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Capital Markets

Pre-Negotiations Shorten Chapter 11 Durations

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August 10, 2018

Fitch says pre-packaged plans make filing easier (but bankruptcy filings are rising)

Money and GavelCompanies are spending significantly less time in Chapter 11 bankruptcy, a boon for the ongoing viability of their businesses as well as creditors, but the positive trend is not for every firm. The trend has emerged just as companies’ Chapter 11 filings have jumped.

A special report published August 7 by Fitch Ratings, “Shrinking Length of US Bankruptcies: Analysis Reveals Faster Credit Recoveries on Recent Cases,” finds that the median duration from bankruptcy-petition date to confirmation date of the reorganization or liquidation plan has shrunk significantly. In 2017 it declined to four months, compared to five months in 2016, and seven months among cases between 2003 and early 2018.

That’s a big plus for corporates and their prospects for emerging from bankruptcy as a viable concern. The report notes that “shorter bankruptcies minimize employee and trade counterparty uncertainty and the potential to disrupt normal operations, which supports ongoing business prospects and enterprise valuation.”

The rating agency attributes the declining Chapter 11 durations mainly to the increasing popularity of prepackaged and pre-negotiated plans, noting that 52% of the companies it reviewed that had plans confirmed in 2017 were prepackaged. Such plans are negotiated between the distressed company and its creditors before the filing.

Companies’ shorter Chapter 11 stays coincide with a jump in Chapter 11 filings. The American Bankruptcy Institute reported that July’s 411 Chapter 11 filings compared to 333 in July 2017, a 23% increase, and 308 filings in June of this year, a 33% increase.

Shorter durations in bankruptcy, however, are not for every corporate. Fitch says that many of the shortest-duration cases had narrow goals of either deleveraging the balance sheet to reduce debt to a more manageable level, or selling all assets.

“These companies less frequently had to fix complex operational problems or restructure or reject union, pension, retiree healthcare or executor contracts or numerous leases,” the report says. It adds that in prepackaged cases, “the company and its prepetition loan and bond creditors consensually agree that trade creditors and employees are paid in full, in cash, in the ordinary course of business, rendering them unaffected by the filing and therefore unlikely to try to object or delay approval of the plan.”

The report notes that a large number of filings in recent years by US shale oil and gas production were done mainly to convert debt to equity, and the energy sector’s cases were among the shortest: A five-month median duration. It also notes that investors have underwritten recent financings, in case prepetition claimholders with rights to invest in the new debt or equity decide not to.

“A successful offering promotes a smoother and more rapid path to acceptance of a proposed plan,” the report says.

The US’s insolvency process ranks among the shortest, according to a World Bank survey of 25 countries, at approximately one year, tying Australia and the United Kingdom. Only three other countries had shorter insolvency processes, with Japan winning that contest at 0.6 years, followed by Canada and Norway.

Levering Up
In a separate Fitch report issued at the start of August, the rating agency reports $238 billion in institutional leveraged loan issuance in second quarter 2018, up from $230 billion in the first quarter.

“There was a steady flow of merger and acquisition financing and interest in holding senior secured floating rate instruments,” the report says, adding, “a healthy investor appetite for high priority floating-rate debt in a rising interest-rate environment at this point in the credit cycle has prompted issuers to shift to loans from bonds.”

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