Unsecured Creditors in Retail Bankruptcy Lose Out

The Importance of Being a Secured Creditor in Today’s Retail Climate

In today’s highly credit-based economy, the looming threat of debtor bankruptcy is more prominent than ever.  A number of well-known retailers, such as Bon Ton, Toys R Us, Nine West and Winn Dixie, have recently succumbed to insolvency, leaving their creditors in a vulnerable position.

As a creditor, it is important to ask yourself “In what ways can our company mitigate risk in today’s volatile credit environment?” To answer this, let’s tackle two key questions:

  • What is the difference between a secured & an unsecured creditor?
  • Do secured creditors actually get paid more in the event of customer bankruptcy?

Secured vs Unsecured

It’s essential to start by understanding the fundamentals; specifically, the difference between a secured and unsecured creditor.

A secured creditor has a security interest over some or all the assets of its debtor. A security interest can be obtained through prominent credit tools such as Mechanic’s Liens, Bond Claims and UCCs (just to highlight a few). In the event of the debtor’s bankruptcy or default, secured creditors:

  • Have payment priority over their unsecured counterparts
  • Are in the best possible position for getting paid

An unsecured creditor is a party who extends credit without a collateral security. If the debtor files for bankruptcy, it’s only after the claims of secured creditors are satisfied that the unsecured creditor will receive payment.  Oftentimes, those who fall under the unsecured creditor group collect very little money, if any, from the distribution of assets.

While the bankruptcy code is fairly complex, and insolvencies vary case by case, here is payout priority in its simplest form:

Payout Priority in Chapter 11 Bankruptcy

  1. Secured Creditors (e. creditors who have a perfected security interest)
  2. Administrative Expenses (e. costs associated with filing & processing the bankruptcy)
  3. Unsecured Creditors (e. creditors without a security interest)

Secured Creditor Success Stories!

In recent bankruptcy news, Rue21, inc. ET AL., a specialty fashion retailer of girls’ and boys’ apparel, filed for protection under Chapter 11 of the U.S. Bankruptcy code.  This was largely attributed to a challenging commerce environment characterized by increased pressure from competitors, changing consumer tastes, and an under-performing online presence.

When Rue21 filed for bankruptcy protection on May 15, 2017, it had just over $300,000,000 in assets, and nearly $700,000,000 in liabilities.  Obviously, there were not enough funds to pay all creditors their owed amounts, however, in this case and many others, the secured creditors were first to get paid.  With this particular example, under the Rue21’s reorganization plan, secured creditors recovered 100 percent of the allowed claims while the unsecured creditors only recovered about 3 percent.

We see a similar scenario play out with Katy Industries, a leading manufacturer, importer, and distributor of commercial cleaning and consumer storage products, who filed for bankruptcy on May 14, 2017. The company was unable to meet the obligations of its creditors, with nearly $56 million of debt! In this case, secured creditors recovered the total amount of allowed claims (100 percent) while unsecured creditors faced a recovery rate of only 9.6 percent.

As with many other things in life, when it comes to debtor bankruptcy, not much is guaranteed. However, case after case we see secured creditors having payment priority and receiving greater funds than unsecured creditors.  Simply speaking, the bankruptcy laws require that secured creditors are paid first; take the steps needed to secure your rights!

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