When a company files Chapter 11 bankruptcy, it does not shut down. It enters a court-supervised process that freezes creditor collection, keeps existing management in charge of daily operations, and gives the business time to negotiate a plan to restructure its debts. If the plan is approved by creditors and confirmed by the court, the company emerges with a reworked balance sheet. If it isn’t, the case can convert to a Chapter 7 liquidation.
Creditors Are Frozen the Moment the Petition Is Filed
The instant the petition hits the docket, a federal law called the automatic stay takes effect and blocks almost every form of creditor collection.1Office of the Law Revision Counsel. 11 USC 362 – Automatic Stay Lawsuits pause. Foreclosures halt. Repossessions stop. Creditors cannot enforce pre-filing judgments, offset debts, or perfect liens against the company’s assets.
The point of the stay is to prevent a race to the courthouse that would strip the company before anyone could organize a reorganization. It stays in place until the case closes, is dismissed, or a discharge is granted. A creditor whose interest is being harmed, such as a lender whose collateral is losing value, can ask the court for relief from the stay.
A few things move ahead regardless. Criminal proceedings against the company or its officers are not blocked by bankruptcy. Government agencies can continue exercising regulatory and public-safety powers, so an environmental enforcement action or a health inspection keeps going. Government actions to collect money the company owes, though, are generally stayed like any other collection effort.
Existing Management Stays in Charge
In most Chapter 11 cases, no outside trustee is appointed. The company becomes a “debtor in possession” and continues running its business with essentially the same powers a trustee would have.2Office of the Law Revision Counsel. 11 US Code 1107 – Rights, Powers, and Duties of Debtor in Possession Federal law specifically authorizes the debtor in possession to operate the business unless the court orders otherwise.3Office of the Law Revision Counsel. 11 US Code 1108 – Authorization to Operate Business
What changes is who management answers to. Officers and directors now owe fiduciary duties not just to shareholders but to the creditors as a whole. Routine transactions such as buying inventory, paying employees, and filling customer orders can proceed without asking the court. Anything outside the ordinary course of business, such as selling a major asset, entering a large new contract, or taking on significant debt, requires advance notice and court approval.4Cornell Law School. Chapter 11 Bankruptcy
How the Company Funds Operations During the Case
Most companies in Chapter 11 need new money to keep the lights on while they reorganize. That post-petition borrowing is called debtor-in-possession, or DIP, financing, and the Bankruptcy Code lays out an escalating menu of protections a court can offer lenders willing to extend credit to a company already in bankruptcy.5Office of the Law Revision Counsel. 11 US Code 364 – Obtaining Credit
At the simplest level, the company can borrow unsecured, with the debt treated as an administrative expense paid ahead of most other claims. If no lender will accept those terms, the court can authorize stronger protections:
- Superpriority status, putting the new debt ahead of all other administrative expenses.
- A lien on unencumbered company property that no existing creditor has claimed.
- A junior lien on assets already encumbered, sitting behind existing liens.
- As a last resort, a lien equal or senior to existing liens, but only if the current lienholder receives adequate protection of its interest.
The company must show the court it cannot obtain financing on less aggressive terms before the stronger protections will be approved. Without DIP financing, many companies would run out of cash before they could finish a reorganization.
Oversight From Creditors and the U.S. Trustee
Because management stays in place, the Code builds in layers of oversight. The United States Trustee, a branch of the Department of Justice, appoints an official committee of unsecured creditors soon after filing. The committee usually consists of the seven largest unsecured creditors willing to serve.6U.S. Department of Justice. Official Committee of Unsecured Creditors Information Sheet It monitors the company’s finances, reviews proposed transactions, and gives smaller creditors a collective voice they couldn’t afford individually.
The U.S. Trustee separately monitors administrative compliance. The company files regular operating reports and pays quarterly fees calculated from its total disbursements. Fees start at $250 per quarter for companies with lower disbursements and can reach $250,000 per quarter for companies spending $1 million or more.7United States Department of Justice. Chapter 11 Quarterly Fees Missing reports or fees can get the case dismissed or converted to Chapter 7.
What Happens to Employees and Union Contracts
Employees get specific protections. Unpaid wages, salaries, commissions, vacation, severance, and sick pay earned within the 180 days before filing are treated as priority claims, paid before general unsecured creditors. For 2026, each employee’s priority claim is capped at $17,150; anything above that becomes a general unsecured claim.8Office of the Law Revision Counsel. 11 US Code 507 – Priorities
A company cannot simply walk away from a collective bargaining agreement. It has to propose specific necessary modifications to the union, share relevant financial information, and bargain in good faith.9Office of the Law Revision Counsel. 11 US Code 1113 – Rejection of Collective Bargaining Agreements Only if the union refuses the proposal without good cause, and only if the court finds the balance of equities clearly favors rejection, can the labor contract be rejected. Interim changes to wages, benefits, or work rules are possible if essential to keep the business running.
Selling Assets During the Case
Many Chapter 11 cases don’t end with a traditional plan at all. Instead, the company sells some or all of its assets during the bankruptcy in what’s known as a Section 363 sale. The debtor in possession can sell estate property outside the ordinary course of business after notice and court approval.10Office of the Law Revision Counsel. 11 US Code 363 – Use, Sale, or Lease of Property
The big advantage is that the court can authorize the sale free and clear of liens and other interests, provided at least one statutory condition is met, such as the sale price exceeding the value of the liens or the lienholder consenting. That gives buyers clean title and generally produces higher prices.
A 363 sale often begins with a “stalking horse” bidder whose negotiated offer sets a floor for an auction. Other buyers can then submit higher bids. The stalking horse typically receives protections, such as reimbursement of expenses if outbid, to compensate for its due diligence. The court approves whichever bid best serves the estate.
Building the Reorganization Plan
The company has an exclusive window, initially 120 days, during which only it can propose a reorganization plan.11Office of the Law Revision Counsel. 11 USC 1121 – Who May File a Plan The court can extend this period for good cause but not beyond 18 months from the start of the case. Miss the deadlines, and any party in interest, including a creditor or the creditors’ committee, can propose its own plan.
The plan itself has to divide creditors and equity holders into classes based on the nature of their claims: secured creditors, priority claims like employee wages and taxes, general unsecured creditors, and equity holders.12Office of the Law Revision Counsel. 11 US Code 1123 – Contents of Plan For each class, the plan spells out what creditors will receive: what percentage of their claim, in cash or new securities, over what timeline. Creditors in the same class have to receive the same treatment unless a creditor agrees to less. The plan also has to describe how it will be carried out, whether by keeping some property, selling other property, merging, canceling or modifying debt, extending payment deadlines, or issuing new securities for old claims.
The Disclosure Statement and the Vote
Before creditors vote, the company prepares a disclosure statement with enough information for creditors to make an informed decision, and the court has to approve it.13Office of the Law Revision Counsel. 11 USC 1125 – Postpetition Disclosure and Solicitation A typical disclosure statement includes asset and liability schedules, historical financials, cash flow projections, and a liquidation analysis comparing what each class would receive under the plan versus a Chapter 7 liquidation. That comparison is the benchmark creditors use.
Once the disclosure statement is approved, the company sends it, the plan, and a ballot to each creditor entitled to vote. A class accepts the plan when creditors holding at least two-thirds in dollar amount and more than half in number of those actually voting cast their ballots in favor.14Office of the Law Revision Counsel. 11 USC 1126 – Acceptance of Plan Both thresholds have to be met.
Confirmation, Cramdown, and Emergence
After voting, the court holds a confirmation hearing. The plan has to be proposed in good faith, has to be feasible (meaning another bankruptcy isn’t likely soon after), and each impaired class must have accepted it or the plan must qualify for cramdown.15Office of the Law Revision Counsel. 11 USC 1129 – Confirmation of Plan
Cramdown lets the court confirm a plan over the objection of a class, but only if the plan does not unfairly discriminate among classes of similar priority and is “fair and equitable” to each dissenting class. In practice, “fair and equitable” means no class below the objecting class can receive anything unless the objecting class is paid in full, a principle known as the absolute priority rule. At least one impaired class must have accepted the plan, excluding votes from company insiders, for cramdown to be available.
Once confirmed, the plan binds the company, all creditors, and all equity holders regardless of how they voted.16Office of the Law Revision Counsel. 11 US Code 1141 – Effect of Confirmation Confirmation discharges the company from pre-filing debts, and property dealt with by the plan becomes free and clear of prior claims. The company emerges as a reorganized entity, with a restructured balance sheet and the obligations spelled out in the plan.
When Reorganization Fails
Not every case ends in a successful reorganization. If a workable plan doesn’t come together, the court can convert the case to Chapter 7 liquidation or dismiss it entirely, whichever better serves creditors.17Office of the Law Revision Counsel. 11 USC 1112 – Conversion or Dismissal Any party in interest, including a creditor or the U.S. Trustee, can file the motion.
Situations that can trigger conversion or dismissal include:
- Continuing losses with no reasonable prospect of recovery.
- Gross mismanagement of the estate.
- Failure to file reports or pay required quarterly fees.
- Failure to maintain insurance, putting the estate or the public at risk.
- Unauthorized use of cash collateral that harms creditors.
The company itself can also voluntarily convert to Chapter 7 if management concludes reorganization isn’t viable. Once converted, a Chapter 7 trustee takes over, liquidates the remaining assets, and distributes the proceeds by statutory priority.
A Note on Smaller Businesses: Subchapter V
Smaller companies can use a faster, less expensive version of Chapter 11 called Subchapter V. To qualify, the business must have total debts (excluding debts to insiders or affiliates) that do not exceed $3,024,725.18U.S. Department of Justice. Subchapter V Small Business Reorganizations A temporary $7.5 million cap expired in June 2024 and reverted to this lower figure.
Subchapter V removes several of the friction points described above. There is no creditors’ committee unless the court orders one. The debtor does not need any creditor class to vote in favor of the plan; the court can confirm it as long as the debtor commits all projected disposable income for three to five years. And the absolute priority rule doesn’t apply, which lets small business owners keep their equity while restructuring debts. Businesses above the debt cap follow the standard Chapter 11 process laid out above.