When Westerly-based Bess Eaton filed Chapter 11 bankruptcy in March, it hadn’t
been able to honor promissory notes to vendors, its main coffee supplier stopped
giving the company advances and other angry vendors were threatening to sue.
Lucky for the vendors and creditors involved, Tim Hortons agreed to purchase the company’s assets for $35.2 million, which was enough to cover 100 percent of Bess Eaton’s debt to more than 40 secured and unsecured creditors plus interest up to the date of payment, said Bess Eaton’s counsel, Allan Shine of Providence’s Winograd, Shine and Zacks P.C.
But that situation is very rare and, in many cases, vendors and creditors get little or nothing when a client files bankruptcy.
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“Companies consider it a cost of doing business the same way theft is,” said American Bankers Association spokesperson Laura Fischer. “When someone buys a $5,000 television but doesn’t pay back the debt, the company passes it along a bit here and there. They have to absorb it somehow.”
Consumers walk away from $3 billion to $4 billion of debt each year, the ABA reports. The result: It costs the economy $40 billion and losses are passed back on to the consumer through higher costs of goods, decreased access to credit and higher interest rates on credit.
Vendors and creditors can investigate a company’s financial practices once it files bankruptcy to try and uncover bad practices – like grossly overpaid executives and careless spending – to try and recover as much of its losses as possible, Shine said.
“It’s very rare that a vendor or creditor gets paid in full. It really depends on the value of the company and how many hands are in the pot,” said Shine, whose practice focuses on bankruptcy cases and creditors’ rights. “Taxes and secured debts have to be paid first, so vendors may get nothing.”
A bankrupt company might use Chapter 11 bankruptcy to “reorganize” its business and try to become profitable again. Management continues to run the day-to-day business operations but all significant business decisions have to be approved by a bankruptcy court.
In many cases, the business ends up being sold, Shine said.
“These days, 90 percent of Chapter 11’s are sales,” Shine said. “Chapter 11’s are filed as business tools to sell an operating business with the blessing of a court order, and get bids that are enough to pay off vendors and creditors.”
Some vendors continue supplying a company in hopes it will recover, others take no chances and back out when they received notice of the filing, Shine said.
“It is a business issue. If a vendor feels a reorganization is shaky, it may not want to get burned again and can back out,” Shine said. “It is common for a vendor to continue shipping to a company after it has filed, but they may switch to cash on delivery until the company proves it can pay on credit. They want the business continuity.”
In the Bess Eaton sale, Tim Hortons indicated in court it intended to do business with some Bess Eaton vendors, Shine said, but the company reports it was not required to take on any contracts as a result of acquisition and most of its products are private labeled and distributed through its own network.
The investors who take the least risk – secured creditors who extend financing backed by collateral, such as a mortgage – are paid first.
Bondholders have a greater potential for recovering their losses than stockholders, because bonds represent the debt of the company and the company has agreed to pay bondholders interest and to return their principal.
Stockholders own the company, and take greater risk, so they are last in line
to be repaid if the company fails, the Securities and Exchange Commission reports.
