Page 27 - Bankruptcy and Reorganization Services

Several valuation issues may arise in the context of avoidance or recovery actions. In order for the trus-
tee or debtor-in-possession to recover on a fraudulent transfer fn 1 (whether under the Bankruptcy Code
or state statute) or preference, it must be established that the debtor was insolvent at the time the transfer
occurred, or was rendered insolvent as a result of the transfer. As stated in greater detail in chapter 13,
“Assessment of Reasonably Equivalent Value and Solvency in the Context of Avoidance or Recovery
Actions,” of this practice aid, insolvency is a financial condition wherein a debtor’s liabilities exceed its
assets, at a fair valuation. Accordingly, an assessment of the debtor’s solvency must be made if an
avoidance or recovery action is being pursued.

If a fraudulent transfer is being pursued, two other financial conditions are relevant in assessing whether
or not the transfer is recoverable. These financial conditions are capital adequacy and an ability to pay
debts as they mature. Depending on the relevant statute, one or both financial conditions need to be
evaluated. Also, it is necessary for the trustee or debtor-in-possession to establish that the debtor did not
receive reasonably equivalent value in exchange for the transfer made or obligation incurred. Capital ad-
equacy, ability to pay debts as they mature, and reasonably equivalent value are also discussed in chap-
ter 13 of this practice aid.

Plan of Reorganization

The plan of reorganization is the debtor’s first public disclosure of its strategy to exit Chapter 11 and the
details regarding plans to pay its creditors, over what time period and at what percentage. In the 7th edi-
tion of Bankruptcy and Insolvency Accounting, it states

The plan is the focal point of a Chapter 11 reorganization. The function of the plan is to provide
a description of the consideration each class of creditors and equity holders will receive. The
plan may also be viewed as a document that satisfies the needs and objectives of the debtor and
its stakeholders. It should be more of a settlement document than a document designed to satisfy
the requirements of the Bankruptcy Code. fn 2

Assessing Debtor’s Reorganization Value

Numerous valuation issues arise in the context of confirming a plan of reorganization. First, it is essen-
tial to determine the value of the reorganized debtor upon emerging from Chapter 11. Although valua-
tion services are not required by the Bankruptcy Code, they are often necessary for effective negotia-
tions between interested parties. This is particularly true in determining that a plan of reorganization
(plan), among other things, is feasible (meaning that the plan is not likely to be followed by liquidation
or the need for further reorganization, unless such liquidation or further reorganization is provided for in
the plan), is fair and equitable (which embodies the absolute priority doctrine and the principle that a
creditor may not receive more than it is owed), and does not discriminate unfairly (which, simply stated,
prevents a plan that treats creditors with similar interests disproportionately from being approved).

fn 1 Fraudulent transfers can be pursued as actual fraud (transfers made with the actual intent to hinder, delay, or defraud creditors) or
constructive fraud (transfers made wherein the debtor received less than reasonably equivalent value). Given that valuation issues arise
in the context of constructive fraud, our discussion in this practice aid is limited to recovery actions that are pursued where construc-
tive fraud is asserted.

fn 2 Grant W. Newton, Bankruptcy and Insolvency Accounting, vol. 1, Practice and Procedure, 7th ed. (New York: John Wiley &
Sons, Inc., 2009), 342.

© 2020 Association of International Certified Professional Accountants 25