatory authorities. I think that as the result of the 2008 financial crisis, a lot of these entities and organizations are starting to think about things they hadn’t thought about previously. And I think also in some of these situations that the amount of money lost is so enormous that in and of itself brings a lot of attention.

ABFJ/NYIC:   But you didn’t say that people are necessarily more honest today.

KJC:    (laughs) I just assume that everybody is as honest as the day is long.

ABFJ/NYIC:  From where you sit, are you seeing more Chapter 11 cases converting to Chapter 7 or more cases in which companies emerge successfully from the bankruptcy process?

KJC:  Well it depends how you define success. Success used to be defined as what was referred to as the organic Chapter 11. That is, the debtor came in and wanted to restructure its balance sheet or correct operational deficiencies, sat in Chapter 11 for a while and then reorganized and came out again with the same ownership. You rarely see that same profile anymore.

We do see more conversions to Chapter 7 either as a result of the failure of the Chapter 11 or by design. And a lot of the cases as we’ve discussed are Section 363 sale cases. Once the sale is over and if the parties feel as if they are unable to propose a confirmable plan, they typically will look to converting the case or to structured dismissals, which sometimes create their own controversies. But, many of those conversions or structured dismissals would be viewed by some as achieving success.

ABFJ/NYIC:  Could you give our readers your sense and/or experience with municipalities filing bankruptcy? These instances by nature appear to be extremely complex in every way imaginable. Do you expect to see more local governments having to file in the coming year?

KJC:  First, I have no experience with municipal bankruptcies though I read about them in the papers I see that some are being filed, but they are more cumbersome than a typical Chapter 11. I think that’s one barrier. Many of the states don’t want municipalities to file and that’s another barrier. So it’s pretty hard to tell whether or not the ones we’ve seen filed represent a trend or whether they are outliers. I am not convinced that municipal bankruptcies are going to be widespread.

ABFJ/NYIC:  On another broad topic, will the international market and its issues impact the U.S. and cause U.S. companies to file?

KJC:  There was a view expressed that as the daily problems with Greece have been reported — which at this point are supposedly on the verge of being solved for the moment — the stock market reacted daily either up or down depending on what the daily news happened to be. I don’t know if I have a specific answer to the question other than given today’s global economy, what happens elsewhere affects us here. And what happens here affects others elsewhere in a more dramatic way. But at some level the American economy does react to what happens overseas.

Given the strength of our economy, even given its slow recovery at this point, it all seems absorbable. But that doesn’t mean something couldn’t happen of a magnitude that could obviously make a big difference here.

ABFJ/NYIC:  Jumping back to more familiar ground, do you see more creditors’ committees being served with actual creditors being on the committee or are you seeing claims trading or different professionals are actually serving as committee members?

KJC:  Distressed debt and claims trading has in recent years had a very large effect on the makeup of committees and the conduct of the Chapter 11 proceedings and I see that increasing … it continues to a large effect. I rarely see anymore a member sitting on the committee who actually was involved with extending credit to the debtor at one point other than perhaps indenture trustees who I guess you can say represented original debt holders. But committees today do not represent those who originally incurred the debt; it’s been bought at a discount usually toward making a profit at some point or getting control of the company.

ABFJ/NYIC:  That seems to be a departure from the past. Be that as it may, times change.

KJC:  Indeed they do. The effect of distressed debt trading on Chapter 11 today has changed many of the dynamics considerably and it ends up extending the time it takes a company to get through the process and increases the cost.