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Unformatted text preview: tary petition against a
firm can be filed if one of three conditions is met:
1. The firm has past-due debts of $5,000 or more.
2. Three or more creditors can prove that they have aggregate unpaid claims of
$5,000 against the firm. If the firm has fewer than 12 creditors, any creditor
that is owed more than $5,000 can file the petition.
3. The firm is insolvent, which means that (a) it is not paying its debts as they
come due, (b) within the preceding 120 days a custodian (a third party) was
appointed or took possession of the debtor’s property, or (c) the fair market
value of the firm’s assets is less than the stated value of its liabilities. Procedures
Hint Some firms, particularly those in the airline
industry, have used the
bankruptcy laws to prevent
technical insolvency. The courts
have allowed them to nullify
labor contracts on the basis
that to force the firm to
continue to conform to the
contract would cause the firm
eventually to become insolvent.
debtor in possession (DIP)
The term for a firm that files a
reorganization petition under
Chapter 11 and then develops, if
feasible, a reorganization plan. A reorganization petition under Chapter 11 must be filed in a federal bankruptcy
court. Upon the filing of this petition, the filing firm becomes the debtor in possession (DIP) of the assets. If creditors object to the filing firm being the debtor in
possession, they can ask the judge to appoint a trustee. After reviewing the firm’s
situation, the debtor in possession submits a plan of reorganization and a disclosure statement summarizing the plan to the court. A hearing is held to determine
whether the plan is fair, equitable, and feasible and whether the disclosure statement contains adequate information. The court’s approval or disapproval is
based on its evaluation of the plan in light of these standards. A plan is considered fair and equitable if it maintains the priorities of the contractual claims of
the creditors, preferred stockholders, and common stockholders. The court must
also find the reorganization plan feasible, which means that it must be workable.
The reorganized corporation must have sufficient working capital, sufficient
funds to cover fixed charges, sufficient credit prospects, and sufficient ability to
retire or refund debts as proposed by the plan.
Once approved, the plan and the disclosure statement are given to the firm’s
creditors and shareholders for their acceptance. Under the Bankruptcy Reform
Act, creditors and owners are separated into groups with similar types of claims. 11. Firms sometimes file a voluntary petition to obtain temporary legal protection from creditors or from prolonged
litigation. Once they have straightened out their financial or legal affairs—prior to further reorganization or liquidation actions—they will have the petition dismissed. Although such actions are not the intent of the bankruptcy law,
difficulty in enforcing the law has allowed this abuse to occur. CHAPTER 17 FOCUS ON PRACTICE Mergers, LBOs, Divestitures, and Business Failure Picture This The year 2001 was anything but...
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