A Chapter 11 bankruptcy filing gives a company a chance to pause its financial problems and try to make a deal with its creditors.
In many cases, companies enter bankruptcy proceedings with a deal in place that swaps its debt for equity and repositions the company to continue to operate.
Court protection in Chapter 11 is a tradeoff: the court's protection against lawsuits by creditors for court oversight of the restructuring plan. And if any player changes their mind, the plan can fall apart.
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Essentially, the bankruptcy court has to decide whether the company has more value by continuing to operate or by being sold for parts. In many cases, vendors don't want to lose the business and are willing to take equity and even wipe out some debt.
In other cases, the company simply has too much debt and its prospects don't inspire its debtholders to be forgiving. That's what happened with Christmas Tree Shops, Tuesday Morning and Bed Bath & Beyond.
Those companies could not reach deals with their creditors and they moved from Chapter 11 into Chapter 7 liquidation. That's an ugly scene, but when a company files for Chapter 11 bankruptcy protection, it's a risk no matter what the company says.
Red Lobster hopes to survive Chapter 11 bankruptcy
Red Lobster has been proactive in trying to get back to profitability. The company abruptly closed 48 restaurants just before its Chapter 11 filing.
The company has struggled recently, partly because of its all-you-can-eat shrimp offer. That deal succeeded — too well in a sense: It brought people to the chain's restaurants, but it proved to be a money loser as customers ate more shrimp than expected and did not order drinks, dessert and other items that would make the meals profitable.
In its bankruptcy filing, Red Lobster reported between $1 billion and $10 billion in liabilities. The chain's assets were in the same range and it disclosed that it had more than 100,000 creditors.
Red Lobster voluntarily filed under Chapter 11 in U.S. Bankruptcy Court for the Middle District of Florida.
"The company intends to use the proceedings to drive operational improvements, simplify the business through a reduction in locations, and pursue a sale of substantially all of its assets as a going concern," the company said on its website.
"As part of these filings, Red Lobster has entered into a stalking horse purchase agreement pursuant to which Red Lobster will sell its business to an entity formed and controlled by its existing term lenders."
The company has secured $100 million in debtor-in-possession financing to continue its normal operations.
Red Lobster sends a message to customers
After its bankruptcy filing, Red Lobster sent an email to its customers. The message was an attempt to assure its biggest fans, or at least the people on its mailing list, that it was continuing to operate normally.
"Bankruptcy is a word that is often misunderstood," the company wrote to its customers. "Filing for bankruptcy does not mean we are going out of business.
"In fact, it means just the opposite. It is a legal process that allows us to make changes to our business and our cost structure so that Red Lobster can continue as a stronger company going forward. As many of you know, we recently made the tough decision to close a number of our restaurants."
Red Lobster drew parallels to other companies that survived Chapter 11 filings.
"The truth is, some of the world’s most beloved brands like Delta and Hertz have used this same process to protect their futures and their customers stood with them and rooted them on. And because of that, they emerged stronger," it added.
Red Lobster closed the email with a call to customers to stick by the brand.
"Together, we have a lot worth rooting for," it said. "We’ve made delicious, high-quality seafood accessible for generations. Many of you tried lobster for the first time at our restaurant, ... And, of course, no meal is complete without Cheddar Bay Biscuits.
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"We are here and ready to continue making memories with you. Join us. Dine with us. Root for us. Together, we can write a new chapter."
