When Should Businesses Consider Bankruptcy as an Alternative to Litigation (or Arbitration)?

Media outlets will occasionally pick up stories of companies filing for bankruptcy in order to avoid litigation. Usually, these companies are portrayed as bad actors that are taking advantage of the bankruptcy process to avoid liability for their misdeeds. But, when the U.S. Bankruptcy Code allows a company to file, there is nothing wrong with utilizing the protections that are available; and, in many cases, pursuing bankruptcy instead of defending against litigation or satisfying a judgment can be the best option not only for the company but also for its shareholders, its creditors and other interested parties.

So, when does it make sense to consider a business bankruptcy as an alternative to litigation (or arbitration)?

As with most legal questions, there is no single “right” answer. Instead, determining the most advantageous path forward when faced with the prospect of litigation requires a critical analysis and the insights of an experienced Miami bankruptcy litigation attorney. Depending on the facts and circumstances at hand, litigation, arbitration, settlement and bankruptcy could all be viable options.

Factors to Consider When Contemplating a Business Bankruptcy in Lieu of Litigation Defense

Before we get too far into our discussion, it is important to acknowledge that filing for bankruptcy does not provide immunity from judgment liability. While initiating the bankruptcy process triggers an automatic stay, this automatic stay does not prevent companies from filing lawsuits—in fact, there is a special term for lawsuits filed in this situation (they are referred to as adversary proceedings).

Even so, filing for bankruptcy in the face of litigation can afford several benefits in the right circumstances. For example, once a company files for bankruptcy, would-be plaintiffs might decide that dealing with the bankruptcy process isn’t worth it. In particular, if the company pursues liquidation, then the plaintiffs that would be at the back of the line as unsecured judgment creditors might simply decide to move on.  

But, even with a reorganization under Chapter 11, filing for bankruptcy when faced with litigation (or arbitration) can be a strategic and advantageous approach. Filing for bankruptcy provides immediate protection, and it provides the time and opportunity to work with the company’s existing creditors to reduce its debt load and improve its cash flow. For lawsuits related to existing debts, Chapter 11 filings can provide a final and binding resolution while also addressing other financial concerns and avoiding the inherent uncertainty of commercial litigation.

However, filing for bankruptcy is not a “get out of jail free” card, and going through the bankruptcy process entails its own legal considerations, costs and risks. As a result, an informed approach is critical, and companies that find themselves facing the prospect of significant judgment liability should seek guidance from an experienced Miami bankruptcy litigation attorney promptly.

When Does a Business Bankruptcy Make Sense?

For companies considering the possibility of filing for bankruptcy when faced with litigation (or arbitration), it is also important to take a step back: Does a business bankruptcy make sense from a broader perspective?

In all circumstances, deciding whether to pursue a business bankruptcy requires consideration of several important factors. If a company is facing the threat of substantial judgment liability, this just adds to the list. For example, some of the general factors that companies should typically consider when contemplating a business bankruptcy include:

• What will filing for business bankruptcy achieve? For businesses, filing for bankruptcy can broadly serve one of two main purposes. A business bankruptcy can either: (i) facilitate the liquidation of the company’s assets and winding up the business as a going concern; or (ii) allow for the reorganization of the company’s debts so that it can keep operating with manageable cash flow. Given these two potential outcomes, does filing for bankruptcy make sense under the circumstances at hand?
• What limitations apply, and do they outweigh the benefits of filing? While filing for bankruptcy can allow companies to realize several benefits, there are limitations and countervailing considerations as well. If these limitations and countervailing considerations outweigh the benefits, then filing for bankruptcy—even when faced with the prospect of commercial litigation—might not make sense.
• Are the costs of filing for bankruptcy worth the benefits to be achieved? While pursuing a business bankruptcy can be cheaper than defending against commercial litigation (and facing a substantial judgment), there are still costs involved. Given all of the relevant considerations, does it make sense to incur these costs and devote the time and resources necessary to successfully navigate the bankruptcy process?
• Are there other, more suitable alternatives available? While filing for bankruptcy may make sense as an alternative to litigation in some cases, there are alternatives to bankruptcy as well. For companies that are in financial distress (or facing the prospect of financial distress), it is important to put all of the options on the table.
• Which type of business bankruptcy should the company pursue? Finally, if filing for bankruptcy makes sense, which type of business bankruptcy should the company pursue? While liquidation will make sense in some cases, reorganization is often the better option. When it comes to reorganization bankruptcies, there are multiple options here as well—including the “small business” bankruptcy option under Subchapter 5.

Ultimately, when a company is facing the prospect of litigation, informed decision-making is key. Company leaders must work with an experienced Miami bankruptcy litigation attorney to evaluate their options and identify the best path forward. No two situations are alike, and determining what to do in any particular situation requires a clear and comprehensive understanding of the specific practical, financial and legal considerations involved.

Speak with a Miami Bankruptcy Litigation Attorney in Confidence

At Edelboim Lieberman, we represent companies in commercial litigation and business bankruptcy proceedings throughout Florida. If your company is facing a lawsuit and you would like to discuss your options with an experienced Miami bankruptcy litigation attorney, we invite you to get in touch. Please call 305-768-9909 or contact us online to schedule a confidential consultation.