Question

7C – 1 What are some of the central issues that arise in bankruptcy proceedings?

7C-2 For financial management purposes, which two bankruptcy chapters are the most important? Compare them.

7C-3 Briefly explain why each of the following statements is true or false.

Chapter 11 of the Bankruptcy Act provides safeguards against the withdrawal of assets by the owners of the bankrupt firm.

Chapter 7 of the Bankruptcy Act establishes the rules of reorganization for firms with projected cash flows that eventually will be sufficient to meet debt payments

Chapter 11 of the Bankruptcy Act allows insolvent debtors to discharge all of their obligations and to start over unhampered by a burden of prior debt.

Our bankruptcy laws were enacted in the 1800s, revised in the 1930s, and have remained unaltered since that time.

Federal bankruptcy law deals only with corporate bankruptcies. Municipal and personal bankruptcies are governed solely by state laws.

All bankruptcy petitions are filed by creditors seeking to protect their claims on firms in financial distress. Thus, all bankruptcy petitions are involuntary as viewed from the perspective of the firm’s management.

The primary test of feasibility in a reorganization is whether every claimant agrees with the reorganization plan.

The basic doctrine of fairness states that all debtholders must be treated equally.

The primary issue in bankruptcy is to determine the sharing of losses between owners and creditors, so the “public interest” is not a relevant concern.

To a large extent, the decision to dissolve a firm through liquidation or to keep it alive through reorganization depends on a determination of the value of the firm if it is rehabilitated versus the value of its assets if they are sold off individually.

Answer 1

7C- 1 What are some of the central issues that arise in bankruptcy proceedings?

Below are some of the central issues that arise in bankruptcy proceedings:

• First important point is whether the company's inability to meet its debt obligations is temporary due to poor cash flow or it is permanent due to decline in assets value below debt obligations?
• If it is for temporary, then a chance can be given to the company for its repayment of debt by extending debt repayment schedule but if it is permanent then who will bear the loss & how much?
• Who should control the firm when it restructured or liquidated? A management of company or Trustee?

7C-2 For financial management purposes, which two bankruptcy chapters are the most important? Compare them.

Answer: Chapter 7 & Chapter 11 are the most important chapters for bankruptcy.

Comparisons:

• When company file chapter 7 it has passed the stage of reorganization and need to sell off assets to pay creditors, also called as liquidation.
• When company file chapter 11 it allows the firm to reorganize the debt payment plan and giving opportunity to re-emerge as healthy organization.
• As per chapter 7 company has to appoint Trustee who assures that all secured creditors are paid first then remaining assets and cash will be paid to unsecured creditors.
• As per chapter 11 company has to appoint Trustee who will monitor assets & debtors with newly structured debt plan and allow the company to continue its operation. If company fails with new structured debt, then company has to file chapter 7.

7C-3 Briefly explain why each of the following statements is true or false.

Chapter 11 of the Bankruptcy Act provides safeguards against the withdrawal of assets by the owners of the bankrupt firm.

• False - Chapter 7 of the Bankruptcy Act provides safeguards against the withdrawal of assets by the owners of the bankrupt firm as the company go for liquidation.

Chapter 7 of the Bankruptcy Act establishes the rules of reorganization for firms with projected cash flows that eventually will be sufficient to meet debt payments

• False: Chapter 11 of the Bankruptcy Act establishes the rules of reorganization for firms with projected cash flows that eventually will be sufficient to meet debt payments.

Chapter 11 of the Bankruptcy Act allows insolvent debtors to discharge all of their obligations and to start over unhampered by a burden of prior debt.

• False: Chapter 7 of the Bankruptcy Act allows insolvent debtors to discharge all of their obligations and to start over unhampered by a burden of prior debt.

Our bankruptcy laws were enacted in the 1800s, revised in the 1930s, and have remained unaltered since that time.

• False - US bankruptcy laws were enacted in 1898 and revised in the 1978 which provides the basic laws for bankruptcy today.

Federal bankruptcy law deals only with corporate bankruptcies. Municipal and personal bankruptcies are governed solely by state laws.

• False - Chapter 9 of Federal bankruptcy law is for financially distressed municipalities & Chapter 13 covers the individual.

All bankruptcy petitions are filed by creditors seeking to protect their claims on firms in financial distress. Thus, all bankruptcy petitions are involuntary as viewed from the perspective of the firm’s management.

• False - Petitions are viewed on the basis of their legal & contractual priority.

The primary test of feasibility in a reorganization is whether every claimant agrees with the reorganization plan.

• True: The confirmation is taken from all creditors for reorganization plan of the company.

The basic doctrine of fairness states that all debtholders must be treated equally.

• False: The basic doctrine of fairness states that all debtholders must be treated in their legal and contractual priority.

The primary issue in bankruptcy is to determine the sharing of losses between owners and creditors, so the “public interest” is not a relevant concern.

• False: The public interest is considered at the time of bankruptcy and court may not allow liquidation of the company in the public interest until it is certain that the company could not save.

To a large extent, the decision to dissolve a firm through liquidation or to keep it alive through reorganization depends on a determination of the value of the firm if it is rehabilitated versus the value of its assets if they are sold off individually.

• True - As the higher value of the firm will lower the loss for creditors.