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Legal and Practical Issues for Restructuring and Insolvency in the UAE

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Legal and Practical Issues for Restructuring and Insolvency in the UAE INSOL WORLD The Quarterly Journal of INSOL Internationa l First Quarter 2010 US$25 Legal and Practical Issues for Restructuring and Insolvency in the UAE At the hearing, the Court may declare the company to By Tim Ross and be bankrupt, and it may appoint a monitor (trustee in Christian Adams bankruptcy) to assume control of the company’s assets for distribution amongst its approved creditors. Latham & Watkins Creditors are prohibited from pursuing claims against LLP the company after the declaration of bankruptcy, with Dubai, UAE the exception of secured creditors who may be permitted to enforce their security interests notwithstanding a declaration of bankruptcy. Composition schemes with creditors A company may avoid the consequences of a The Federal laws of the United Arab Emirates (the “ UAE ”) declaration of bankruptcy if it is able to negotiate a provide a framework for the reorganisation, liquidation and bankruptcy of insolvent companies and individuals in each composition or settlement with its creditors prior to any of the seven Emirates. The regime applicable to companies adjudication proceedings (a “ Protective Composition ”). remains largely untested as we have not yet seen a major corporate insolvency brought within court-supervised A Protective Composition is available to any company other proceedings in the UAE. Given the uncertainty surrounding than a joint-stock company or a company in liquidation the application of the regime, financially troubled entities in whose business activities or financial stability is disrupted in the UAE and their creditors have sought, and are likely to a manner which leads to a cessation of payment of debts. continue to seek, consensual reorganisations rather than Provided the company has traded continuously for one year, turn to formal legal proceedings. and has complied with all applicable laws, it may apply to the Court within 20 days of “cessation” for a Protective This article provides a summary of the UAE regime and Composition in order to prevent bankruptcy. Any highlights some of the practical issues typically encountered composition proposal must provide for at least 50 per cent in restructurings and insolvencies in the Emirates. of the company’s outstanding debts to be paid within three years from the date of acceptance of the composition. THE UAE INSOLVENCY REGIME Upon a Protective Composition filing, all bankruptcy Bankruptcy procedures proceedings, other claims and enforcement actions relating The UAE bankruptcy regime is set out in Book Five of the to the company are automatically stayed, and the Court Commercial Transaction Law (Federal Law No.18 of 1993) may make protective orders in order to preserve the (the “ Commercial Code ”). The bankruptcy laws and company’s assets until the application for composition is procedures apply to all ‘traders’, including any company. A determined. The Court will also appoint a composition ‘company’ for this purpose is one that undertakes a monitor (trustee) to supervise the composition procedure, commercial activity or takes one of the forms stipulated in although the company retains the right to manage its assets the UAE Companies Law. and business under the supervision of the monitor. With the approval of its shareholders, a company may voluntarily file for a declaration of bankruptcy if it is not able Creditor acceptance of composition schemes to pay its debts. A company is legally obliged to file for a A Protective Composition proposal must be accepted by a declaration of bankruptcy within 30 days of the date on simple majority of the creditors who attend the meeting which it first ceases to pay its debts. Any failure to do so and vote in respect of the proposals, provided that the results in ‘negligent bankruptcy’, a criminal offence under majority represents at least two thirds of the value of the the UAE Penal Code. debts of the company. Non-attending creditors are not counted in determining whether a simple majority has The creditors of the company, the public prosecutor and the been reached. The Commercial Code prohibits creditors Court acting under its own initiative may seek a declaration from voting their secured debts, unless a creditor agrees of bankruptcy in respect of a company. In order for a to forego their rights as secured creditor and join the class creditor petition to succeed, the Court must be satisfied that of unsecured creditors. the company has “ceased to pay its debts” as a result of financial difficulties. Where a company has issued bonds of an aggregate After a bankruptcy application is submitted, the Court must amount exceeding 20% of the amount of its total debt, the take steps to preserve the company’s assets. The Court will composition scheme requires approval by the general make investigations (with the assistance of experts, if assembly of bond holders in accordance with the procedure required) into the financial affairs of the company and the set out in the UAE Companies Law (if the composition is reasons for the failure to pay its debts. After concluding its inconsistent with the terms of the bonds) before the creditors’ investigations and resolving any preliminary disputes, the meeting is convened. This is likely to require a quorum of Court will fix a date for the bankruptcy hearing. The Court bondholders representing at least 75% of the value of the will order that all creditors must notify the Court of any debts bonds and the approval of bondholders representing at least prior to the hearing. 50% of the value of the bonds at the meeting. 15 INSOL World – First Quarter 2010 Voidable transactions PRACTICAL ISSUES ENCOUNTERED IN THE UAE Following a declaration of bankruptcy, certain transactions are capable of being set-aside or annulled by the Court: the Cultural stigma giving of gifts, the payment of debts prior to the repayment Historically, market participants in the UAE and the wider date, the payment of debts with something other than that MENA region have not recognised business failure as being agreed upon or the provision of security or guarantees for an integral element of a healthy business environment. a pre-existing debt. Any other transaction which is Ineffective insolvency systems appear to have promoted detrimental to the company’s combined creditors may be antagonism between debtors and frustrated creditors, set aside by the Court if the contracting party was aware at resulting in the perpetuation of a punitive culture towards the time of the transaction that the company had ceased to debtors. Debtors are extremely reluctant to consider pay its debts. insolvency procedures for fear of being labeled “criminal”, “fraudulent” or “dishonest”. The ‘suspect period’ for such transactions is set by the Whilst effective insolvency systems ought to punish those Court when it determines the date of cessation of guilty of behaving fraudulently, recklessly or dishonestly, payments. The Court should fix the date of cessation based there should also be scope for cases of genuine business on the facts, although it may not fix the date of cessation failure to be treated in a fair and respectful manner. earlier than two years prior to the declaration of bankruptcy. The combined creditors may seek to unwind any suspect Institutional capacity transaction, and the contracting party must return anything obtained from the bankrupt together with any profits and Court systems play a central role in any effective fees received in connection with the transaction. insolvency regime. It has been widely observed that the current Court system in the UAE would find it challenging to oversee complex bankruptcy and re-organization The laws relating to the dissolution and liquidation of proceedings, both in terms of the infrastructure of the companies discussed below do not specifically Courts and judicial capacity. provide for ‘suspect periods’ nor the cancellation of antecedent transactions. The Emirate of Dubai has taken steps to enhance its institutional capacity through, initially, the establishment of Company liquidation the DIFC Courts, and more recently the creation of The UAE Commercial Companies Law (Federal Law No.8 of dedicated tribunals for disputes that may arise in respect of 1984) sets out the circumstances in which a company may Dubai World or in respect of Islamic mortgage providers be dissolved. The most relevant trigger for this procedure is Amlak and Tamweel. a substantial loss of capital. Limited availability of Protective Compositions Where a joint stock company incurs losses amounting to A Protective Composition allows for the management of a 50%. or more of its capital, the board of directors of the financially distressed company to retain control of the company must convene an extraordinary general meeting company through composition proceedings. As such, it of its shareholders to consider the continuation or would appear to be an attractive alternative for dissolution of the company. In circumstances where the management seeking to turnaround a company with the board fails to do so or the general assembly fails to adopt a agreement of a majority of its creditors. However, joint stock resolution on the issue, any interested party may initiate companies are excluded entirely from the protective proceedings for the dissolution of the company. composition regime. In addition, a composition must provide for at least 50% of the debts of the company to be Similarly, the board of directors of a limited liability repaid within three years. In practice, these somewhat company which suffers losses amounting to 50% or more of arbitrary restrictions rule out Protective Composition as a its capital is obliged to put the dissolution of the company viable alternative in many cases. to the general assembly of its members for their consideration. Further, if a limited liability company sustains Director dilemmas in the absence of an objective losses amounting to 75 per cent or more of its capital, definition of “insolvency” or “cessation” members holding 25 per cent or more of the company’s The Commercial Code does not include an objective capital may resolve to dissolve the company.
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