Featured Article – 2014 June
The Receivership: an Alternative to Bankruptcy
By Tom Beane
Since the passage of the Bankruptcy Reform Act of 1978, creditors have had the benefit of a clear road map in seeking the dissolution of insolvent businesses.
Rather than deal with laws that could vary from state to state, they could take advantage of the certainty that comes from having a uniform set of rules that would apply nationwide. Because the reach of a federal court extends beyond state lines, a bankruptcy judge in Delaware, for example, could make decisions involving a company’s assets in areas as remote as Arizona or Alaska. In addition, the filing of a bankruptcy petition, in most situations, serves as an automatic stay that halts proceedings anywhere in the world against the debtor entity and its assets. That prevents authorities in other jurisdictions from taking actions that could deprive the creditor of access to company assets to which it has a legitimate claim.
But the uniformity of the federal bankruptcy system comes at a price: litigants lose flexibility, and they often lose time, a critical factor when an efficient dissolution of assets is desired.
For these reasons, the parties in dissolution matters are now returning to the state courts, such as Delaware’s Court of Chancery, and are seeking the appointment of receivers to oversee the final months of an insolvent business or, in some cases, to perform enough short-term damage control to make the business appealing to new investors.
Working within a state court system to establish a receivership is especially appealing when virtually all of the insolvent company’s assets are located within a single state, says attorney Kevin J. Mangan of the Wilmington office of Womble Carlyle Sandridge & Rice.
“According to leading practitioners, the principal reasons to file for a receiver in the Court of Chancery are speed, low cost, and the flexibility of the remedy,” Delaware Vice Chancellor J. Travis Laster wrote in Delaware Lawyer magazine in 2010. Moreover, Vice Chancellor Laster suggests that receiverships have become a more common vehicle for creditors.
“It comes down to speed and flexibility, and that’s a great benefit to the lender,” Mangan says. “The lender has to weigh the cost,” and a receivership is often the less expensive option, he says. And, he adds, a receivership arrangement likely permits disposal of real property in less time than it takes to go through a foreclosure proceeding.
Interestingly, the flexibility that state courts offer in receiverships is now making it an attractive option in certain other situations. Attorney Samuel Guzik, writing on the Corporate Securities Lawyer blog, pointed to a pair of cases decided in March 2013 in which Chancery judges appointed receivers to handle the affairs of solvent companies because of evidence of extreme corporate misconduct.
Mangan, who represents receivers in cases in the Delaware Court of Chancery, as well as in Pennsylvania state courts, has seen first-hand how the process can save time and money for all the stakeholders, especially the lender. Further, a receivership can insulate the lender from certain liabilities and problems which it might otherwise face in a typical foreclosure action.
At the outset of a bankruptcy case, he explains, there are numerous notification and timing requirements that can take several months, and sometimes longer, to complete. With a receivership, on the other hand, as soon as the judge issues an order outlining the terms of the receivership, the receiver can get right to work, dissolving the remaining assets of the insolvent company and, if appropriate, taking over management of the business.
Another advantage of a receivership is that the receiver, as a court appointee, enjoys a form of quasi-judicial immunity from liabilities which a creditor may be subject to in normal circumstances. The court, via the receiver, is overseeing the operations and/or dissolution of the failing business.
At Beane Associates, we have had positive experiences serving as a court-appointed receiver, most notably in two cases that involved financially troubled golf courses.
After being appointed receiver for a public golf course, we were able to step in promptly, take inventory of all the assets, resolve uncontested claims and set up new operating procedures. Once the business operations were stabilized, we were able to identify a prospective operator and arrange a transfer of ownership without having to go through a foreclosure and auction process, which would have taken longer and would likely have resulted in a smaller return.
In the second receivership, we took over operations of a resort country club located in a remote, undersold and underbuilt community where the owner found it impossible to generate sufficient income to even come close to breaking even. The guidelines established by the court enabled us to locate a professional golf management company that worked with us to reduce costs and develop a new marketing approach that made the property more attractive to prospective buyers. At the completion of the assignment, the secured creditor had made full recovery of its debt.
In both instances, the court’s directions for managing the golf courses gave us the flexibility to make responsible business decisions without being burdened by cumbersome reporting and approval requirements.
The golf course matters were ideal receivership situations since the businesses operated from a single location and the primary asset was a large piece of real estate. In contrast, it may not be feasible to ask a state court to appoint a receiver to oversee the dissolution of, for example, a chain of retail stores or a media company with operations in several states.
When creditors recognize that their only hope of recovery from an insolvent business is through the judicial system, we recommend that they weigh their options carefully. A bankruptcy petition is not always the best choice.