Gifts That Stop Giving?: Gift Cards as an Additional Consideration For Businesses Facing Bankruptcy

11.02.2020

Retail and restaurants have been among the business sectors hit hardest during the pandemic. Such businesses account for the vast majority of gift cards sold. As retailers and restaurants struggle to survive, the question arises: what happens to gift cards when your favorite retailer or chain restaurant enters bankruptcy?

When a business files for bankruptcy, the payment of most prepetition debts is put on hold to facilitate orderly debt repayment through a Chapter 11 plan or through liquidation. While in bankruptcy, however, a business may seek court authority to pay or satisfy certain pre-bankruptcy obligations if doing so is supported by a sound business purpose.

A  bankrupt business that intends to continue operating may request authority to continue to honor its gift cards to avoid damaging the goodwill and loyalty of its patrons. State and federal consumer protection statutes that regulate the sale and redemption of gift cards are also a consideration because many consumer protection laws continue to be enforceable against debtors during a bankruptcy case. 

For these reasons, many debtors hoping to remain in business will, upon filing a  bankruptcy petition, immediately file a motion to continue honoring gift cards and other consumer loyalty programs. Bankruptcy retailers that have recently filed such motions include J. Crew, Ascena (Ann Taylor), and Pier One, all of which are in bankruptcy proceedings in the U.S. Bankruptcy Court in Richmond, Virginia.

In cases where a business is forced to liquidate, the gift card issue may become more contentious. Earlier this year, COVID-19 upended Pier One’s plans to reorganize and stay in business. As part of its liquidation process, Pier One proposed to give remaining gift card holders 21 days to redeem their cards, beginning upon the later of issuance of a bankruptcy court order approving the wind-down process or the reopening of Pier One stores. Gift card holders who failed to redeem gift cards sold prior to the bankruptcy filing may only be entitled to a general unsecured claim against the bankruptcy estate without priority treatment, as is typical of gift card holder claims under prevailing case law. 

Pier One’s plan for terminating its gift cards prompted objections from the United States Trustee (an office of the US Department of Justice) and the Texas Attorney General. Both the US Trustee and Texas AG argued that the proposed notice to gift card holders was insufficient. Pier One ultimately agreed to provide greater notice, but consumers who failed to redeem their cards in time were left holding the bag.

The bankruptcy of a gift card issuer obviously creates risks for the holders of such cards, and Pier One illustrates that card holders would be well-advised to redeem their gifts as soon as possible, in case the bankruptcy turns into a liquidation and the “gift stops giving”. Gift card issues are important not only for the retail debtor and customer goodwill, but for states enforcing consumer protection laws, lenders funding the case, potential purchasers of the business in bankruptcy, and inventory liquidators if the debtor cannot reorganize. A debtor must also consider these constituencies as it attempts to maximize value for creditors.