September 2018 – Dickinson Law's Inside Entrepreneurship Law Blog

Difficult Decisions: Whether to file Chapter 7 or Chapter 11 Bankruptcy and What It Will Mean for You and Your Business

By: Maureen Weidman*

Photo Credit: Sugarsweet1994/Deviantart.com

Business owners are faced with a multitude of decisions that need to be made every day. Many of these decisions are to be expected. Some of them aren’t. Sometimes, the weight of business debt can make business owners feel like they are staring down an endless dark tunnel. Unfortunately, business owners around the world are often faced with one of the hardest decisions of all: deciding whether to file bankruptcy.

This Post is aimed at teaching readers about bankruptcy and outlining the major differences between the two types of bankruptcy available for businesses: Chapter 7 and Chapter 11.

What Is Chapter 7 Bankruptcy?

Chapter 7 bankruptcy is a form of liquidation bankruptcy that is available to both individuals and businesses under the Bankruptcy Code. In liquidation bankruptcy, the debtor must put all assets into an estate. The estate is then managed by a trustee who sells the assets and distributes the proceeds to the creditors.

Most people are familiar with Chapter 7 bankruptcy in the individual context, where an individual debtor puts assets into the estate (leaving out certain exempt items like a homestead) and the rest is liquidated and distributed to creditors. Afterwards, the debtor receives a discharge and begins a “fresh start” free from debt.

Chapter 7 does not have the same end result for businesses. For businesses, there is no “fresh start” after Chapter 7 bankruptcy because businesses cannot receive a discharge from Chapter 7. Like in the individual context, the debtor puts all of the business assets into an estate and a trustee manages the estate by selling the assets and distributing the proceeds to the creditors. Meanwhile, the business owner has a passive role in a Chapter 7 bankruptcy.

Because Chapter 7 is the point of no return for business owners, many choose to avoid it for as long as possible. However, there is no shame in deciding that Chapter 7 is the best decision for your business. Many hopeful business owners begin in Chapter 11 and end up in Chapter 7 after multiple unsuccessful attempts to restart their businesses. If you have doubts that you will be able to reorganize, you may save yourself future time and anguish by filing Chapter 7. Click here for information about Chapter 7 for businesses.

How Is Chapter 11 Bankruptcy Different?

Chapter 11 bankruptcy and Chapter 7 bankruptcy have similarities, but their outcomes for businesses are like night and day. Chapter 11 bankruptcy is not liquidation, but reorganization.

Photo Credit: Personal Finance Blogg/LSS

Reorganization in the Chapter 11 context is just what it sounds like: the business gets a new lease at life under the shelter of Chapter 11 bankruptcy. One of the first protections that any debtor receives in bankruptcy is the protection of the automatic stay. Pursuant to the automatic stay, all collection proceedings must stop. This means that everything from harassing phone calls to foreclosure proceedings will come to an abrupt end.

Although the automatic stay applies in Chapter 7 as well, it is less meaningful there, since the business is effectively dying when it files for Chapter 7. In Chapter 11, the automatic stay provides some solace to business owners as they formulate plans to reorganize.

The comfort from the automatic stay is somewhat short-lived because Chapter 11 involves a great deal of work. Like in Chapter 7 bankruptcy, the business assets are transferred to an estate. Unlike in Chapter 7, in Chapter 11, the business itself is the trustee. In the Bankruptcy Code, the business is referred to as the “debtor in possession.” The debtor in possession has all the rights and powers of a trustee. This is helpful for business owners who care a great deal about their business and wish to maintain control over it.

There are several hurdles that business owners should be aware of before filing Chapter 11. One of the first challenges that business owners will have to face in Chapter 11 is creating a plan of repayment and getting that plan confirmed. In Chapter 11, the unsecured creditors must approve of the plan before it is confirmed. Also, in order for any business to succeed, it must have financing. Obtaining financing can be tricky even for stable businesses, let alone businesses that are already experiencing financial difficulties. This is why the Bankruptcy Code creates incentives to help Chapter 11 businesses get the financing they need to regroup. Click here to learn more about chapter 11 and financing.

How Do I Choose?

Choosing whether to file Chapter 7 or Chapter 11 bankruptcy may be one of the most difficult decisions a business owner can make. We have discussed some of the differences between the 2, but there are a few other considerations.

Photo Credit: Thinkstock

Chapter 7 bankruptcy is much shorter. On average, a debtor stays in Chapter 7 for about 6 months. To the contrary, Chapter 11 can take years to accomplish. Even then, the success rate of Chapter 11 is rather dismal, some scholars have estimated as little as 10%. Many businesses attempt to reorganize under Chapter 11, and when they fail, are forced into Chapter 7.

Statistics like these beg the question why any business owner would ever file Chapter 11. However, there are success stories. For major airlines, filing Chapter 11 bankruptcy may even be considered a right of passage. Ultimately, business owners must consider the consequences of both Chapter 7 and 11 and decide whether they are willing to put in the effort necessary to succeed in Chapter 11. As always, if you are considering filing bankruptcy, be sure to consult an attorney to see what options are best for you and your business.

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*This post was checked for currency on September 20, 2018 and reproduced with permission by author Maureen Weidman. Original post can be found here.

Maureen Weidman is a 2018 graduate of Penn State’s Dickinson Law. She is originally from Rochester, NY and came to Pennsylvania to attend Gettysburg College where she earned her Bachelor’s degree in English. She is now an associate at Smigel, Anderson & Sacks, LLP in Harrisburg, PA, where she practices estate planning, business planning, and tax planning.

Sources

1. See http://www.creditslips.org/creditslips/2015/04/why-has-chapter-11-failed-as-a-reorganizing-chapter-.html.
2. See 11 U.S.C. § 701, et seq.
3. See 11 U.S.C. § 1101, et seq.
4. See Michele M. Arnopol, Why Have Chapter 11 Bankruptcies Failed So Miserably: A Reappraisal of Congressional Attempts to Protect a Corporatin’s Net Operating Losses after Banktruptcy, 68 NOTRE DAME L. REV. 133, 134 n. 6 (2014).

How Should an Employer React when an Interviewee Voluntarily Gives Unwanted Information During an Interview?

By: Starlin Colon*

Most employers have heard of the dreaded interview questions that are illegal. These are questions that solicit information involving the following: age; race, ethnicity, or color; gender or sex; country of national origin or birth place; religion; disability; marital or family status; or pregnancy. Knowing this type of information is likely to make a company liable in a discrimination lawsuit. Employers need to avoid asking those types of questions when conducting an interview to protect themselves against a lawsuit. Employers who are aware of the law avoid asking these questions to make sure they are not soliciting this information. However, what happens when the interviewee gives that sort of information without being asked? What happens when the employer stays away from all those questions, but finds out about the information anyway?

Laws prohibiting discrimination

The federal government has many employment discrimination laws in place to protect persons from being discriminated against. The Equal Pay Act, for example, prohibits employers from paying different wages based on the employee’s sex if the workers perform equal work on the same type of job. Title VII of the Civil Rights Act of 1964 prohibits discrimination based on race, color, religion, sex, or national origin. This act also includes pregnancy and childbirth. The Supreme Court of the United States has held that Title VII tolerates no discrimination, subtle or otherwise. Another prominent act in the employment discrimination laws is the Age Discrimination in Employment Act. This act protects people between the ages of 40 to 65 by prohibiting employers from discriminating against them. Although some of these characteristics will be easily noticeable when the person walks into the interview, employers must keep that information out of their decision-making process.

Unfortunately, there is no way to get rid of information an interviewee gives voluntarily, even if the employer would rather not know. However, there are ways of remedying the problem so as to avoid a discrimination lawsuit. I explain two methods below.

Method one

One way to react to an interviewee’s voluntarily giving an employer information the employer does not want to know is to move on to the next question or topic. It would be easy for an employer to say, “they brought it up, not me,” and continue to talk about it. However, this mindset would still subject the employer to liability in a discrimination suit. The problem with the “illegal” questions is not the fact that the employers are asking them; the problem is that the employers find out about the information. The laws are in place to prevent an employer from discriminating based on the person’s information; this can occur whether the employer asks the questions or not. If the employer can show that he or she moved the conversation to another topic, it will be good proof that he or she was not discriminating against the person when making the hiring decision. By moving on to another topic, the employer shows that he or she had no interest in the specific information and only cared about whether the person had the skills necessary to excel at the job.

Method two

Another way of dealing with an interviewee’s giving unwanted information is for the employer to make sure that no notes are taken on that part of the conversation. It will not look good for the company, in case of a lawsuit, to have notes on information that could be used for a discriminatory purpose. The employer is not supposed to be using that information in the decision-making process, so there should not be any notes about it.

Conclusion

No matter how careful an employer is in preparing for the interview and avoiding questions that would solicit information prohibited under the Employment Discrimination Laws, some candidates will volunteer this information. Although employers cannot forget the information, they can eliminate it as a discussion point and hiring factor. Proving that the employer did not solicit the information and ignored it when it was volunteered is a very strong indicator that the employer did not take the information into account while making the hiring decision. The company would be able to defend itself well in a lawsuit if it can prove the information volunteered by the employee was not used in decision-making. Employers, unfortunately, do not have many options when dealing with information volunteered by the interviewee. The main thing they can do to protect themselves is to act like it was never said and avoid continuing the topic in their conversation.

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*This post was checked for currency on September 12, 2018 and reproduced with permission by author Starlin Colon. Original post can be found here.

Starlin Colon, at the time of this post, is a third year law student from Penn State’s Dickinson Law. Originally from the Dominican Republic, he plans to take the bar exam in Pennsylvania. A Penn State grad, he is interested in business transactional law.

References

https://www.thebalance.com/job-interview-questions-that-are- illegal-1918488

Equal Pay Act

88 P.L. 38, 77 Stat. 56

Title VII

McDonnell Douglas Corp. v. Green, 93 S. Ct. 1817, 1824 (1973)

Age Discrimination Act

90 P.L. 202, 81 Stat. 602

Photo Source

https://www.best-job-interview.com/illegal-interview-questions.html

Royalties & Recording Contracts: How to Make Money and Keep Artists Happy

By: Devon Kenefick*

As small businesses, independent record labels need all the money they can get to put back into their business. Royalties detract from profits but are necessary when creating a contract with artists/bands. Artists will not work for free and labels should ensure that the artist will continue doing business with them.

How Do Royalties Work?

Artists are paid a percentage of each album sold, which is determined, and negotiated, by the artist and the label in the recording agreement. Typically, the percentage ranges between 10% and 20%, with newer artists seeing the lower end of the range. The artist or band may receive an advance in royalties prior to the label making money from CD sales, with this advance being returned to the label, a process called “recoupment.” When the time comes for the artist to receive royalty payments, the band manager also takes a percentage, and the remaining money is divided among any band members.

This system can be problematic to artists whose albums do not go “gold” (500,000 albums sold) or “platinum” (1,000,000 albums sold), and labels only have a 1-in-20 chance of producing a gold or platinum album. So, when deciding on how to calculate royalties, a record label owner needs to consider: the percentage, how this percentage is calculated (wholesale or retail), any recording expenses imposed on the artists, and any advances paid as well as if they want the artist to stay with them.

If this royalty system does not sound right for your label, you might consider a mutually beneficial approach. Independent labels sometimes split the net profits of an album (either 50/50 or otherwise) with the artist. To determine net profits, the label takes the gross sales of albums sold and deducts its direct costs which include production costs, packaging and shipping, marketing, storage, legal, taxes, and personnel costs.

Another thing to remember is that royalties are paid to the recording artist as well as the songwriter. If these artists are separate people, then the royalties are going to be smaller for both individuals. The recording artist and songwriter are paid royalties from CD sales, but only the songwriter receives royalties when the recording artist gives a public performance.

Royalties is a key provision in the recording agreement and artists in the music industry are typically unhappy with the traditional system which favors the label’s success over the artist’s. If you are in the business to make money as well as build relationships, then it may be in the label’s best interest to negotiate fairly.

Why Does My Label Need Recording Contracts?

Recording contracts between the label and the artist are extremely important because they establish the professional relationship between the two parties and are legally binding. While it may be tempting to find a contract template online to use for your label, it is crucial to understand what every provision in the agreement means. It is also important to understand that contracts are between the artist and the label as a company, not between the artist and the label owner. Labels also need to realize that these agreements create specific obligations for both parties. Basically, artists agree to record an album in exchange for royalties.

Arguably, the most important clause in the contract is “exclusivity,” which requires the artist to sign to your label only. The label has exclusive rights to the artist’s music, name, merchandising, image, and likeness for the entirety of the contract. If an artist wants to appear on another artist’s track (who is signed to another label), then the artist should negotiate what is known as a “sideman” provision.

Other provisions of the agreement include: the territory; the length of the agreement; rights granted; advances and royalties; recording costs; warranties; and termination, to name a few.

Contract Provisions

Usually, recording agreements are for year-terms which allow the label to extend the contract if the artist does well after the release of an album. Artists may be contractually required to release a certain number of albums in a particular period of time. For example, the first term of the contract might be for the first album, the second term for the second album, and so on. As a new and small business, it might be a better idea to give your label this type of flexibility when creating recording agreements with new artists.

Artists also assign the copyright in their music to the label. The label will own the copyright in the sound recording once the track/album is recorded. The label owns this copyright for 50 years from the date of its release, and the same goes for any unreleased recordings. There may also be a contract provision on licensing, allowing the label to license the album or song to others, but it may owe a fee to the artist depending on the contractual language. A label may also want to include what is known as a “lock-out” clause which prevents the artist from re-recording any of the songs on the album, and unreleased tracks, for 5 to 10 years following the end of the contract.

Recording costs can also be a point of contention since it is common for a label to charge artists for a variety of costs associated with the production of an album, such as promotion costs, music video production, and touring expenses. The costs may be deducted from the artist’s royalties before they even receive them. Keep in mind that independent labels typically spend around $15,000 when making a record, depending on the associated costs.

As a small business owner, it is up to you how to craft recording agreements and how flexible you want to be with various provisions, such as royalties. Following traditional approaches taken by larger labels will yield more profit, but might scare away potential artists from signing with you. So, it is best to seek advice from outside counsel and ultimately determine what is best for your company.

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*This post was checked for currency on September 7, 2018 and reproduced with permission by author Devon Kenefick. Original post can be found here.

Devon Kenefick, at the time of this post, is a third year law student at Penn State’s Dickinson Law. Originally from Maryland, she plans to take the bar exam in Maryland. She is interested in Business Law, Intellectual Property Law, and Entertainment Law. She is currently the Student Bar Association Secretary and a member of the Intellectual Property Society. A more complete bio can be found here.

Sources:

Photo: https://www.maxpixel.net/Picture-Stan-Record-Sheet-Music-Music-Disco-1428660

https://www.soundonsound.com/music-business/recording-contracts-explained

https://entertainment.howstuffworks.com/recording-contract2.htm

https://entertainment.howstuffworks.com/music-royalties6.htm

https://www.taxi.com/music-business-faq/music-business/money-record-companies.html

http://www.mccormicks.com.au/blogs/record-deals-how-music-royalties-are-calculated-on-record-sales

http://smallbusiness.chron.com/divide-percentages-record-label-39258.html

https://www.thebalance.com/indie-label-contracts-2460760

Crowdfunding: Don’t Promise What You Can’t Deliver

By: Cameron Plaster*

Social entrepreneurs have always had difficulty raising capital to fund their cause. Unlike most business entrepreneurs who address current market deficiencies by introducing new products or ideas, social entrepreneurs tackle hypothetical, unseen, or even more controversial issues. Naturally, investors are much less willing to support risky ventures that address the latter. Investors also expect a return on their investment – something that is nearly impossible to guarantee when the purpose of an organization is a social cause. As a result, social entrepreneurs have turned to the internet to solve their funding problem.

Crowdfunding has gained popularity through websites such as Kickstarter, GoFundMe and Indiegogo, all of which allow fundraising for social entrepreneurs from online donors. For the first time, social entrepreneurs are able to secure much needed capital – typically small amounts from many people – to forward their causes with ease. In return for their pledges, these “backers” are often promised rewards (possibly a product or service) that they will receive once the fundraising goal is met. However, as simple as it may sound, crowdfunding can result in legal trouble for social entrepreneurs who do not take their promises seriously.

What Kind of Legal Trouble Could I Be Facing?

Despite being a relatively new concept, crowdfunding has attracted the attention of the Federal Trade Commission, the government agency responsible for protecting consumers. In 2015, the FTC settled a case against the creator of a crowdfunding project who did not keep his promises. Erik Chevalier sought money from consumers to produce a board game called The Doom That Came to Atlantic City. Through the online crowdfunding platform Kickstarter, Chevalier raised more than $122,000 from 1,246 backers. To attract backers, Chevalier promised that if he raised $35,000, backers would receive certain rewards, such as a copy of the board game or specially designed game figurines. After 14 months, Chevalier announced that he was cancelling the project and refunding his backers’ money.

Wait… So How Did He Get into Trouble?

Unfortunately for the backers, Chevalier did not provide the promised rewards or any refunds. According to the FTC complaint, Chevalier spent most of the crowdfunded money on personal expenses. The FTC brought a claim against Chevalier for his deceptive actions and misrepresentations. Chevalier ended up settling the claim against him.

What Happened to Him?

Under the settlement order he agreed to, Chevalier is prohibited from making misrepresentations about any crowdfunding campaign and from failing to honor stated refund policies. Furthermore, he is barred from disclosing or otherwise benefiting from customers’ personal information, and failing to dispose of such information properly. Most importantly, Chevalier’s settlement imposes a $111,793.71 judgement against him that is currently suspended due to his inability to pay. If it is found that he misrepresented his financial condition, the full amount becomes due immediately.

What Does This Mean for Me?

This action against Chevalier represents the growing concern the FTC has with crowdfunding. According to Jessica Rich, the director of the FTC’s Bureau of Consumer Protection, “…consumers should be able to trust their money will actually be spent on the project they funded.” In a Twitter Q&A, the FTC explained that it hopes the Chevalier settlement will deter bad actors from using crowdfunding platforms such as Kickstarter.

How Can I Ensure I Crowdfund Properly?

The FTC has provided us with two tips, both of which should be followed by any social entrepreneur looking to crowdfund their cause online:

Keep your promises while crowdfunding; AND
Use the money raised from crowdfunding only for the purpose represented.

The first tip is simple – if you promise something, you need to make sure you deliver on that promise. You promised rewards? Give them. You promised refunds? Provide them. The second tip is almost as simple as the first. If you collect money for a specified cause, like providing clean water to those who need it, use the money only for that purpose.

But What If I Can’t Deliver on a Promise?

In the same Twitter Q&A mentioned earlier, the FTC stated that failing to deliver a product by itself may not be enough to qualify as a misrepresentation under the FTC Act. Don’t worry if you aren’t able to further your cause and keep your promise. Provide refunds to those who donated and try your best to follow through with what you promised. Above all, maintain transparency and be honest with those who gave to your cause.

Is the FTC the Only Thing I Have to Worry About?

No. Read the terms of service of your online crowdfunding platform very carefully and ensure that you comply with those terms. Under Kickstarter’s current terms of service, creators who fail to meet their obligations “may be subject to legal action by backers.” To meet your obligations, simply follow the FTC’s advice. Good luck.

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*This post was checked for currency on August 30, 2018 and reproduced with permission by author Cameron Plaster. Original post can be found here.

Cameron Plaster, at the time of this post, is a third year law student from Penn State’s Dickinson Law. He is from Modesto, California and a graduate from the University of California, Irvine. He hopes to practice in Entertainment Law in Los Angeles post-graduation. A more complete bio can be found here.