Obtaining Debtor-in-Possession (DIP) Financing During Chapter 11
Financially distressed businesses often lack enough cash to continue operating and can no longer borrow to meet their ongoing expenses. Creditors may cut them off from further advances, causing the business to default on its obligations. This has happened with great frequency during the COVID-19 pandemic, as many companies have seen drastic and devastating impacts to their business volume. Chapter 11 bankruptcy offers a lifeline, allowing distressed businesses to remain in operation — provided they can obtain adequate financing during the process.
A business owner that files for Chapter 11 protection can be named a debtor in possession (DIP), which means the owner keeps control of operations and assets without the appointment of a case trustee. DIP financing is available if a lender believes that the company has a realistic chance of emerging from Chapter 11 successfully. Such financing signals to vendors, customers and others that the business will be able to remain open and make payments while the bankruptcy process plays out.
To obtain DIP financing, the business can turn to one of its existing lenders or reach out to a new one. Why would a lender want to loan money to a distressed company? The answer is that DIP lenders receive special treatment under the bankruptcy code. DIP lenders automatically receive first priority, which means they are the first creditors to receive payments if the business ultimately fails. This makes DIP lending so attractive that some lenders will make DIP loans to companies that they would not loan to under normal circumstances.
Assuming the company finds a willing DIP lender, the next step is to get the lender approved by the bankruptcy court. The business’ current lenders usually have to agree to the choice of DIP lender as well.
The parties to DIP financing must negotiate a budget. This includes a forecast of the company’s revenues, expenses and cash flow for the foreseeable future. The DIP budget also requires court approval.
Once the DIP budget is agreed on and approved, the business and lender will negotiate the size and structure of the loan or other financing that will be extended. Most often, DIP financing comes in the form of a term loan. Revolving credit, which the business can draw on as needed, is occasionally used.
Whether your business is struggling due to COVID-19 or any other cause, The Law Offices of Michael Jay Berger is here to help. Our Beverly Hills lawyers have extensive Chapter 11 experience and can advise you on all aspects of DIP financing. To arrange a free initial consultation with one of our attorneys, please call 310-271-6223 or contact us online.