He is a fellow of the American College of Bankruptcy. Judge Carey is the vice president-membership of the American Bankruptcy Institute and is a past Global Chairman of the Turnaround Management Association. He is a member of the National Conference of Bankruptcy Judges and a contributing author to Collier on Bankruptcy and Collier Forms Manual. Judge Carey is also a part-time adjunct professor at Temple University’s Beasley School of Law and in the LL.M. in Bankruptcy program at St. John’s University School of Law. He began his legal career in 1979 as law clerk to Bankruptcy Judge Thomas M. Twardowski, then served as Clerk of Court of the Bankruptcy Court for the Eastern District of Pennsylvania. Judge Carey received his J.D. in 1979 from the Villanova University School of Law and his B.A. in 1976 from The Pennsylvania State University.

Judge Carey will be retiring August 31, 2019. 

Senator Grassley has introduced legislation which would change how SMEs are treated in bankruptcy. Do you have an opinion on what the threshold size of an SME should be?

I go to the ABI Chapter 11 Commission report with which you might be familiar. A few years ago, ABI undertook a study of Chapter 11 and created a commission to study the reform of Chapter 11 and issued a report in 2014 or so.  And there was a lot of effort given to examining small businesses. At the time, most Chapter 11s were companies that had assets or liabilities in the $86 to $95 million and lower range. So most of the Chapter 11 cases that are filed in the country are not like the ones I see in Delaware or the ones you’d see in New York or some other places.

The Commission had recommended that an SME be defined as a company that had assets or liabilities of $10 million or less and recommended that an option be given to companies with assets or liabilities as much as $50 million be permitted to opt in to the SME provisions. 

Now the current bill has a much lower number, $2.5 million, tied more to the current very low threshold in the current Bankruptcy Code for small business. But I think the hope is that either by an amendment to this bill or a separate bill that the number will look more like the ABI Chapter 11 Commission has recommended.

As it stands now, given the numerous professionals required in Chapter 11 cases, and that the cost of such professionals is usually paid out of the debtor’s estate, is there some lower limit on the size of companies seeking to reorganize below which Chapter 11 just isn’t a realistic option? 

The only way I can answer that question is by saying there are some companies that are so large or have problems that are of the nature that they can’t be solved except in a Chapter 11 proceeding.  So that with those companies that will always be needed, no matter what the cost is. 

But for the small and medium-sized enterprises, the word has been out for a number of years now that it’s just too expensive for many of them, which makes the SME effort in Congress so important to try to streamline and make it much more economically feasible for companies to go through Chapter 11 because the Chapter 11 has so many benefits for a company, if it can afford it. 

It has become harder and harder, because of the capital structures these days, for a company to get to a confirmed Chapter 11 plan.  Because the companies come in now so over-leveraged that there just isn’t enough time or money to do much else often than just get through a 363-sale process.  And the elegant exit from a Chapter 11 has always been a confirmed plan. The Bankruptcy Code also provides for conversion to Chapter 11 or dismissal of the case.  

But reorganization still is the preferred end result of a Chapter 11.  Now I think one of the things that happened is that because so many of the cases, at least the ones I see, are 363-sale cases, the industry has kind of redefined success. And a good 363 sale of a going- concern business for a going-concern price, which preserves the enterprise, preserves jobs, is viewed a success, even without ending up with a confirmed Chapter 11 plan.  

Do you have any thoughts on what changes could be implemented in order to make it more likely that companies reorganize rather than go to 363 sales?

Well, again, the ABI Chapter 11 Commission imagined a sale which they call a 363X sale, and, in part at least, is meant to eliminate structured dismissals. Now the Supreme Court, in its decision, has pretty much already done that and that came after the issuance of the Commission’s report.  But I think the notion is to try to build in some more protections to the 363 sales for creditors who may stand to get nothing and make sure the process is open and fair in such a way that as many of the stakeholders can get some value from the estate as possible. 

 The real problem isn’t so much the Bankruptcy Code; the real problem, as I said, is the way capital structures are today. They weren’t like that when the Code was first passed. Typically, you had a secured lender, which was almost always a financial institution. Maybe, even if there was a junior lienholder, there was still equity left from which the company could make distribution to unsecured creditors.  But again, companies are so highly leveraged now that there is just no equity left for the unsecureds unless they can make an agreement in which the secured creditors carve out a little bit of their collateral so that something’s available for distribution to the unsecured creditors. 

One of the things the Commission recommended was in order to approve a 363 sale, the Court had to find that all administrative expenses were paid including 503(B)(9) expenses, which were those creditors who delivered goods to the debtor within 20 days before the filing. Those are some of the things that might be done, but really it’s just the way financing structures occur now that has made it very difficult for companies to get confirmed plans and to make distributions to unsecured creditors.  

You mentioned equity being a big difference that you’re seeing. What other big differences have you’ve seen in bankruptcy over your career? 

Equity almost always gets nothing. The Supreme Court hasn’t decided whether, in fact, there’s a new value corollary to the absolute-priority rule so that old equity can buy in to whatever, whoever and whatever the reorganized debtor is. 

As you mentioned, the cost of the 11s has grown enormously. The complexity has also grown enormously.  In terms of industries, we see them all. Sometimes we see more than others. A few years ago it was the oil and gas cases. We just recently had two asbestos-related cases.

We see more pre-packs today, I guess that would be another change, than we did, say, 10 years ago or longer ago than that.  

 It seems like the retail ones are the ones that always make the headlines. 

Yeah, retail right now is just in a freefall, I don’t know what the outcome will be except that it’s just going to continue, I think, until just the last of the big retail chains are either gone or broken up. I mean we just got Things Remembered, it’s not my case, but we’ve had Radio Shack, Brookstone, tons of retail.

Do you think the bankruptcy system is a balance between debtor and creditor rights or is it too creditor-oriented?

The Code is written to bring a balance that didn’t exist under the former Bankruptcy Act.  But, as I’ve said, because of the way capital structures are, it may seem to be more creditor-friendly these days, although the debtors still have lots of weapons. The Code provides the automatic stay, which is really both a creditor and a debtor protection. You can still sell assets free and clear of liens, a very valuable tool for the debtor to have. You can assume or reject contract, which is another valuable tool for the debtor to have, and you can get a cram-down plan confirmed. 

There’s still lots of advantages for the debtors but, again, given the overleverage, it’s very difficult for the debtor to have enough time or money to, say, correct operational issues, or to react to trends in the industry. There just isn’t enough time.   

What factors do you consider when presented with a request to roll prepetition debt into a DIP facility and do you focus on the status of the case, on collateral, valuation or other points? 

I saw that question and I wondered to myself whether the person who posed it was involved in the case I have, ATD, a very large tire distributor.  I approved a very large rollup, $600 or $700 million, on the first day, which I had never done before. But why did I do it there? I’ll give you some factors.  It was a pre-pack; unsecured creditors are getting 100 percent under the plan.  All the major stakeholders had signed on. It was a situation in which the unsecured bond-holders were going to end up owning 95 percent of the company and they consented.  There was consideration given to how exit financing would work.  There was new money given.  So those were the things I looked at. 

The financing is typically approved on an interim basis and then sometime within the next 30 days on a final basis, and a final order is entered consensually. No one objected.  So it was one of those situations where all the stakeholders agreed that was what was best for the company and it played out well.

But, rollups are things that bankruptcy judges look at with a pretty close eye. I don’t mind usually what’s called a “creeping rollup”, which is when the debt is rolled up a little bit as receivables come in and new money is disbursed, so that often by the final hearing not very much of the prepetition debt has been rolled up. If there’s a rollup, I tend to lean more in favor of those than an entire rollup on the first day.  But we do permit them, although we look closely at them, and make sure that it’s not harming anybody, but rather helping the company and giving the company a better chance to reorganize. 

You obviously recognize the importance of trade associations, as demonstrated by your involvement with TMA and ABI, so I’m wondering how you view the role of these organizations, in general, and do you have any insight into how they can remain relevant and necessary? 

Well, the first part’s easy, the second part everyone’s trying to figure out.  Yes, I am a big fan.  I think professional associations, especially in our industry, are great opportunities for networking, for education and they’re a great structure for cultivating the next generation of leadership. Not to be too Pollyannaish about it, but associations undertake activities that can make the world a better place.  And I think that’s a good thing. 

A lot of associations are facing a drop in membership. Conferences cost more; competition for conference attendance has increased.  I’m trying not to blame the millennials, which everyone likes to do, but the younger professionals network and do things a little bit differently than old timers like me. And so it’s a matter of trying to capture that group and give them the services that they need for their own professional development.  When I was at TMA, we went through a strategic planning process. ABI is doing the same thing now, so hopefully we’ll come up with the right answer for how to stay relevant now and in the future. It’s a challenge.   TSL