A federal district court in Delaware, applying New York law, has affirmed a bankruptcy court's dismissal of an adversary proceeding brought by a bankrupt home mortgage company against its directors and officers liability insurers, holding that coverage for a pre-petition lawsuit against the mortgage company was barred by application of an “inadequate consideration” exclusion.Delta Fin. Corp. v. Westchester Surplus Lines Ins. Co., 2009 WL 2392882 (D. Del. Aug. 4, 2009).

Liquidations of struggling enterprises can take several forms. While many people are familiar with the concept of a "bankruptcy liquidation," the structure of a liquidation in bankruptcy may vary depending upon the specific type of case. Additionally, bankruptcy is not the only forum for liquidation of distressed companies, only the most common. This article provides a synopsis of some of the various types of liquidations.

Chapter 11 Liquidations

As a result of the meltdown of the financial markets, lenders are severely constricting new credit facilities and refusing to renew expiring facilities. The Bankruptcy Code's chapter 11 provides a powerful mechanism for an otherwise viable business to restructure and extend its outstanding debt and in many cases, reduce interest rates on loan facilities.

A federal bankruptcy court, applying New York law, has dismissed an adversary proceeding brought by a bankrupt home mortgage company against its directors and officers liability insurers, holding that coverage for a pre-petition lawsuit against the mortgage company was barred by application of an “inadequate consideration” exclusion. Delta Fin. Corp. v. Westchester Surplus Lines Ins. Co., Case No. 07-11880 (CSS) (Jointly Administered) (Bankr. D. Del. Dec. 15, 2008). The court also held that the coverage dispute was a non-core proceeding.

With the latest wave of bankruptcies sweeping the aviation and airline industries, you will find bankers and lawyers sweating over the priority and perfection of their aircraft liens. These bankruptcies seem to have a different character when contrasted with the bankruptcies of 2002 through 2004. Many of the 2008 bankruptcies are operational shut-downs and liquidations rather than restructurings. That means that the status of creditors (as secured or unsecured) is going to become acutely relevant and will determine how much the bankruptcy affects the creditor's financial outcome.

Recent news reports have focused on the problems of the financial markets on the one hand and consumer mortgage problems on the other. While Congress may yet grant authority to bankruptcy judges to modify home loans, modification of business loan facilities of all sizes remains available as a powerful and fundamental tool to be used in a business financial restructuring.

The Bankruptcy Code facilitates asset sales in chapter 11 by offering incentives to buyers and flexibility in structuring and timing the sale. A buyer can acquire assets free and clear of liens and is permitted to "cherry-pick" the debtor's contracts and leases to select only those it wants to keep. The assets and sale process can be structured in many ways, including auctions, private sales, lot or bulk sales, and going concern transactions.

The Key Parties

One week after Aegis Mortgage Corp. filed for chapter 11 in Delaware, a group of former employees filed their complaint seeking class certification over allegations that Aegis Mortgage Corporation, Aegis Wholesale Corporation and Cerberus Capital Management, L.P.—all allegedly acting as their employer—violated the Worker Adjustment and Retraining Notification (WARN) Act when they failed to give over 400 employees 60 days' notice prior to a mass termination by Aegis Mortgage on August 7, 2007.

In a case illustrating the effective use of a bankruptcy examiner, the examiner appointed by the court in the North General Hospital bankruptcy case has concluded that the hospital made over $3 million in unauthorized post-bankruptcy filing payments to the detriment of unsecured creditors. Prior to its bankruptcy filing, North General Hospital and certain related corporate debtors operated a hospital in the Harlem section of Manhattan.

Pursuant to § 1104 of the United States Bankruptcy Code, the court may appoint a bankruptcy examiner to investigate the debtor with respect to allegations of fraud, dishonesty, incompetence, misconduct or mismanagement. A qualified examiner, with a clearly defined mission, can drastically affect the outcome of the bankruptcy case and directly impact the return to creditors. The difference between a successful financial restructure or liquidation and an investigation yielding little value to the creditors often depends on the approach taken by the examiner and his professionals.