Modern debt markets allow for extensive trading in the claims of distressed firms, including not only bonds and bank debt, but also trade credit and lease, tax, insurance, and derivative claims.1
Trading of bankruptcy claims in particular is a complex, multi-dimensional, and dynamic market that varies depending on timing, asset class, and trading motivation, and may impact the bankruptcy reorganization process differently.2 It is important to note that the bankruptcy market is a valuable tool for resolving complex financial disputes and ensuring efficient allocation of resources.
Claims trading is an integral part of the bankruptcy process and extensive due diligence is required by sellers and buyers to understand how to navigate the market. Below, we’ve identified some key risks that investors should be aware of.
One of the most significant risks associated with bankruptcy claims trading is the lack of transparency and information asymmetry. Buyers may not have access to all relevant information about the underlying assets or debts, making it difficult to accurately value claims.
To mitigate this risk, investors should conduct thorough due diligence on the bankrupt company and its assets. This includes reviewing court filings, financial statements, and other relevant documents. Investors should also consider engaging the services of a bankruptcy attorney or financial advisor with expertise in bankruptcy claims trading to help them assess the risks and opportunities associated with investing in distressed assets. We understand, however, that this may not be a feasible option for all investors.
The general lack of transparency and information asymmetry in claims trading can have a negative impact on the pricing and trading of claims. Through tokenizing claims, OPNX aims to provide price transparency to aid in the fair valuation of claims.
A bankruptcy petition, typically filed in a federal bankruptcy court, starts the bankruptcy process. Once the petition is filed, an automatic stay goes into effect, halting most collection activities by creditors and giving the debtor some breathing room to restructure their debt or liquidate their assets.
There are several factors that may cause unforeseen delays during the bankruptcy process, including complex financial issues, disputes among stakeholders, legal challenges, and administrative hurdles. For example, the Celsius bankruptcy proceeding has been notably delayed due to changes in the bidding process for Celsius assets.
Example: Celsius Disclosure Statement Filing Extension
When it comes to trading claims for a company undergoing Chapter 11 Chapter 11 of the U.S. Bankruptcy Code, one risk that cannot be overlooked is the uncertainty around the bankruptcy process. That is, the possibility that the company may not be able to successfully restructure and emerge from bankruptcy, resulting in a total loss for claim holders. While Chapter 11 of the U.S. Bankruptcy Code allows a company to restructure its debts and operations, and continue operating its business, the value of the company's assets may be less than the total amount of its debts, leading to lower payouts for claim holders than expected.
Furthermore, note that in a Chapter 11 bankruptcy, unsecured claims (those who do not have a specific claim to the debtor’s assets) are not given priority and must share any distribution of the debtor's assets with other unsecured claims. The bankruptcy court will typically outline a priority scheme designed to ensure that claims are paid in a fair and orderly manner.
Taking the Celsius bankruptcy as an example, Celsius Earn customers will be treated as unsecured claims in Celsius' bankruptcy and according to the priority scheme, will be last in line for repayment after Celsius repays higher-priority debts.3
Bankruptcy petition: A legal document filed by an individual or business that seeks relief from its debts through bankruptcy and includes details such as the debtor's assets, liabilities, income, expenses, and other financial information.
Bankruptcy protection: A legal status granted to individuals, businesses, and other entities that are unable to pay their debts. It provides temporary relief from debt collection activities.
Disclosure Statements: A document required by the bankruptcy court that provides detailed financial information about the debtor, including assets, liabilities, income, and expenses. It is typically filed in conjunction with a plan of reorganization and must be approved by the court before the plan can be implemented.
Secured creditors: Creditors who have a security interest in the debtor's property. In the event of default or bankruptcy, secured creditors have the right to seize and sell the property to satisfy the debt.
Plan of reorganization: A detailed proposal submitted by the debtor for restructuring its debt and operations in bankruptcy. The plan must be approved by the creditors and the court, and it typically involves the repayment of some or all of the debt over time. The plan may also include provisions for the sale of assets, the renegotiation of contracts, and the reorganization of the business.
2 http://scholarship.law.georgetown.edu/facpub/182 SSRN: http://ssrn.com/abstract=1537488