Buying distressed assets in 美国

A distressed asset is an asset that is being sold, usually at less than its fair market value, because its owner is forced to sell it as it needs immediate liquidity. Distressed assets can be assets of personal property, equity ownership in a business (that is considered a form of personal property) and real property.

Examples of personal property are equipment, intellectual property, accounts receivable or the equity ownership of a business or an entire business as well. In the United States, personal property is mainly regulated by the Uniform Commercial Code (UCC) which has been adopted by nearly each of the 50 States, New York included, and the Commonwealth of Puerto Rico.

Real property, on the other hand, includes, for instance, land and all fixtures and improvements made on such land. The law applicable to real property assets is the one of the State where the real property is located.

Even though each individual State Law regulates the relationship between debtors and creditors, insolvency and bankruptcy are primarily governed, in the US, by federal law, specifically by the Bankruptcy Code (Title 11 of the U.S. Code)

In New York, the general definition of insolvency can be found in the New York Consolidated Laws, Debtor and Creditor Law Chapter - § 271: “A person is insolvent when the present fair salable value of his assets is less than the amount that will be required to pay his probable liability on his existing debts as they become absolute and matured”. The 2020 new version of the New York Uniform Voidable Transactions Act (“NY UVTA”), Debtor & Creditor Law Section, further specifies that there is a presumption of insolvency when a debtor is generally not paying its debts as they become due other than as a result of a bona fide dispute (in this case the burden of proving that the debtor is not insolvent falls with the creditor).

The main risk for a buyer in purchasing distressed assets is the so-called “risk of Fraudulent Conveyance”. This doctrine allows for increased scrutiny of transactions that occurred within two years before the bankruptcy filing (for federal law) and up to 6 years of the bankruptcy filing under certain state laws – although under the NY UVTA Section 278 the look-back period has been reduced to four years).

Federal law establishes two types of fraudulent transfer theories that can be used by a trustee (or a creditor) to render void a transaction: “actual fraud” (the transfer occurred with the actual intent to defraud the company’s creditors) or “constructive fraud” (the company did not receive fair consideration or reasonably equivalent value for the asset previously transferred, the company was insolvent at the time of transfer or was rendered insolvent as a result of the transfer). NY UVTA has now aligned with the Bankruptcy Code considering, along the intentional/actual fraud, a constructive/presumptive fraud.

An interested buyer should conduct proper due diligence by identifying all the assets included in the purchase (including goods, contracts with vendors, IP, existing of liens or mortgages on the property), ensuring the fair value of the asset, and analysing the company compliance with any applicable law. A creditor should conduct search on the existence of (i) mortgages or deed of trust on real property assets, or (ii) financing statement in accordance with Article 9 of the UCC which governs the relationship between a debtor and its secured creditors when the asset is movable or personal property. It is worth mentioning that if a State did not adopt the UCC or all of its articles, state law would apply and govern the situation at hand.

Usually, in the US, creditors may utilize any remedy available, under federal or state law, to recover their debt. Also, they often cooperate with a distressed entity to restructure its debt, without starting court proceedings as the US is considered “reorganization-friendly”.

Even though the US system aims to avoid bankruptcy proceedings, by affording debtors the possibility of reorganizing and repaying their debts, it is also creditor-friendly, as the insolvency proceedings are transparent and public.

Except for the consensual negotiated restructurings mentioned before, there are two main tools for insolvent US businesses set forth in the Bankruptcy Code:

• Chapter 11 reorganization, which governs the reorganization of corporate entities. In this case, the debtor usually keeps the possession of its assets and can continue to operate its business, while developing a plan to repay its debts. It gives the opportunity to a company to reorganize its debt. In order to file for Chapter 11, the company will have to prepare a petition with a list of all the assets, debts, income, expenses, and summary of finances, in conjunction with the so-called Plan of Reorganization, defining how and when the debtor intends to repay its debts. The debtor has, thus, to convince the court and the creditors that it is making good faith efforts to pay its debts. If the court approves the Reorganization Plan, such plan will be considered a contract between the debtor and its creditors. If the debtor cannot pay off its debts, according to the Reorganization Plan, there could be a dismissal of the case or an involuntary conversion to a liquidation.
  Another option under Chapter 11 reorganization is for the debtor to present a liquidation plan, which however follows rules partially different from the Chapter 7 negotiations described below.
• Chapter 7 proceedings involves a trustee-controlled liquidation, which does not allow for the filing of a repayment plan but provide the bankruptcy trustee to gather and sell the debtor’s assets and to use the proceeds to pay creditors, in accordance with the Bankruptcy Code. The entity filing for Chapter 7 shall present to the court a list of assets and (their) liability, information on current income and expenditures, a financial statement and tax returns, and a list of all contracts and leases still in place. Even though the trustee has the authority to continue the business operations for a short period of time, the aim of the Chapter 7 process is to liquidate the company.
• It is important to mention that filing a Chapter 11 or a Chapter 7 proceedings triggers an automatic stay, i.e. statutory injunction that enjoin most creditors from pursuing actions or exercising remedies to recover their credit, meaning that creditors are not allowed to take certain actions, such as collecting debts, enforcing liens, against the debtor or the distressed assets, and cannot enforce the contractual provisions that would allow for the termination of certain contracts with the debtor in case of insolvency or bankruptcy of such debtor. Violations of this stay makes the relevant action taken void and actual damages can be imposed on a creditor who wilfully violates such stay.
  

In an asset purchase agreement, made out of court, the buyer is generally not responsible for the liabilities of the seller. However, there are exceptions to this general rule so that the buyer might be subject to certain liabilities:

1. when the buyer expressly or implicitly assumes all the seller’s liabilities;
2. when the purchase is a de facto merger, meaning that the transaction, even though not a merger in the form, is structured as a consolidation or merger of seller and purchasers
3. when the buyer is a mere continuation of the seller’s entity;
4. when the seller has entered the transaction with the sole intention of defraud the creditors who, however, may assert claims against the buyer.

On the other hand, purchases made during a Chapter 11 insolvency proceeding offer a greater protection to buyers of distressed assets. Indeed, the debtor can proceed with the so-called “363 sale” (the name derives from the relevant section of the Code regulating the sale, which is, indeed, section 363 of the Bankruptcy Code). Such sale allows the debtor to raise funds to pay its creditors and settle its debts. The sale, which must be allowed by the court, starts with the debtor marketing its assets and preparing the bid. The bid will be subject to court’s approval, after which an auction sale will occur. A 363 sale is beneficial for the purchasing party because, on one hand, they will buy the distressed assets at a bargain price and with court approval, and, on the other hand, the purchased (and approved) assets will be generally free and clean of all encumbrances. However, there are certain limits to this rule.

For instance, even though a sale occurring through Section 363(f) is “free and clear of any interest” in the sold property (provided certain conditions are met), courts do not always interpret such sentence as extinguishing all claims, but only as extinguishing all liens, especially when dealing with unidentified claimants for due process violation. Therefore, buyers should conduct proper due diligence, including the existence of claims or potential claims to avoid potential liability.

No, a public tender is not mandatory.

However:

1. in pre-insolvency procedures, foreclosures of collaterals made under the UCC or applicable state law might be public, as long as they are commercially reasonable and proper notice has been provided to the general public;
2. as seen above at point 6, during the insolvency procedure of a Chapter 11 proceeding, the debtor can proceed with a “363 sale” in which a public tender is required.

Distressed assets offer buyers the opportunity to buy at favourable rates, taking however certain risks when doing so. Therefore, an interested party should always conduct proper due diligence on the distressed assets it intends to acquire to avoid being considered responsible for future claims or having the same transaction being voided.