I recently recorded a 6-part video series on small businesses struggling through COVID-19 (videos attached). I have been helping individuals and small businesses in financial distress for over 30 years. The questions that clients are asking me are not new. Thanks to the CARES act and other stimulus programs, some of the answers are new. Certainly, dealing with a pandemic that has had such disastrous health and economic consequences is new, but the fundamentals of dealing with businesses going through hard times are not.
The first thing any business owner needs to figure out is what exactly their problems and situations are. Some businesses are simply going through a rough patch. The business was fine before the pandemic and is likely to be fine after the pandemic. However, in between is going to be quite painful. Other businesses are simply dead. They may have been struggling before the pandemic and have shut down by the Governor’s order. Now there is no reason to expect that they are going to be fine when business resumes. There are a lot of in-betweens. Some businesses may not have so much clarity on what their post-pandemic situation is going to be and need to buy time to figure it out. On top of that, some businesses are carrying a heavy debt burden through all of this.
The possible solution may depend upon the structure of the business. There are things sole proprietors can do, in particular reorganization through Chapter 13 bankruptcy, that corporate entities cannot do. There are things that corporations and LLCs can do, such as close their doors and walk away, that sole proprietors cannot. But even when there is an incorporated entity, it makes a difference whether or not the owner has personally guaranteed the debt. As such, everybody’s situation is going to be different, and their solutions are likely to be different.
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Starting with the easier cases, which is to say those that are not carrying a lot of debt and are likely to be fine if they can just make it through the current crisis, there are a number of options that did not exist only a couple of months ago. Although the Paycheck Protection Program only has a few weeks to go, there are other SBA loans and SBA programs available to help. There are all kinds of ways to furlough or reduce hours or even lay off employees, such that the worker is not getting harmed, and the relationship between the employer and the employee can be preserved. In fact, the furloughing of employees is explicitly provided for in the CARES Act. Massachusetts is a Work Share state. An employer can reduce an employee’s hours by up to 60%. The state would then pay the employee 50% of their lost wage as a result of these hours, and the federal government will pay them an additional $600/week. As such, you are able to keep your employees on the job, albeit at a reduced level. You are able to reduce your payroll by up to 60%. Many employees will be getting a raise. You may still keep them on your health insurance.
There are other parties that you interact with to whom you need to be sensitive, especially if you intend to stay in business in the long term. High on that list would be landlords and any vendors that you may have. Simply stiffing your landlord and stiffing your vendors is probably not a good long-term business practice. Although there is a current eviction moratorium in place, it is not rent forgiveness. If you are behind on your rent when the moratorium ends, your landlord may evict you. What is more, you are in a long-term relationship with your landlord. Acting like you are taking advantage of the situation and not communicating with your landlord is a bad idea. On the other hand, if you go to your landlord with your problems, it is possible an arrangement can be made. The same is true with your suppliers and other vendors. These are people who you are likely to need later, so antagonizing them now is not a good idea. If you are in an industry that has been shut down, then your suppliers have essentially been shut down as well. They are under no moratorium and are likely to react quickly if you have not reached out to them. What is more, you are likely to destroy any future relationship with your supplier. As a result, these things need to be handled delicately. Over the years I have negotiated a number of agreements with suppliers and landlords during tough economic times. It can be done, but it requires tact and understanding.
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The problems associated with a severe business slowdown become more complicated when the business is carrying debt. This is especially true if there are multiple creditors. For example, if the business deals with one bank who holds most if not all of the business’s notes, there may be an opportunity to negotiate an arrangement. When a business has multiple creditors, and especially when some of those creditors are credit cards, debt negotiation is usually not a viable option. When I was a young lawyer, I used to offer debt negotiation as a service. What I found was that, while some creditors may be reasonable and work with me, there are always some who are unreasonable and ruined it for everyone. I usually found that I wound up taking my clients into bankruptcy anyway. This created quite a dilemma for me. On the one hand, I did put in time and effort negotiating the debt and would like to be paid for that. On the other hand, since I wound up taking the client into bankruptcy anyway, I delivered nothing of value in the end. Realizing that that was a bad long-term business model, I simply stopped doing it. Every so often I will encounter a situation in which I think it makes sense to at least attempt to negotiate a debt, but those situations are few and far between. I have filed a number of bankruptcies for clients who went to debt settlement companies, paid thousands, or sometimes tens of thousands of dollars over a two or three year period, only to find that they were being sued; that their credit was a disaster, and after all of that, they still needed to file bankruptcy.
There are non-bankruptcy options, such as programs sponsored through the SBA that are part of the various stimulus bills that Congress has passed in the wake of the COVID 19 pandemic. However, there are also a number of bankruptcy options available which can be done without killing the business.
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Over the years, I have represented a number of sole proprietors in Chapter 13. Although Chapter 13 is not designed for business reorganizations, it can be used that way. Unsecured debt can be reduced or eliminated. Arrears on secured debt, such as equipment loans and mortgages, can be reorganized. Some taxes can be discharged, and all taxes can be reorganized. Some under secured business creditors can be crammed down to the value of their collateral. The new subchapter 5 of Chapter 11 offers all of the benefits of Chapter 13 and more to corporate entities, which cannot file Chapter 13 and to larger businesses that cannot file Chapter 13. Subchapter 5 is a Chapter 11, so it is more cumbersome and more expensive than Chapter 13, but it is a viable option in situations where Chapter 13 is not. In general, Chapter 11 is something to be avoided, as it can be very expensive. But, the new subchapter 5 was designed to simplify things, and thus keep the costs more manageable.
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Interestingly enough, Chapter 7, which is a liquidation, can nevertheless be used to retire debt and keep a business moving forward. It is available for both sole proprietors and the owners of corporations. As a matter of fact, I have done several Chapter 7s over the years where I liquidated the corporations, took the owner into Chapter 7 or 13 as well, and then turned right around and formed a new corporation doing the exact same thing. We have generally been able to purchase the equipment, vehicles, and materials that we wanted from the Chapter 7 trustee and apply them to the new business. None of my clients have reported difficulty retaining customers after the bankruptcy filing. As such, although it seems counter intuitive, Chapter. 7 may be a way for a heavily indebted business to stay in business when they are being crushed by a heavy debt load and a sudden, unexpected drop in revenue.
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Unfortunately, a lot of businesses that have been closed by COVID 19 will never reopen. I have spoken with a number of owners of restaurants, nail salons, and the like who were not doing all that great before COVID 19 hit; have been destroyed by the governor’s shut down order, and have every reason to believe that business will be even worse when the order is lifted than it was before. For these folks, there is a small universe of options. If the business is a corporation, and the owner has not personally guaranteed any of the debt, then it would be possible simply to close the doors and walk away from the problem, leaving the vultures to pick over the remains of the corporation. However, the owner has to be very sensitive to the fact that the property of the corporation belongs to the corporation and needs to be left in place by the owner. Removing property, especially money, from the corporation, could result in a piercing of the corporate veil and the debt of the corporation falling on the owner. I have represented businesses that have closed and walked away successfully, but it requires a lot of restraint on the part of the business owner, which often meant a lot of nagging by me.
Sometimes, there will be a situation in which the only real creditor is the landlord. Oftentimes, a deal can be made. It is a little bit easier right now, where there is an eviction moratorium in place. The landlord cannot even begin an eviction in the next couple of months, or possibly even longer. This does give a small business a little bit of leverage that they would not ordinarily have. However, there are other reasons why a landlord might be willing to forego the benefits of a lease, especially where Chapter 7 might be a viable option, or there might be business assets, such as restaurant equipment, that is being left behind for the landlord.
Chapter 7 was specifically designed for when businesses fail and owners of the businesses are left holding the bag. It is a method of wiping the slate clean and allowing the now heavily indebted businessperson to get a fresh start. Generally speaking, debtors will be able to keep their house, car, and retirement accounts while proceeding through bankruptcy. As a general rule, failed businesspeople are not high-income people, so we do not run into “high income debtor problems”. I have taken a number of restaurants and other small businesses through bankruptcy with the intent of simply driving a stake through the heart and allowing my client to move on with life. I can think of very few instances where my client actually had to give up any nonbusiness property, but that is a very client specific situation.
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As such, you can see that there are a number of options available for small businesses struggling with the COVID-19 pandemic. My office is available for everything from counseling to pursuing bankruptcy and other nonbankruptcy options such as the ones discussed in this blog. The best thing the small businessperson can do prior to reaching out to me though is try to figure out what exactly their situation is and what exactly their problems are. Is it simply a temporary drop in revenue? Is it the landlord? Is it the employees? Is it the debt? Does the business expect to survive in the long term? Are you not sure and are just looking to survive in the short term until you have a chance to figure it out? Is there a reasonable likelihood of being able to work with whoever is on the other side of this problem? Is the only option brute force? But as we get clarity on what the problem is, we can start to get clarity on how to solve it. I am fond of saying that before we can figure out how to get to where we are trying to go, we first have to figure out where we are. However, once we figure out where we are, there is usually a path forward.