Receiverships: A Practical (and Perhaps Less Expensive) Alternative to Bankruptcy
As healthcare companies react to the pressures of the tightened credit market, some will inevitably default on their obligations. Lenders to healthcare companies have become familiar with the routine: slow pay, no pay, and then notice that a bankruptcy has been filed. Once in bankruptcy, very few companies emerge intact. On average, only 7% of all bankruptcy reorganizations result in the company becoming a thriving concern. The remaining companies liquidate with creditors recovering less than 100 cents on the dollar. Two prevalent reasons companies fail to emerge are the time and expenses of a reorganization.
A less common but historically tried-and-true alternative to bankruptcy is a receivership. Receiverships are primarily creatures of state law. Prior to the federal bankruptcy laws, when a company became insolvent, individual states had statutory provisions for liquidation under court supervision. This was accomplished by appointing a receiver over the business. Although more recent bankruptcy laws have changed the landscape of remedies for insolvency, receivership remains an effective remedy for lenders.
A receiver is an "officer of the court" who gathers, markets, and sells all assets of a company. In a typical receivership, after marketing is done for a reasonable period, a purchase agreement is negotiated. Then the receivership court approves the sale and the sale is consummated. Once the sale is consummated, the receiver distributes the cash generated by the sale in accordance with the state law priority scheme (secured creditors first, then unsecured creditors, and lastly, equity holders) and the case is then closed. Frequently, where healthcare assets, such as surgery centers, hospitals, or skilled nursing and assisted living facilities, are the subject of such a sale, the facility remains intact and continues to serve the community.
Appointment of receivers
Today, receiverships are typically sought by a creditor with liens against a company's assets. The secured creditor will sue the company for repayment of the debt owed and seek, as one of its remedies, the appointment of a receiver. Receivers are usually appointed early in a case. An appointed receiver will operate the business as profitably as possible but will also normally market the company or its assets for sale. Particularly for healthcare companies, receiverships may provide a less expensive resolution for defaults while keeping healthcare facilities intact and servicing their communities.
Receiverships have a number of advantages over a bankruptcy filing. First, an independent third party operates the business, not the old management that may have an emotional attachment to the business or, even worse, an embattled mentality. Less-than-satisfactory management is often cited as a primary reason for poor operations and ultimately bankruptcy filings. For example, in nonprofit healthcare entities, management may not have its incentives aligned with the successful operation of the business, or the board of directors in place may only meet very infrequently. Neither scenario is conducive for struggling healthcare entities facing bankruptcy. Instead of allowing poor or absentee management to continue to run the business as is the case in bankruptcy, appointing a receiver allows the best interests of the company to prevail.
Second, the cost of a receivership is often lower than a full-blown Chapter 11. Once a receiver is appointed, the displaced management members usually do not have a role. No creditors' committee (and its attendant counsel and advisors, all paid by the company) is appointed. While a receiver must be compensated, unlike a trustee in bankruptcy, a receiver is usually not paid a commission. And unlike bankruptcy, no plan, disclosure statement, solicitation, or confirmation hearing is necessary for a receivership. As a result, court costs and attorneys fees are significantly lower. Third, because there are fewer roles in a receivership compared to a bankruptcy (no debtors' counsel, no creditors' committee), the process often moves more quickly. The receiver manages most aspects of the reorganization, including the sale of assets and distribution of funds. The faster process usually also translates to lower costs. An additional benefit to the secured creditor is the greater control it has over the sale and distribution process under a receivership as compared to bankruptcy proceedings.
The chief drawback to a receivership is that the secured creditor normally foots the bill in the event there is a shortfall in revenues that are used to support operations and the costs (usually the receiver and his or her counsel). Before embarking on a receivership, secured creditors should make certain that revenues and cash flow will be sufficient to allow for a reasonable marketing period. This will ensure that the secured creditor will not be forced to support the company during the receivership, or worse, contributing sales proceeds, otherwise payable to it, to the cost of operating and administering the business in the receivership.
Another drawback is that there can be more "home cooking" in a receivership than a bankruptcy. Filing an action in the hometown of the business in receivership can result in the court being more sympathetic to the local entity rather than the out-of-town creditor. State courts may not be as familiar with commercial disputes as with other types of disputes. One way to alleviate the "home cooking" problem is to file the matter in the local federal district court as opposed to the state court where the facility is located. One last drawback to receiverships is that companies with appointed receivers can still file bankruptcy.
When a creditor is considering its remedies against a healthcare company that owes it money, particularly secured creditors, keep the receivership option in mind. It is likely to be a cheaper, faster, and simpler solution.
Joseph A. Sowell and John C. Tishler are partners with Waller Lansden Dortch & Davis in Nashville, TN. They may be reached at email@example.com and firstname.lastname@example.org, respectively.
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