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Bankruptcy is a Real Risk – Even in Improving Economic Times

By Kristin Alford

Bankruptcy is a Real Risk – Even in Improving Economic Times

“Bankruptcy? When the economy is doing OK? Nah, I don’t have anything to worry about; I only sell to good customers.”
 
Good customers. Of course, why didn’t I think of only selling to “good customers?”
 
Let’s face it, risk never stops — regardless of the current economic state and, despite the “goodness” of your customers, risk will always exist.
 
In Recipe for a Project Bankruptcy: Part 2, The Contractor in Bankruptcy Through the Lens of the Owner, author Peter Strniste cites that an increase in construction activity can lead to an increase in failures.

“Dodge Data & Analytics projected that total U.S. construction will increase in 2017 by five percent…Lenders and sureties continue to aggressively underwrite contractors and subcontractors allowing businesses to grow quickly. But growing too quickly can lead to cash flow and labor allocation issues, both of which are ingredients for a project bankruptcy.”

For those furnishing to the construction industry, this means utilizing the mechanic’s lien process is just as important (if not more) in a good economy as it is in a recession.
 
Even in good times, bad things happen. So, what happens when you’ve secured mechanic’s lien rights and a party in the ladder of supply files for bankruptcy?
 
Author Tracy Green recently wrote When Construction Contracts Go Sideways in Bankruptcy. In this article, Green provides insight and recommendations on how/what owners and subcontractors/suppliers should do if the general contractor files for bankruptcy protection.
 
Mechanic’s lien holders could find reprieve from the automatic stay. However, Green advises that while the filing of a mechanic’s lien will likely be permitted, enforcing that lien could require additional approvals.

“There is a big difference between enforcing a lien and perfecting a lien. Enforcement is not allowed without applying to the court for permission. Also, the automatic stay generally only applies to the debtor. Therefore, if the contractor files a bankruptcy, and a lien holder has rights against a property owner, and that owner is not in bankruptcy, there is noautomatic stay that prevents enforcement of the obligation.”

“OK, I’m the subcontractor and I filed a lien, can’t the owner just pay me and leave the contractor out of it?”

Green warns against the owner paying the sub directly without authorization from the court.

“As a property owner paying a subcontractor directly when a contractor is in bankruptcy, you want to make sure that you are making payments that you are compelled to make under the law so that the debtor does not come back and ask you to pay again. When in doubt, obtain an order from the bankruptcy court authorizing the payment.”

As parting advice, Green recommends that if you have concerns about bankruptcy or default, carefully review the terms of your contract.

“[C]onsider terminating the contract before the bankruptcy case is commenced in compliance with contract terms to avoid being caught up in the bankruptcy. Make sure that your contract includes protections such as requiring owners to write joint checks or, if applicable, to provide lien waivers. If you are working with a party on multiple projects, you may want to provide that a default on one contract is default on all contracts, and payments are subject to setoff.”

And don’t abandon the protection of mechanic’s liens! Yes, if you have secured lien rights and a party files for bankruptcy, you may face additional requirements when enforcing your lien. BUT, with a properly perfected mechanic’s lien, you are a secured creditor and that is ALWAYS better than being an unsecured creditor!
 

NCS Blog

Did you know, Consignment Filings can reduce your risk in scan-based trading? If you are supplying to the foodservice, beverage or hospitality industries, check out this week’s blog post to learn more about how UCC filings can reduce your risk.
Consignment Filings & Open Credit in the Foodservice, Beverage & Hospitality Industries
 

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