March 20, 2003

Bankruptcy Bill Passed by House

Late today, the House easily passed H.R. 975, the Omnibus Bankruptcy Reform Bill by a vote of 315-113. In the end there were 90 Democrats who joined with 225 Republicans to support the bill. As previously reported to you, this measure is virtually identical to the version of the bill passed by last year's conference report (i.e., without the "Schumer amendment") and will now be sent to the Senate for consideration.

Obviously, the prospects for passage of the bill in the Senate remain dubious unless some compromise on the Schumer language can be attained. As yet, no such compromise appears on the horizon.

With respect to action on the floor of the House today, there was one substantive and two minor amendments adopted.

The substantive amendment was offered by Congressmen Chris Cannon (R-UT) and William Delahunt (D-MA) dealing with greater protections for employees of bankrupt companies. The provision would increase the wage and benefit claim to $10,000, increase the lookback period on fraudulent transfers from one to two years, permit the rescinding of certain corporate retention bonuses, and require courts to reinstate certain health benefits to employees that were modified by the corporate debtor within 180 days of filing, among other provisions.

The two minor amendments would equalize the new treatment of derivatives contracts under the bill between credit unions and banks; and the second amendment would affect technical issues pertaining to involuntary cases as contained in Section 1234 of the bill.

Numerous Democratic amendments to the bill were defeated. Most notable among them was an amendment offered by Congressman Brad Sherman (D-CA) that would require corporations to file for bankruptcy in the court where the business is principally located.

However, House Judiciary Committee Chairman Jim Sensenbrenner (R-WI) opposed the amendment on the ground that current law permits a change of venue for the convenience of the parties.

Under the rules governing debate on the bill, there were several other amendments that were not permitted to be offered. These included a prohibition by credit card companies from marketing to those under age 21, an exemption from the means test to those on active military duty or who have exhausted unemployment compensation benefits, and one that would have imposed a uniform hard exemption cap on home equity of $125,000.

March 4, 2003

Testimony of Robin Schauseil, President
National Association of Credit Management

Congress of the United States House of Representatives
Committee on the Judiciary Subcommittee
on Commercial and Administrative Law

Hearing on the Need for Bankruptcy Reform Legislation and
H.R. 975, the "Bankruptcy Abuse Prevention &
Consumer Protection Act of 2003"

Good morning.

Please let me introduce myself to you: my name is Robin Schauseil and I am the President of the National Association of Credit Management (NACM). I am pleased to present the perspectives of the National Association of Credit Management (NACM) to you regarding H.R. 975, the Bankruptcy Abuse Prevention and Consumer Protection Act of 2003. I want to extend our thanks to you for affording NACM the opportunity to share its views with you.

Founded in 1896, NACM is a 24,000 member international trade association composed of corporate credit executives, who represent 23,000 different businesses. NACM represents American business credit professionals from all 50 states, and is proud to have member representatives from more than 30 countries around the world. NACM's mission is the constant improvement and enhancement of the business trade credit profession.

The NACM membership is comprised of American businesses of all kinds: manufacturers, wholesalers, service industries, and financial institutions. The profile of the NACM members ranges from the smallest businesses to a majority of the Fortune 500. NACM's members make the daily decisions regarding the extension of unsecured business and trade credit from one company to another. In fact, business credit executives provide billions of dollars each day through the extension of business and trade credit among companies around the world.

NACM is very pleased to support H.R. 975 because of the commercial bankruptcy laws it improves. My comments will only focus on the commercial issues raised in the proposed legislation.

Small Business Chapter 11 Reorganizations

Subtitle B of the legislation contains the provisions dealing with small business reorganizations. NACM supports the efforts to create substance and procedure to expedite the administration and conclusion of reorganization cases for small businesses. These provisions were originally offered to proposed bankruptcy legislation as part of the recommendations of the National Bankruptcy Review Commission (NBRC). The NBRC conducted several hearings and received considerable testimony regarding the problems that small businesses have in bankruptcy proceedings. The premise behind the need for small business reorganization proposal is simple: the faster a small business can enter and exit the bankruptcy process the better the outcome is for all affected parties. Languishing in bankruptcy court strips assets from the debtor that could be otherwise be dedicated to a plan for reorganization that creditors could approve. Lengthy delays also deny creditors any hope of recovery of payment for goods or services extended to the debtor should the case need to be converted to a Chapter 7.

Studies and statistics continue to dramatically show that many small businesses have been unable to have a plan of reorganization approved because of the time and expense that languishing in Chapter 11 causes. The current lengthy process of a Chapter 11 proceeding makes it extremely difficult for small business debtors to viably continue operations, balancing employment and service levels, paying taxes, and fully or partially satisfying claims of creditors. These delays create even more challenges for the small business: its own customers are fearful of the future for the small business in distress, impacting future business transactions.

Testimony provided to the NBRC indicated that in a high percentage of cases, small business debtors were unable to produce a check register at the first meeting with creditors. Additionally, the overwhelmingly high conversion rate for small business debtors from Chapter 11 reorganization to Chapter 7 liquidation indicates that most small businesses should have been in Chapter 7 to begin with; greatly reducing court expenses, attorney fees and unclogging bankruptcy court dockets.

The model contemplated under this legislation is patterned after an expedited procedure used in the federal bankruptcy court in eastern North Carolina. Under the local rules devised by Bankruptcy Judge Thomas Small, the period of time in which small business cases are adjudicated has dramatically been reduced. Most importantly, there have been no measurable deleterious impact on any small businesses to have a plan of reorganization presented and approved by the court. In fact, Judge Small's statistics indicate that a higher percentage of small business debtors are able to have their plans of reorganization approved than is the national average.

If this legislation is enacted, it could have the effect of helping to streamline the bankruptcy process by eliminating much of the time consuming issues that currently involve small businesses. Moreover, given the very low rate of successful reorganizations of businesses that file Chapter 11, the improvements contained in the legislation to the reorganization process for small businesses should dramatically affect the reorganizations on a positive basis. Given that the overwhelming majority of business bankruptcy cases are small businesses, the timely consideration of such cases will have the effect of ameliorating the huge backlog on the court dockets. Finally, because these expedited procedures will apply to only those businesses with less than $2 million in debts, the real benefit relief will be extended to genuine small businesses.

Preferences

NACM is equally supportive of the provisions contained in Sections 409 and 410 of the bill to correct inequities that currently exist with respect to preferential transfers. While NACM supports the concept of the equality of treatment of creditors, the current statute creates an environment for the feeding frenzy of trustees, attorneys and others not part of the creditor body at the expense of vigilant trade creditors, with no ultimate benefit being derived by creditors of the bankrupt estate.

Under current law, instead of having the trade creditor class be the beneficiary of preferential transfer recoveries, the funds that are recovered are paid to the professionals who are employed to recover them. Specifically citing small preference actions, statistics provided to the NBRC showed that bringing preference actions for $5,000 or less does nothing to substantially enhance distribution to creditors or restore funds to the debtor's estate. Again, it was shown that these activities do, however, generate substantial attorney expenses. This has resulted in a large "breakdown" of the system, forcing vigilant trade creditors to expend considerable sums for representation only to learn that the ultimate beneficiaries of the recoveries do not correlate to those intended by the original legislation.

The changes address problems in two important areas. First, the clarification of what constitutes a transaction conducted under the ordinary course of business removes the doubt and uncertainty that has permeated case law and created difficulties for the ordinary transaction of business with distressed debtors. The mere fact that a business may be in financial distress should not create an impediment to ordinary course dealings. Indeed, if this were to be the case, it would only precipitate additional bankruptcy filings. The change created by Section 409 of the legislation clarifies that creditors willing to continue to extend credit to financially distressed businesses will not be penalized.

Second, the changes with respect to when and where certain preference actions may be filed are equally beneficial. Bringing preference actions in distant courts only forces unreasonable capitulation by creditors when they may have legitimate defenses but choose not to make them because of the cost involved in securing representation in those courts. These changes will also afford protection to those creditors who act in good faith when dealing with financially distressed businesses.

Sections 409 and 410 are consistent with the recommendations of the NBRC that took great care and time in examining these issues. NACM agrees with the NBRC that these changes will help to create a "level playing field" with respect to bankruptcy administration. Additionally, these provisions, if enacted, will eliminate unnecessary and unproductive litigation that can affect the already overburdened bankruptcy court system.

Creditor Committee Composition

NACM wholeheartedly supports the language in Section 405 which permits the court to change the membership of the creditors committee if the change is necessary to ensure adequate representation of creditors and equity security holders. Presently, there is no judicial redress in the event that, for whatever reason, a creditors committee that is appointed does not adequately represent the creditors as a whole. This provision correctly provides for appropriate judicial oversight of a very important component of the bankruptcy reorganization process.

Reclamation

NACM also strongly endorses Section 1227 of H.R. 975 to modify specific reclamation provisions of the bankruptcy code. Currently, when dealing with the reclamation of goods, the bankruptcy code does not protect the rights of manufacturers and distributors in most cases.

Some of the legal and practical problems that have been created are the following:

1. Vendors do not know of the filing of a bankruptcy proceeding in sufficient time in order to file a reclamation notice.

2. Current law permits reclamation only when the goods are still in the possession of the debtor when notice is received. With multiple operations of a debtor, this becomes impossible to prove or verify.

3. The rights of secured creditors pre-empt any reclamation rights.

4. There is no sanction on the debtor for failing to comply with the reclamation notice.

5. Vendors are required to immediately hire counsel in order to protect reclamation rights, only to be delayed by the lengthy court proceedings.

6. The procedure gives the debtor opportunities to force concessions from vendors with respect to post-petition credit in order to gain concessions with respect to reclamation.

7. Traditionally, manufacturers, distributors and other vendors receive little benefit from the current reclamation law.

Section 1227 would rectify these problems by creating a new approach for the treatment of reclamation claims, providing an option for a creditor to consider in exerting a reclamation claim. The creditor would be afforded a 45-day period from the date the debtor received the goods for the return of goods under a reclamation claim. Alternatively, a creditor could choose to have an administrative priority for all goods delivered within 20 days of the filing. Under the legislation, the creditor would be able to use only one of these options, not both.

Simply increasing the reclamation period from 20 to 45 days will not solve the problem. While this initially appears to protect vendors, it may have the opposite effect. If the reclamation date reaches too far back, Chapter 11 debtors will not be able to confirm a Chapter 11 Plan because of the burden of administrative claims that they may be required to be paid on confirmation as a result of the reclamation demands. (Under the code, all administrative expenses must be paid in full before a plan can be confirmed.) Placing unreasonable burdens on debtors in order to effect a confirmation does not protect the interests of creditors in the long run.

NACM believes that the following will be the benefits of such a change:

1. All vendors of goods will be protected.

2. There will be no "race" to the courthouse to file notices.

3. Vendors will not be adversely prejudiced if they do not know of the bankruptcy filing during the first days following the filing.

4. All vendors of goods will be entitled to an administrative priority claim for the goods actually received by the debtor within 20 days of the filing of the bankruptcy case. Thus, debtors contemplating the filing of a bankruptcy proceeding will have a deterrent to "loading up", as they will know that in order to confirm any Chapter 11 Plan, they will have to pay in full for all goods received within the 20-day period at the time of confirmation, not just those that are in inventory when notice is received.

5. This does not in any way alter the rights of secured creditors, so there should be no opposition by lenders. It does, however, impose a payment obligation on the Debtor which may have to be funded by the lenders in order for a Chapter 11 Plan to be confirmed.

6. Solvency or insolvency of the debtor is no longer an issue to be considered or litigated.

7. The issue of whether the goods are on hand and are identifiable is no longer an issue to be considered or litigated.

Retail Lease Assumption

Previously, NACM has expressed its concern with the language contained in Section 205 of the bill. While NACM clearly supports the most expeditious administration of bankruptcy cases as possible, artificial deadlines should not be created merely to enhance the rights of one constituency. Artificially limiting a debtor's right to assume or reject the lease at 120 days may not always be in the best interest of all creditors and other parties in interest. There is no problem in establishing a deadline which should be the "normal" deadline, but there must be flexibility built into the law to permit the court to modify the deadline if facts and circumstances so warrant.

The current Section 205 creates a burden upon large retailers and other similar businesses which may lead to decisions which have a long term effect on the reorganization process being hastily made. For instance, had this law been enacted and applied to the K-Mart bankruptcy filing, one could not comprehend the magnitude of the difficulties that would have developed for that debtor. NACM urges that the proposed legislation be modified to provide that the court may extend the period to be determined under the amendment within the discretion of the court.

The National Association of Credit Management appreciates this opportunity to provide the perspectives of its members to the Subcommittee on the issue of bankruptcy reform. We believe that need for bankruptcy reform, especially in the area of commercial practices, is long overdue. We applaud the Chair and members of the Committee for their diligence in attempting to again move this legislation that is so very vital to America's business community.