Businesses often end up in bankruptcy because payments on their unexpired leases have become too burdensome. In a chapter 11 bankruptcy, it’s possible to make these payments affordable.
Chapter 11 bankruptcy gives you the option to reject unexpired leases if it’s in the best business interest of the debtor company. This is an easy test to pass. Let’s look at a lease for example. Many distressed businesses that come to me are stuck paying rent on space that’s too expensive. Since the economic downtown, cheaper space is available at a third to half the cost. This is frustrating for a business that’s struggling. Often times, a move to cheaper space makes all the difference from operating in the red to being profitable. Moving or rewriting a lease is clearly in the best business interest of the company. Chapter 11 allows you to reject such leases.
Does this mean the company will owe no damages for rejecting a lease? No, it does not. A debtor company that rejects its leases still owes damages for unpaid past rent, future rent, and any other contractual damages. So what’s the advantage of rejecting a lease in bankruptcy? The advantage is that those damages become an unsecured claim in the bankruptcy. In other words, the claim becomes just another debt owed by the debtor company. A chapter 11 provides a process for reorganizing that claim just like any other debt.
A successful chapter 11 ends with a confirmed plan that provides for affordable payments on debt so that the reorganized company can operate in the black. The claim for breach of lease can be restructured into the plan. Damages owed can be reduced through lower principal, lower interest, and/or a longer payment period.
Although landlords may be frustrated with a debtor tenant who hasn’t paid rent in a while, a smart landlord is willing to agree to affordable payments through a confirmed chapter 11 plan. Because if the plan is not confirmed, the debtor might be forced to close its door and liquidate, resulting in little or no money to the landlord. If you were a landlord, which would you prefer?
It is also possible to cramdown a chapter 11 plan on a creditor such as a landlord. That means forcing a plan onto the landlord. However, the law requires that a cramdown be reasonable, among other things.
With a rejected lease, the debtor company can move to cheaper space or renegotiate their current lease to a market rate as part of the plan.
This is how rejecting unexpired leases in a chapter 11 can help your business.
The above is for informational purposes only and does not constitute legal advice. Please seek advice from counsel.
