Corporate Authority Matters in Distressed-Company Decisions

When a business is in financial distress, the urgent questions tend to get most of the attention.

Should the company file for bankruptcy? Should it pursue an out-of-court restructuring? Should it sell assets? Should it consent to a receivership? Should it challenge a lender’s remedies or an Article 9 sale?

Those are important questions. But before any of them can be answered, there is often a more basic question: Who has the authority to make the decision?

That question was front and center in the recent Chapter 11 case involving Ashley Stewart. The company’s bankruptcy case was dismissed after the bankruptcy court found that the individuals who filed the case lacked corporate authority to do so.

The parties behind the filing included a former CEO and director, along with an investor. They argued that the bankruptcy filing was necessary to address concerns about an Article 9 sale of substantially all of the company’s assets. Among other things, they alleged that the sale process had been structured to favor an insider and that the company had been subject to undue lender influence.

But the threshold problem was authority.

The sole director of the company moved to dismiss the bankruptcy case immediately after it was filed. He argued that the filing had been authorized by a purportedly “reconstituted” board that lacked authority to act on behalf of the company. He also pointed to a consent order entered in pending state court litigation, which required approval from the managers of the majority owner of Ashley Stewart’s corporate parent before a bankruptcy filing could be authorized.

The bankruptcy court found that the required approval had not been obtained. As a result, the court did not need to decide whether the Article 9 sale process was fair, whether the lender had exerted improper influence, or whether the sale should somehow be unwound. The case was dismissed because the bankruptcy filing itself was not properly authorized.

That is the broader lesson for distressed businesses and their stakeholders. In a restructuring situation, authority is not a mere formality. It can determine whether a strategy is available at all.

This issue is not limited to bankruptcy filings. Similar questions can arise in out-of-court workouts, receiverships, assignments for the benefit of creditors, Article 9 sales, asset sales, forbearance agreements, and disputes among owners, managers, directors, officers, lenders, and investors.

In many cases, the answer will be straightforward. The company’s board, managers, members, or officers may have clear authority under the governing documents and applicable law. But in distressed situations, the facts are often less clean.

Control may be disputed. Directors or managers may have resigned or been removed. Prior agreements may limit who can act. Lenders or investors may have consent rights. A court order may affect decision-making. Former officers, former directors, minority owners, or competing factions may believe they can still act on behalf of the company.

Those issues should be addressed before major restructuring action is taken.

At a practical level, that means asking a few threshold questions:

• Who has authority under the company’s governing documents?
• Are there board, member, shareholder, lender, or court-order consent requirements?
• Has anyone’s authority changed because of a resignation, removal, default, prior transaction, or pending litigation?
• Is the company acting through current decision-makers, or through people who previously held authority?
• Has the authorization been properly documented?

These questions are especially important when a restructuring step is being taken in the middle of a broader dispute. A bankruptcy filing, receivership request, asset sale, or challenge to a secured creditor’s remedies may be strategically important. But if the action is not properly authorized, the dispute may never get to the merits.

That appears to be what happened in Ashley Stewart. The parties seeking bankruptcy relief wanted to challenge the consequences of a prepetition sale process. But the bankruptcy court focused on the threshold issue of corporate authority. Because the filing had not been authorized by the proper decision-makers, the court dismissed the case.

For distressed companies, lenders, investors, and other stakeholders, the takeaway is simple: before choosing the restructuring path, confirm who has the authority to choose it.