Healthcare Restructurings: A More Complicated Chapter 11 Situation

Healthcare Restructurings: A More Complicated Chapter 11 Situation

Adam Rogoff is one of the authors of The Collier Guide to Chapter 11: Key Topics and Selected Industries, the latest addition to the Collier line of bankruptcy products from LexisNexis. Written by over 20 bankruptcy lawyers from leading firms, the Guide takes an in-depth look at the key topics involved in current chapter 11 practice and the special issues that arise in selected industries. It fills the gap between the Code-based coverage of Collier on Bankruptcy and the more general topical approach of the Collier Bankruptcy Practice Guide. Visit the LexisNexis Book Store to learn more.   

Collier Guide to Chapter 11 authors will be participating in a free CLE accredited webinar on Tuesday, Oct. 19, beginning at 2 pm ET. Webinar attendees will receive a 20% discount off the Collier Guide to Chapter 11 after the webinar's completion. During the webinar, you will hear highlights from the new publication that will cover topics including issues affecting reorganizations for the retail industry, treatment of hospitals and health care businesses in Chapter 11 and Debtor-in-Possession (DIP) financing in the aftermath of the credit crisis.

Register for the free webinar today.

How are healthcare restructurings different from other Chapter 11 restructurings?   There are real-world differences that arise and there are a whole host of rules that the average bankruptcy practitioner just won't be familiar with.  There are rules that apply in the Bankruptcy Code specifically that, frankly, no one looks at unless it's a healthcare case because they are unique to healthcare situations. 

There is the presence of state law regulation. While we all know that state law can be a factor in any Chapter 11 case, it has much more importance in a healthcare restructuring where matters of public health and safety are clearer. 

Let's talk about what makes a healthcare restructuring, as practical matter, more complicated.  It's the fact that healthcare restructurings - certainly if you're dealing with ongoing medical services, like a nursing home, hospital, hospice or long-term home healthcare agency - have patients.  There are literally lives at stake. 

One of the first things you need to do when you are working in a healthcare restructuring - whether you are representing the provider, like a hospital, or you are representing a major creditor - is understand that the solution is not only about the balance sheet; it's not only about the quick operational restructurings. The care of the patients is a paramount issue.  Many Chapter 11 debtors have heavy debt loads and liquidity issues.  Few face the risk of patients dying because the provider cannot meet the basic needs of ongoing patient care during the Chapter 11 case.    

A Different Mindset

In health care, the mindset is not just "what is in the best interests of creditors and the best interests of the estate."  That is your typical reference point in a bankruptcy case focused on recoveries for creditors and maximizing the business value.  In a healthcare restructuring, the debtor has a healthcare mission.  If the debtor is a not-for-profit, this "mission" is part of the "duty of obedience" owed by the leadership of the provider.  Courts recognize and respect this duty, too, even in bankruptcy.

Certain courts recognize that the "duty of obedience" to the healthcare "mission" - including the views of the state health commissioner about the public health need met by the debtor's operations - not only should be taken into account, but actually must be taken into account when determining what to do with the business as a going concern. 

This is particularly true, for example, in section 363 sales. The debtor's reasonable business judgment is not limited to "hospital A will pay more for the assets than hospital B".  Boards and courts will also examine the impact of the public need of the services and which new operator best meets those public health needs.  This can be true even if the proposed buyer that meets the public health need is offering less for the assets than a competing buyer - an anathema to us in bankruptcy, right?  "What do you mean accept the transaction that offers you LESS money and LESS return for the creditors?!"   Money alone does not take into account existing patient concerns and the public policy favoring preservation of an ongoing health provider's business without disruption. 

The other aspect in the real world that makes it different: you are going to have to, as a practical matter, work with the regulators, work with the politicians, and coordinate with local community groups.  The dynamics of the case are not defined by only the creditors' committee and the large secured lender(s).

I've been involved in two major hospital restructurings and in both those instances the local, state and federal governments were active participants in the cases - not because they may have been creditors per se, but because various issues in the case are simply not addressed by "the balance sheet." I saw support from creditors, regulators, and the local community successfully prevent the closure of Bayonne Medical Center.  BMC was a community acute-care hospital that worked with the City of Bayonne, New Jersey and Federal governments to raise new funds and stave off closure. Money was contributed by the various government participants in order to help sustain that Chapter 11 case to bridge it to an orderly sale to a new operator.  All of the right people came together - not only because it was the right economic result to closure, but because it was the right result for the community. The support was there. 

This is not a typical dynamic in "regular" Chapter 11 cases.  It happens occasionally outside of a healthcare bankruptcy - such as in Chrysler and General Motors, which of course were businesses affecting people on such a national level that it had the backing of the United States. But in your standard Chapter 11 case which cannot count on the President of the United States as a partner, you don't have that presence.

Heavy Regulation

The other thing that makes healthcare restructurings different is the fact that they are subject to heavy regulation by the Commissioner of Health or Office of Mental Health or another state agency, depending upon what health services are provided.  We all recognize that there are rules in bankruptcy that say "debtors need to operate the business in accordance with state law."  We all recognize that that the Bankruptcy Code has provisions in the automatic stay, for example, that exempt police and regulatory power.  And yet, we have also seen in the last couple of years that bankruptcy courts will more narrowly define what is exempt in the name of the state police powers.  Recall Chrysler and GM?  Well, however one defines "police powers" in an attempt to distinguish between a commercial interest - which may not be exempt- and safeguarding the public's health and safety - in a healthcare case with active patient issues, the public health and safety is easier to implicate. 

Rushing the Commissioner

Why is recognition of the regulatory context so important?  For starters, you cannot simply shut a hospital down.  A retailer can shut its doors overnight.  Go dark and the worst fallout may be the breach of a continuous operating provision in the lease.  That option doesn't exist for a hospital, hospice, nursing home, or even an outpatient clinic.  Closure, transfers, etc., require regulatory oversight and approval.  The approval process can be complicated depending upon the size of the provider's existing operations.  We are all accustomed to the cooperative bankruptcy judge willing to hear motions on an expedited basis.  (And Thank You, your Honors).  But, you can't presume that the state department of health will be able to give you a "certificate of need" for any required changes on an expedited basis. 

Bankruptcy practitioners need to be mindful that no matter how helpful the bankruptcy judge may be in working with the estates' need (did I say "Thank You" yet?), the parties need to work closely with the regulators, especially if time is of the essence.  This process should start well before the bankruptcy court hearing for the relief needed.  The regulators are very much active participants. 

And those are the practical realities that you need to be aware of.  The rules themselves are also different.  There is the patient care ombudsman. Who is this person?  What does s/he do?  What is his or her authority? Debtors, did you budget the PCO's fees into your DIP cash flow needs? 

Before Firing Up the Shreader . . .

Hospitals and nursing homes can have thousands of records storing back over years detailing decades of patient care.   In an ordinary Chapter 11 case if you're liquidating, you can just get rid of records you don't need.  After you're done reconciling claims you can get court permission to throw them away, shred them.  You can't just do that with patient records because future patient care may be dependent upon getting access to historical records.  And state law has a lot of restrictions on to how and how long and where you're going to store medical records.  That could be a very costly process - tens of millions of dollars costly.  How does the bankruptcy estate pay for that?  So there are rules that are in the Bankruptcy Code on storage of records that could affect - literally - the administrative solvency of a case and how you can confirm a plan.  And there's a tension between what the bankruptcy law says and what state law says.  You need to be aware of this. 

Transfer of Not-For-Profit Assets

There are other rules affecting the transfer of assets of a not for profit - which many health care provider are.  These rules require coordinating sale approvals not only with the case law under section 363 (i.e., a debtor's reasonable business judgment), but also showing that the transfer meets non-bankruptcy approval standards.  So you have to carefully orchestrate the intersection of "Bankruptcy" and "State" to avoid a collision. 

And these are just some of the things that do not necessarily come up in non-healthcare cases.