While Chapter 7 bankruptcy is designed for the liquidation of a business, Chapter 11 offers a pathway to remain operational. Under the bankruptcy code, Chapter 11 allows a business to negotiate a reorganization plan with creditors while working to stabilize its financials.
The cornerstone of a Chapter 11 bankruptcy case is filling a reorganization plan to the federal bankruptcy court. Businesses must file for Chapter 11 in the district where they are located.
The bankruptcy court oversees and approves the entire bankruptcy process, including the reorganization plan. In some instances, businesses enter Chapter 11 with a prepackaged reorganization plan already negotiated with creditors and ready for court approval.
However, such prearrangements require significant cooperation from lenders and other stakeholders, which is often impractical or financially unfeasible.
Most Chapter 11 cases fall into one of two categories: prepackaged bankruptcies or “free fall” bankruptcies. The latter describes situations where businesses face a sudden financial crisis—such as an inability to meet payroll—and must file for bankruptcy without a prearranged plan.
Upon filing a bankruptcy petition, the court enforces an “automatic stay,” which halts all debt collection efforts, including lawsuits and foreclosures. While this stay does not eliminate the debts, it provides the business with critical time to negotiate a reorganization plan with its creditors.
Under Chapter 11, the debtor proposes a reorganization plan within the first 120 days after filing. This period can be extended by the court for up to 18 months.
Unlike Chapter 7 bankruptcy, where a court-appointed trustee liquidates the debtor’s assets, Chapter 11 typically allows the business to retain control of its assets and operations.
This means that even in a free-fall bankruptcy scenario, the business maintains substantial control over the process. If the business ultimately decides to liquidate rather than continue operations post-reorganization, Chapter 11 may still offer more strategic advantages than converting to Chapter 7.
BSA team has prepared a special material dedicated to this topic.
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