Business stress can be caused by many factors, including slipping revenues, regulatory or technological changes, and macroeconomic factors that push interest rates higher, to name a few.
A company may be able to navigate its stresses, whatever they may be, back to clear waters. Consider: pivots in business strategy, strategic hires, and equity infusions to reduce the cost of capital. A stressed business may (or may not) benefit by retaining outside experts, such as management consultants.
A distressed business is altogether different. The word implies a business that is at least arguably insolvent or quickly on its way to becoming so.
At that point, the legal and practical landscape starts to change:
- Corporate directors and officers, who previously could focus exclusively on maximizing value for the business’s owners, must spend much of their time managing the distress itself.
- The skills that management consultants typically deploy to advise healthy and even stressed companies are generally ineffective, leading to the need to sometimes retain specialty ‘turnaround advisors.’
- Directors, who could previously focus solely on owners’ interests, must now also consider the interests of the company’s creditors in ways they did not have to before. Decisions like paying some creditors rather than others, moving assets, and continuing to accept credit terms can come under scrutiny later, and the right answers are often not clear. As Jordan Leu of King & Spalding explains, once a company enters distress, it’s not just about survival; it’s about making choices that maximize the value of the overall enterprise.
But financial distress can be reversed, or at least its impact on stakeholders can be muted. The key is to understand the available options, act early, and make informed decisions with the right help.
Options for the Distressed Business
Once distress is apparent, the next step is to figure out a path. There are several tried-and-true strategies that a financially distressed company can employ, and they are not necessarily mutually exclusive. The best path(s) for any given situation is not always clear cut, and each has its own set of pros and cons. Some (just some) of the factors that drive which path a company should take include:
- The cause(s) of its distress
- How big the company is, in terms of its financial metrics and headcount
- Its ability to generate gross revenue and its ability to cut costs
- Its capital structure (e.g., whether its equity is closely or widely held, whether it has secured debt)
- Its relationships with key creditors
- Its geographic footprint
- Whether its owners have provided personal guarantees
- Broader industry trends or supply chain risks
“There’s no one-size-fits-all solution. Every business has its own ecosystem, including creditors, lenders, and owners, all of whom have different needs and leverage points,” notes Jonathan Friedland, corporate and corporate restructuring attorney with Much Shelist, P.C.
Let’s unpack these options one by one.
Chapter 11 Bankruptcy
When people hear ‘bankruptcy,’ they often think of failure. However, Chapter 11 of the US Bankruptcy Code is more akin to a reset button. It allows a company to pause collections, reorganize debt, and either keep operating or sell assets under court supervision.
The moment a business files for Chapter 11, an ‘automatic stay’ kicks in. That means creditors must stop trying to collect debts, file lawsuits, or repossess property without first getting the bankruptcy court’s permission to do so. The company generally becomes a ‘debtor-in-possession,’ (DIP) meaning it continues day-to-day operations but must report to the court and creditors. A key advantage of DIP status is ‘debtor-in-possession financing.’ This special type of lending arrangement helps companies continue operating during the process, with the lenders often receiving priority repayment.
Taking a step back, Friedland summarizes the end goal of Chapter 11 as follows: “Some companies (i.e., debtors) can use Chapter 11 to restructure their debts, and emerge as a ‘reorganized company’ that continues to operate. This often means that those who owned 100% of the company before the bankruptcy continue to own 100% after. Other companies emerge from Chapter 11 and continue in business, but under an ownership structure that has changed in some way. Other companies end up being sold in Chapter 11 ‘free and clear’ of liens, claims, and encumbrances under Section 363.”
Chapter 11 is strong but expensive medicine. It comes with court costs, professional fees, and public disclosure requirements. For smaller companies, Congress added Subchapter V, a streamlined version that’s faster and less expensive.
Assignment for the Benefit of Creditors (ABC)
An Assignment for the Benefit of Creditors (ABC) is a state-law alternative to bankruptcy. The rules vary by state. Some, like California and Delaware, have detailed statutes governing ABCs. Others, like Illinois, rely on case law. The main job of an assignee is to sell the company’s (i.e., the assignor’s) assets and distribute the proceeds to creditors.
“Speed and flexibility are the ABC’s biggest strengths. It lets everyone move on quickly while maximizing value,” underscores Richard Corbi of the Law Offices of Richard J. Corbi PLLC.
An ABC can be considered a state law rough equivalent to Chapter 7 bankruptcy, with some advantages. Read more in “Selling Distressed Assets: The Assignment for the Benefit of Creditors Alternative.”
ABCs are likely to grow rapidly in use over the next decade, according to Friedland, as states adopt the recently promulgated Uniform ABC Act. For more information on that, you may wish to read, “Brought to You by the Makers of the UCC: The Uniform Assignment for Benefit of Creditors Act.”
Creditor Workouts and Compositions
If the business is still viable, creditors may agree to modify repayment terms without the need for a bankruptcy or ABC. This is called a ‘workout’ or ‘composition agreement.’
In a workout, the debtor negotiates directly with lenders or vendors to extend payment deadlines, reduce interest, or restructure loans. It’s informal but effective if everyone cooperates.
As Steven Nerger of Nerger Advisory Services notes, “A successful workout isn’t just about math; it’s about rebuilding trust and showing lenders you have a credible plan.”
A composition agreement is a formal contract where multiple creditors agree to accept partial payments, perhaps over time, in full satisfaction of what’s owed.
The main advantage of these approaches is flexibility: no court, less publicity, and lower cost. The downside is the risk of ‘holdouts’ (stakeholders who refuse to agree). These parties may cause a deal not to happen at all or may end up ‘free-riding.’
Article 9 Sales
For lenders holding collateral, Article 9 of the Uniform Commercial Code provides a path for a secured creditor to recover and sell its collateral without having to go through bankruptcy court. A lender can seize pledged assets and sell them in what’s called an ‘Article 9 sale,’ as long as the sale is commercially reasonable.
When a company is a borrower under a secured loan, Friedland explains, it often pledges substantially all of its assets as security for the loan. And both borrowers and guarantors sometimes pledge their equity in companies as collateral.
When a borrower defaults on a loan, a secured creditor can foreclose on and sell all the collateral pledged by both the borrower and the guarantor. Buyers often prefer buying in an Article 9 sale because they’re quick and they perceive an ability to sometimes get a bargain.
At the same time, purchasing though Article 9 carries some risks. If a sale isn’t handled properly, it can invite more trouble down the line,” warns Leu.
The Buyer’s Perspective in Distressed Transactions
Buying assets from a distressed business can be an incredible opportunity if done correctly. Distressed acquisitions can present an opportunity to acquire valuable equipment, customer lists, or intellectual property. Prices are often low, but risk is high. Buyers need to look beyond the price tag and ask key questions:
- Am I buying assets ‘free and clear’?
- Are there hidden liabilities?
- Do I need the secured lender’s support?
Buyers want certainty, which is why due diligence is crucial. Whether buying through a 363 sale in bankruptcy or an Article 9 sale, it is essential to review title, liens, and tax records carefully.
A key theme common to any distressed purchase: making a proper record of the sale process, being commercially reasonable, is critical from a buyer’s perspective to protect against the risk of being sued later for paying less than reasonably equivalent value for what is purchased. For more information on this, read “The Myth of the Newspaper Being a Commercially Reasonable Notice.”
Navigating Trouble With Strategy and Realism
Financial distress doesn’t just test balance sheets; it tests leadership. The best leaders face the situation honestly and communicate openly with employees, vendors, and lenders. Even in the most challenging times, clarity and consistency can preserve both relationships and value. While financial distress is tough, it doesn’t have to be the end. The key is to act quickly, understand the available legal options, and seek advice early.
Here are a few final takeaways:
- Don’t ignore warning signs; cash crunches rarely fix themselves.
- Understand fiduciary duties once insolvency approaches.
- Consider all available restructuring tools.
- Communicate honestly with creditors and stakeholders.
- Bring in experienced legal and financial advisors.
This article was originally published on November 24, 2025 here.