Proactive Steps for Creditors Facing a Customer’s Bankruptcy: Key Takeaways from ALFA International 2025

When a customer or business partner files for bankruptcy, creditors often feel uncertain about their rights and financial exposure. At the ALFA International 2025 International Client Seminar, I had the opportunity to speak about proactive strategies creditors can use to mitigate risk, maximize recoveries, and navigate the bankruptcy process effectively.

Here are the key takeaways from my presentation, "For the Love of Money: Proactive Steps to Protect Yourself Before and After a Customer Files for Bankruptcy."

Know Your Role as a Creditor

Understanding your legal standing in a bankruptcy case is crucial. Secured creditors have stronger protections, benefiting from collateral-backed claims, whereas unsecured creditors face greater risk but can take strategic steps to assert their rights and improve recoveries. 

Before a bankruptcy filing, ensure that all loan agreements, UCC-1 filings, guarantees, and other documentation are properly executed and enforceable. Additionally, unsecured creditors should explore alternative protections such as personal guarantees, reclamation rights, and letters of credit to mitigate risk in the event of insolvency.

Explore Out-of-Court Resolutions First

Litigation and bankruptcy proceedings can be costly and unpredictable, often leading to prolonged uncertainty for creditors. Options such as workouts, forbearance agreements, and Article 9 sales can provide faster and more controlled resolutions by allowing creditors to secure favorable repayment structures or collateral sales before a formal bankruptcy filing. 

Negotiation is key—creditors who engage early and strategically often recover more than those who wait for formal proceedings. Leveraging financial covenants, security interests, and proactive communication with debtors can enhance bargaining power and improve outcomes.

Protect Against Preference and Fraudulent Transfer Litigation

Many creditors are blindsided by preference claims, which allow bankruptcy trustees to claw back payments made within 90 days before a bankruptcy filing. These claims are intended to ensure equitable distribution among creditors but can create significant financial exposure. 

Potential defenses include the ordinary course of business exception, which protects payments made as part of routine transactions, and the subsequent new value defense, which offsets preference liability by showing that additional goods or services were provided to the debtor after the payment. Additionally, creditors should carefully document payment terms, invoicing practices, and communication with debtors to strengthen their position in defending against preference actions.

Use Bankruptcy Tools Strategically

Creditors in bankruptcy cases should take proactive steps, including:

• Filing a Proof of Claim to ensure a seat at the table and preserve their rights.
• Monitoring cash collateral and adequate protection motions to safeguard secured interests.
• Objecting to unfavorable reorganization plans that could diminish recoveries.
• Exploring reclamation claims or administrative expense claims under Section 503(b)(9) for unpaid goods.
• Understanding executory contract implications and negotiating favorable terms before assumption or rejection.
• Assessing critical vendor status to maintain business continuity and improve payment terms.
• Participating in creditors’ committees to amplify influence on the restructuring process and protect collective interests.
• Staying informed on adversary proceedings that may impact claim recoveries or alter creditor priority.
• Challenging insider transactions or preferential transfers that unfairly disadvantage other creditors.
• Consulting legal counsel early to develop a proactive bankruptcy strategy and avoid common pitfalls.

Special Cases: Critical Vendors, Executory Contracts & Committees

Critical vendor status can allow key suppliers to continue business with the debtor while securing better payment terms.

• Criteria for designation include the necessity of the vendor’s goods or services to the debtor’s operations.
• Vendors should negotiate for protections, including priority payment status and defined contract terms.

Executory contracts require careful monitoring—creditors must be prepared for assumption, rejection, and cure payment negotiations.

• Ensure all contracts are properly documented and up to date before a bankruptcy filing.
• Creditors can object to assumptions or negotiate favorable cure payments.

Official committees of unsecured creditors can provide collective leverage in negotiations, allowing creditors to influence reorganization terms and maximize distributions.

• Participation in a creditors’ committee can enhance a creditor’s ability to advocate for better recoveries.
• Committees play a role in investigating the debtor’s financial condition, negotiating repayment terms, and pursuing litigation if necessary.

Consider State Law Alternatives

Bankruptcy isn’t the only option. 

State law remedies like Assignments for the Benefit of Creditors (ABCs) and state receiverships may offer creditors alternative recovery pathways, often with faster timelines and lower costs. 

ABCs allow an insolvent company to assign assets to a third-party trustee, who then liquidates them for creditors, providing a structured, often more efficient resolution. 

State receiverships, used in certain jurisdictions, appoint a neutral receiver to manage or liquidate a distressed business, sometimes preserving going-concern value. 

These alternatives can be particularly effective for smaller businesses or those seeking to avoid the complexities and costs of federal bankruptcy proceedings.

Final Thoughts: Be Proactive, Not Reactive

The most successful creditors take control early rather than reacting after a bankruptcy filing.

Proactive planning, strong financial documentation, and an understanding of bankruptcy strategy can turn potential losses into recoverable assets. Creditors who act decisively—whether by securing liens, negotiating favorable terms, or participating in committees—can position themselves for maximum recoveries and minimize financial disruption. 

Now is the time to evaluate your exposure, refine your creditor protections, and consult experienced bankruptcy counsel to safeguard your interests.

If you’d like to discuss how these strategies apply to your business, feel free to reach out at tpakrouh@morrisjames.com.