A&P Liquidation Will Pay Administrative Creditors Just $.20 on the Dollar: Is There a Better Way?

April 1, 2021Herrick Restructuring Review

The Herrick Restructuring Review provides insights and information related to restructuring and finance litigation. The Herrick team regularly represents official and ad hoc creditor committees, hedge funds, distressed debt investors, bondholders, and other parties in interest, and often serve as conflicts or special counsel for large-scale complex litigation matters.

The Great Atlantic and Pacific Tea Company, better known as A&P, recently moved for approval of a structured dismissal of its most recent chapter 11 case. Debtors seek structured dismissal of their chapter 11 cases when they cannot confirm a chapter 11 plan. In this case, the A&P estate is massively administratively insolvent, meaning that it can’t pay expenses that became due after the bankruptcy filing.

In theory, the bankruptcy judge, the United States trustee and the creditors committee monitor the case to prevent administrative insolvency; if a case becomes administratively insolvent, the case should be converted to chapter 7. But there is often an enormous reservoir of inertia among the case professionals to resist conversion, particularly in big cases, even where administrative insolvency is clear. The costs of that inertia are asymmetrical. Typically, the professionals receive all or most of their fees, while administrative creditors are involuntarily exposed to loss.

Under A&P’s proposal, most administrative creditors are slated to receive $.20 on the dollar at most. Needless to say, unsecured creditors will receive nothing. Given that doleful result, it’s time to ask whether a retail debtor should get an automatic second chance at chapter 11: maybe a retail debtor should be required to show cause why its second bankruptcy should not be dismissed or converted to chapter 7 before launching its second case.

A&P’s motion is a dishonorable end to what was once the nation’s largest retailer and its first coast-to-coast store chain. Founded in 1859, at its peak in the 1940s, A&P operated nearly 16,000 locations. A&P emerged from its first chapter 11 in 2012, down to just 300 stores. Soon it will join many once prominent store brands in the retail graveyard.

A&P’s first filing was in December 2010. Its plan of reorganization was confirmed promptly and it emerged from chapter 11 in March 2012. When A&P emerged from chapter 11, it claimed to have fixed its business and was confident it could compete. “In just over one year, we have completed a thorough restructuring of A&P’s cost structure and balance sheet to build a strong foundation for the company’s future,” said A&P president and CEO Sam Martin. A&P also brought in a new management team.

But the fix was insufficient. In the first six months of 2012, A&P lost approximately $28 million per month. To plug the hole A&P sold $200 million in assets. And although A&P closed stores and cut labor costs in its first bankruptcy, when it filed for chapter 11 again in July 2015, it acknowledged that it remained burdened by high labor costs and restrictive union work rules. A&P’s lack of working capital left it unable to upgrade stores, leaving them outdated while financially stronger grocery chains were opening new or updated stores and competing aggressively on price. By the second half of 2014, A&P faced declining sales and liquidity, its losses deepening. A&P’s owners tried unsuccessfully to find a buyer in 2014. News of A&P’s woes permeated the supplier community. Vendors tightened trade terms, further pressuring A&P’s working capital. Ultimately, A&P filed a second chapter 11 case to liquidate its remaining assets. When it filed its second case, A&P lined up $100 million in debtor-in-possession financing to help pay administrative expenses. But A&P’s losses in its second case were deeper than projected; the loan was not big enough to maintain administrative solvency.

A&P is not unique: many retailers emerge from chapter 11, only to be forced to file again when their restructured businesses can’t survive. In the bankruptcy bar, the second bankruptcy filing by a debtor is called “chapter 22.” Examples include grocery chains Fairway Market and Grand Union, and other retailers such as Radio Shack, Payless Shoes, Gymboree, Wet Seal and American Apparel.

Even among that list, A&P’s second trip through chapter 11 must be considered a failure. A&P’s strategy was to sell assets and propose a liquidating chapter 11 plan of reorganization. While it was able to sell its assets, it did not foresee that administrative creditors would receive $.20 on the dollar and unsecured creditors would receive nothing. Given the long history of chapter 22 cases in the retail industry, should they automatically be given a second chance? Perhaps a retail debtor who files a second chapter 11 case within five years of its first bankruptcy case should be required to show cause why it should be allowed to operate in chapter 11, and if it cannot make its case, it should be converted to chapter 7. In chapter 7, if an individual files a new petition within a year of a prior dismissed case, section 363(c)(3) provides that the automatic stay terminates within 30 days unless the debtor can show cause for its extension. Section 363(c)(3) further provides that the second filing is presumed to be in bad faith, a separate ground for dismissal. If such a proposal were adopted, it would force bankruptcy courts to take a hard look at whether chapter 22 cases are feasible. While debtors would resist such a legislative amendment, the argument to the contrary is obvious and clear: bankruptcy courts should not devote scarce resources to cases with a high likelihood of failure, which present a heightened risk to creditors.

For more information on this alert or other restructuring & finance litigation matters please contact:

Stephen B. Selbst at +1 212 592 1405 or [email protected]

© 2021 Herrick, Feinstein LLP. This alert is provided by Herrick, Feinstein LLP to keep its clients and other interested parties informed of current legal developments that may affect or otherwise be of interest to them. The information is not intended as legal advice or legal opinion and should not be construed as such.