Character.ai's investment banker told the US Bankruptcy Court for the District of Delaware today that a prepetition sale process run by a different bank approached about 28 potential buyers and produced a single proposal that "was ultimately not deemed to be actionable," because, according to the feedback the company received, "the litigation and regulatory overhang on Character was too great." The 14-page declaration, filed by Adam Dunayer of Houlihan Capital as Docket No. 17 in case 26-11603, also discloses that Disney paid $7.5 million of its $20 million price before the bankruptcy, and that the deal carries an outside closing date of December 17, 2026.

In Short

Character.ai spent more than a year trying to find a buyer, and almost nobody wanted it because of the lawsuits and regulators circling the company. Disney has now paid part of its money in advance and taken most of the staff, and the court-run auction that follows gives other buyers about six weeks to beat that offer. If nobody steps in with a plan to keep the app running before mid-December, the chatbot that sells ad space to dozens of ad tech partners is likely to close.

A year of marketing, one proposal

The declaration is a supporting document for Character Technologies' bidding procedures motion, filed today as Docket No. 15. Its purpose is to persuade Judge Brendan L. Shannon, who was assigned to the case today according to the court docket, that a short auction is enough. To make that argument, Dunayer sets out the history of the sale effort in more detail than any earlier filing in the case.

According to the declaration, the company "has suffered from financial and operational challenges for several years leading up to the Petition Date." More than a year before the October 12 filing, it "began searching for strategic or financial acquirors or partners to provide a path to continued operations of Character.AI." In August 2025, it engaged an investment bank the declaration identifies only as the "Prior Banker" to pursue strategic and financing alternatives in parallel.

That bank, according to Dunayer, "approached approximately 28 potential parties (largely strategic and financial parties)." The response was consistent. "Character and the Prior Banker received consistent feedback in this process that, although Character's product and engaged user base were impressive, the litigation and regulatory overhang on Character was too great," the declaration states. "The Prior Banker's outreach resulted in only one proposal that was ultimately not deemed to be actionable."

The Prior Banker's engagement ended in August 2026. Houlihan was hired in September 2026. In between, the company "focused on engaging with strategic partners and undertaking operational changes to improve revenue and reduce costs."

This is the first time a filing in the case has put a number on how many parties looked at Character.ai and declined. It is also the first time the company's own advisers have attributed the lack of buyers directly to legal and regulatory exposure, rather than to the general cash pressure described in the petition. The lawsuits are well documented. PPC Land reported in December 2024 on filings in the Eastern District of Texas alleging that Character.ai chatbots engaged minors in harmful conversations, and in May 2026 Pennsylvania sued the company over a bot that presented itself as a licensed psychiatrist. In September 2025, the Federal Trade Commission ordered seven companies, including Character Technologies, to detail their child safety measures for companion chatbot products, including how they monetize engagement.

The docket adds one more data point. On the same day as the declaration, the State of Colorado filed a notice of appearance in the bankruptcy (Docket No. 12). Colorado was not among the litigants named in the petition's list of the 20 largest unsecured creditors, which included Pennsylvania and Kentucky. The notice itself does not state Colorado's interest in the case.

How Disney's deal was structured

Disney Worldwide Services, Inc. was one of two parties the company was negotiating with in September 2026, according to the declaration. A committee of independent directors, which the declaration calls the "Initial Transaction Committee," considered both proposals, including "the likelihood of the proposals being actionable, Character's ability to safely operate its platform after a transaction, the path for Character after a transaction to further maximize value, and the overall benefit to Character and its stakeholders." The second party is not named.

The committee picked Disney, and the reasons it gave are mostly about cash and payroll rather than price.

"First and foremost, the unique proposal allowed Character to reduce its personnel costs promptly because Disney agreed to hire the majority of Character's workforce, including its chief executive officer, up front and prior to the Petition Date," according to the declaration. Those employees would then be made available back to Character.ai "to provide transition services to Character for up to five months."

The second reason was money in hand. "Disney agreed to pay $7.5 million of the $20 million cash consideration up front and prior to the Petition Date, rather than at closing, $2 million of which serves as a refundable good faith deposit," the declaration states.

That sentence answers a question left open by the company's cash management motion filed earlier today. That motion disclosed a "$2,000,000 refundable deposit in connection with the proposed sale process" without naming the payer. The Dunayer declaration now identifies it as part of Disney's prepayment. It also means that $5.5 million of the $7.5 million Disney paid in advance is not described as refundable. The declaration does not say what happens to that sum if a higher bidder wins.

The terms were set out in two documents signed on September 18, 2026: an exclusivity and prepayment letter agreement, which the filing calls the EPA, and a Transition Services Agreement, or TSA. Under the EPA, Character.ai agreed to let Disney hire certain employees, to "release Disney and the transferring employees for certain matters," and to negotiate exclusively with Disney from September 18 until the petition date over the assets Disney wanted - defined in the filing as the "Disney Target Assets" - and over the transition services. The declaration does not specify which matters the release covers.

Under the TSA, according to the declaration, "Disney agreed to provide certain critical services to the Debtor for up to five months at no cost to the Debtor other than actual expenses incurred (i.e., at no charge for employee time)." Disney then "made offers to certain of the Debtor's employees and the vast majority of such employees accepted the offers."

A footnote adds a detail that matters for weighing the banker's testimony: "Given the timing of these negotiations relative to Houlihan's retention, Houlihan was not involved in these negotiations." Dunayer is therefore supporting, under oath, deal terms his firm did not negotiate.

After the EPA and TSA, the parties signed an amended and restated TSA and a stalking horse agreement for the Disney Target Assets. As described in Character.ai's own announcement on October 12, the Disney bid covers a non-exclusive perpetual license of certain intellectual property and claims, not the operating platform.

Why Disney wanted a bankruptcy

One passage explains why the transaction is happening inside Chapter 11 at all. "Through the EPA, Disney required that the transaction be subject to a chapter 11 process," the declaration states, and both agreements contemplate that the transaction "would be implemented free and clear of all claims (including successor liability), liabilities, interests and encumbrances, pursuant to Sections 105 and 363 of the Bankruptcy Code."

Read alongside the feedback from the 28 parties, the logic is plain. Buyers outside bankruptcy saw litigation and regulatory exposure they did not want. A sale order under section 363 can strip that exposure from the assets, including the risk that a buyer is treated as the successor to the seller's liabilities. Disney's condition was that it would only proceed with that protection in place.

For the plaintiffs and state attorneys general pursuing Character.ai, this shifts the question from what the company owes to what the estate can pay. Claims against Character Technologies would remain against the estate, which held about $59.4 million in cash at filing according to the cash management motion, rather than following the licensed IP to Disney.

A six-week auction and a December 17 deadline

The proposed timeline is short. According to Dunayer, "it is anticipated that this marketing and Sale Process will last nearly six weeks to ensure that the market is thoroughly canvassed and all actionable proposals are solicited."

Two constraints drive it. First, the case is being funded from cash on hand, and "the Debtor cannot afford a longer Sale Process due to the Debtor's high operating costs." Second, the Disney agreement "includes an outside date for the sale closing on or prior to December 17, 2026." Disney's willingness to serve as stalking horse is tied to that date.

The declaration does not give bid deadlines, an auction date or a sale hearing date. Those will be in the bidding procedures motion and the proposed order, which, as of this afternoon, were listed on the court docket but not available on CourtListener's public archive. A separate motion to shorten notice (Docket No. 16) was filed at the same time, which suggests the company wants the procedures heard quickly.

Houlihan's case for a short process rests on three arguments. The assets were "marketed for more than a year prepetition." The pool of buyers is small: "the unique nature of the Debtor's Assets is such that the pool of prospective purchasers is relatively limited and many potentially viable prospects for such a purchase have already been contacted." And Houlihan has done similar timelines before. The declaration cites True Value Company (Bankr. D. Del. 2024), where the sale was approved 30 days after the petition date; Corsicana Bedding (Bankr. N.D. Tex. 2022), about eight weeks; Alamo Drafthouse Cinemas (Bankr. D. Del. 2021), about nine weeks; and the Chapter 7 case of Wellstat Therapeutics (Bankr. D. Md. 2023), where an auction was held about five weeks after Houlihan was retained by the trustee.

None of those precedents involved a consumer AI product with a contested record on child safety and an estimated user base the company has put at about 163 million current and past accounts. Whether six weeks is enough for a new buyer to diligence that exposure is the question the court will be asked to accept.

What bidders get to see

Houlihan has started a post-petition process. According to the declaration, it is circulating a "teaser" with "a brief description of the Assets and the process outlined for the proposed sale, license, or disposition of the Assets," accompanied by a form non-disclosure agreement, and it has populated an electronic data room. Both are available to bidders once they sign the NDA.

The wording is slightly inconsistent. Paragraph 22 says Houlihan "has now commenced a post-petition sale process, including circulating a 'teaser,'" while the next sentence describes what will happen "When the 'teaser' is circulated." Whether the document had gone out by the time of filing is not clear from the text.

Bidders can bid for the Disney Target Assets, for other assets, or for both. That matters because the Disney license is non-exclusive. A buyer that wants to keep Character.ai running as an app, and keep selling its ad inventory, would be bidding for something Disney is not taking.

Break-up fee and more stalking horses

The declaration asks the court to approve a break-up fee for Disney but does not state the amount, which is defined in the bidding procedures motion. Dunayer describes it as "a key inducement and prerequisite" to the deal. "Without the Break-Up Fee, Disney would not have agreed to serve as stalking horse with respect to the Stalking Horse Transaction at the value reflected in the EPA, the TSA, and the Stalking Horse Transaction Agreement," the declaration states.

The procedures would also let Character.ai name "Additional Stalking Horse Purchasers" for "all, substantially all, or any subset of the Assets (including the Disney Target Assets)" and offer them the same bid protections. If several qualifying bids come in on those additional agreements, "additional auctions may be held." Dunayer expects any such buyer to ask for protections too, "as a condition of its willingness to establish a floor for bidding."

The design allows several floors for different asset pools, which fits an estate where the most valuable piece for one buyer (licensed IP) may be different from the most valuable piece for another (a working consumer product with an audience and an ad business).

The declaration also argues the alternative is worse. Without Disney, "the Debtor would not have the benefit of the TSA or a floor with respect to any sale of the Disney Target Assets and the risks of an unsuccessful chapter 11 outcome would be much greater to the detriment of the Debtor and its stakeholders, including its employees."

Houlihan Capital or Houlihan Lokey?

The filing contains a discrepancy with the petition. The board resolution attached to the October 12 petition states that "the firm of Houlihan Lokey is hereby retained as investment banker for the Company," according to the copy on the court docket. The declaration filed today identifies the banker as "Houlihan Capital, Inc." with offices at 2601 Olive Street, Suite 2500, Dallas, Texas, and its parent as "Houlihan, Inc."

The declaration describes the firm as "an internationally recognized investment banking and financial advisory firm, with offices worldwide and more than 1,900 professionals." Dunayer, according to his own account, has been a managing director at Houlihan since 2002, previously worked at Bear Stearns and was chief financial officer of Miller Industries. Houlihan has not yet filed its retention application; the declaration says it "will file an application with the Court under 11 U.S.C. §§ 327(a) and 328(a)." That application, when filed, should settle which entity is being retained. PPC Land's first article on the case named Houlihan Lokey, following the board resolution.

Two other details sit slightly awkwardly in the timeline. Paragraph 9 says Houlihan professionals have advised the company "Since September 2026," while paragraph 14 describes the September negotiations with Disney as the work of an Initial Transaction Committee, and footnote 4 confirms Houlihan had no part in them. And footnote 3 states that former Delaware bankruptcy judge Christopher Sontchi was appointed to the board on October 1, 2026, after which a Restructuring Committee of independent directors was formed to oversee "the remainder of the Sale Process and the entirety of the chapter 11 case." The petition's resolution dates that committee to October 8. The two are compatible, but they show that the committee now responsible for the auction was created about three weeks after the Disney terms were signed.

Why this matters for the ad market

For advertisers and ad tech companies, the declaration changes the reading of the case in three ways.

First, it confirms that the market already passed on Character.ai as a going concern. About 28 parties looked at it over a year, and the one proposal that came back was not actionable. That does not mean no buyer will emerge in a court-supervised sale, where liabilities can be cleaned off. But the base case in the company's own filings is a license of IP to Disney and a wind-down of the rest.

Second, the timetable is now fixed by contract. December 17, 2026, is the outside closing date for the Disney deal. Any buyer that wants to keep the app alive, along with its ads.txt-listed supply relationships, needs to surface inside a six-week window.

Third, the reason for the bankruptcy is stated plainly: liability. The trade-off between engagement and safety in companion chatbots has drawn regulatory attention across the industry, and in August 2025 44 US attorneys general warned AI companies over child safety failures. Character.ai's sale shows what that pressure costs in practice: a product with what Houlihan calls an "impressive" engaged user base that the market would not buy outside of a court process.

There are precedents for bankruptcy courts becoming venues for data and technology sales. In August 2026, Google won Spirit Airlines' bankruptcy auction for its corporate data at $10 million. Whether Character.ai's conversation data becomes part of any sale here is not addressed in the declaration, which refers only to "Assets" and the "Disney Target Assets."

Timeline

Summary

Who: Character Technologies, Inc., operator of Character.ai; Adam Dunayer, managing director at Houlihan Capital, Inc., the company's proposed investment banker; Disney Worldwide Services, Inc., the stalking horse bidder; an unnamed "Prior Banker"; and Judge Brendan L. Shannon of the US Bankruptcy Court for the District of Delaware.

What: A declaration supporting the bidding procedures motion discloses that a year-long prepetition sale effort approached about 28 parties and drew one non-actionable proposal because of "litigation and regulatory overhang"; that Disney paid $7.5 million of its $20 million price before the filing, including a $2 million refundable deposit; that Disney required a Chapter 11 sale free and clear of successor liability; and that the Disney deal has an outside closing date of December 17, 2026, with a post-petition sale process of nearly six weeks. The break-up fee amount is not stated in the declaration, and the banker's name differs from the petition's board resolution.

When: The declaration was filed today, October 13, 2026, one day after the October 12 petition. The Disney agreements were signed on September 18, 2026.

Where: US Bankruptcy Court for the District of Delaware, case 26-11603 (BLS), Docket No. 17.

Why: Character.ai says it cannot fund a longer process from cash on hand, and Disney's participation depends on the December 17 date. For advertisers and ad tech partners, the filing shows that buyers had already declined the business as a going concern, and that any bidder wishing to keep the app and its ad inventory alive must appear within weeks.