Bankruptcy: A complex dance

For debtors and creditors both, the bankruptcy process involves a complex dance in which the debtors' prospects for survival are weighed against the creditors' rights to get cash out of the company.

The law varies from one federal district to another, but bankruptcy judges in the Third Federal Circuit, which comprises Pennsylvania, Delaware and New Jersey, tend to be protective of labor contracts and employee rights, bankruptcy lawyers said.

Beyond that, in cases such as the filing Sunday by Philadelphia Newspapers L.L.C., the company that owns The Inquirer, the Philadelphia Daily News and Philly.com, the largest lenders typically must sign on to a plan for reorganization in order for a bankrupt company to come out of Chapter 11.

"Generally, if you want to have any likelihood of success in a reorganization, it is helpful to get both the banks and other creditors on board," said Leslie Baskin, a bankruptcy lawyer at Spector Gadon & Rosen P.C.

The central task for the bankrupt company, she said, is to persuade the Bankruptcy Court that the company is either profitable or could be profitable, and that the value of its underlying assets and business is protected for the benefit of the secured lenders.

Often, in bankruptcy proceedings, the battle between a bankrupt company and secured lenders is over how to value the assets. Expert witnesses often are employed by both sides to offer their opinions.

For the company, the incentives weigh in favor of assigning a lower value to its assets so the lenders can claim less of what is left.

Natalie Ramsey, a bankruptcy lawyer with Montgomery McCracken Walker & Rhoades L.L.P., said that if a company survived, the investors and creditors often took substantial hits before employees.

But employees in a surviving company can take a pounding too, having to accept lower wages and benefits.

Barry Bressler, a bankruptcy lawyer at Schnader Harrison Segal & Lewis L.L.P., said employees sometimes were willing to accept lower compensation in exchange for an ownership interest.

Such arrangements, and discussions of how much or even whether the lenders might accept a reduction in the amount they are owed, are subject to negotiation as the proceedings unfold.

"That is the art of being a bankruptcy lawyer and the art of being a financial adviser to the debtor, being able to know the pressure points of the various groups," Bressler said.

David Skeel, a law professor at the University of Pennsylvania and an expert on bankruptcy, said that given the sickly state of the publishing industry, all the parties in the case might be forced to wait until business conditions improved. Much the same thing happened during the Great Depression, he said. Both creditors and debtors waited for years in bankruptcy, hoping that improving business conditions eventually would salvage everyone's investment.

"To the extent that there is a core business, everyone would have an interest in waiting it out," Skeel said.