Corporate Recovery & Insolvency 2017

ICLG The International Comparative Legal Guide to: Corporate Recovery & Insolvency 2017

11th Edition

A practical cross-border insight into corporate recovery and insolvency work

Published by Global Legal Group, in association with INSOL International, with contributions from:

Ali Budiardjo, Nugroho, Reksodiputro Lenz & Staehelin Barun Law LLC McCann FitzGerald BlackOak LLC McDermott Will & Emery UK LLP BonelliErede Nishimura & Asahi Bredin Prat Paul, Weiss, Rifkind, Wharton & Garrison LLP Campbells Pekin & Pekin De Brauw Blackstone Westbroek N.V. Pinheiro Neto Advogados Dhir & Dhir Associates Schindler Attorneys Gall Sedgwick Chudleigh Ltd. Gilbert + Tobin Slaughter and May Gorrissen Federspiel SOG / Samardžić, Oreški & Grbović Hannes Snellman Attorneys Ltd Soteris Flourentzos & Associates LLC Hengeler Mueller Partnerschaft von Sullivan & Cromwell LLP Rechtsanwälten mbB Thornton Grout Finnigan LLP INFRALEX Knowles Husain Lindsay Inc Kubas Kos Gałkowski Kvale Advokatfirma DA The International Comparative Legal Guide to: Corporate Recovery & Insolvency 2017

Editorial Chapter:

1 INSOL International – An Overview – Adam Harris, INSOL International 1 General Chapters:

2 The EU Harmonisation Agenda and the Draft Harmonisation Directive – Tom Vickers & Nicky Ellis, Slaughter and May 4 Contributing Editor Tom Vickers, Partner, 3 Liability Management as a Restructuring Tool – Chris Beatty & Vanessa Blackmore, Slaughter and May Sullivan & Cromwell LLP 7 Sales Director 4 Cross-Border Insolvency Laws Relating to Security: a UK Perspective Ahead of Brexit – Florjan Osmani Alicia Videon & Emma Jolley, McDermott Will & Emery UK LLP 13 Account Director Oliver Smith Country Question and Answer Chapters: Sales Support Manager Paul Mochalski 5 Australia Gilbert + Tobin: Dominic Emmett & Alexandra Whitby 20 Editor 6 Austria Schindler Attorneys: Martin Abram & Florian Cvak 27 Sam Friend 7 Bermuda Sedgwick Chudleigh Ltd.: Alex Potts & Mark Chudleigh 33 Senior Editors Suzie Levy, Rachel Williams 8 Brazil Pinheiro Neto Advogados: Luiz Fernando Valente de Paiva & Chief Operating Officer André Moraes Marques 42 Dror Levy 9 Canada Thornton Grout Finnigan LLP: Leanne M. Williams & Puya J. Fesharaki 47 Group Consulting Editor Alan Falach 10 Cayman Islands Campbells: Guy Manning & Guy Cowan 54 Publisher 11 Cyprus Soteris Flourentzos & Associates LLC: Soteris Flourentzos & Evita Lambrou 61 Rory Smith 12 Denmark Gorrissen Federspiel: John Sommer Schmidt & Morten L. Hans Jakobsen 68 Published by Global Legal Group Ltd. 13 England & Wales Slaughter and May: Tom Vickers & Nicky Ellis 74 59 Tanner Street London SE1 3PL, UK 14 France Bredin Prat: Nicolas Laurent & Olivier Puech 81 Tel: +44 20 7367 0720 Fax: +44 20 7407 5255 15 Germany Hengeler Mueller Partnerschaft von Rechtsanwälten mbB: Email: [email protected] Dr. Ulrich Blech & Dr. Martin Tasma 87 URL: www.glgroup.co.uk GLG Cover Design 16 Hong Kong Gall: Nick Gall & Ashima Sood 95 F&F Studio Design 17 India Dhir & Dhir Associates: Alok Dhir & Bhuvan Arora 100 GLG Cover Image Source iStockphoto 18 Indonesia Ali Budiardjo, Nugroho, Reksodiputro: Theodoor Bakker & Herry N. Kurniawan 107 Printed by Stephens & George 19 Ireland McCann FitzGerald: Michael Murphy & Grace Armstrong 112 Print Group June 2017 20 Italy BonelliErede: Vittorio Lupoli & Lucio Guttilla 118 Copyright © 2017 21 Japan Nishimura & Asahi: Yoshinori Ono & Hiroshi Mori 126 Global Legal Group Ltd. All rights reserved 22 Korea Barun Law LLC: Thomas P. Pinansky & Joo Hyoung Jang 133 No photocopying 23 Netherlands De Brauw Blackstone Westbroek N.V.: Reinout Vriesendorp & ISBN 978-1-911367-58-1 Ferdinand Hengst 140 ISSN 1754-0097 24 Norway Kvale Advokatfirma DA: Stine D. Snertingdalen & Ingrid E. S. Tronshaug 145 Strategic Partners 25 Poland Kubas Kos Gałkowski: Dominik Gałkowski & Konrad Trzaskowski 151 26 Russia INFRALEX: Artem Kukin & Stanislav Petrov 157 27 Serbia SOG / Samardžić, Oreški & Grbović: Miloš Velimirović & Nevena Milošević 163 28 Singapore BlackOak LLC: Ashok Kumar & Samuel Ng 168 29 South Africa Knowles Husain Lindsay Inc: Ian Lindsay 174

PEFC Certified 30 Sweden Hannes Snellman Attorneys Ltd: Paula Röttorp & Carolina Wahlby 179

This product is from sustainably managed forests and 31 Switzerland Lenz & Staehelin: David Ledermann & Tanja Luginbühl 185 controlled sources

PEFC/16-33-254 www.pefc.org 32 Turkey Pekin & Pekin: Gökben Erdem Dirican & Umut Korkmaz 193 33 USA Paul, Weiss, Rifkind, Wharton & Garrison LLP: Alan W. Kornberg & Elizabeth R. McColm 201

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WWW.ICLG.COM Chapter 1

INSOL International – An Overview

INSOL International Adam Harris

I am grateful for the opportunity for INSOL International to immensely rewarding experience: “The teaching really takes contribute to this publication. This gives us a window to be able to off where the textbooks and cases end, giving you a first-hand showcase some of the activities and projects of INSOL International insight from the experts of the law and practice of cross- which will be of interest to the readers of this global publication. We border insolvency and the strategy and tactics that go into have selected a small sample of those below. The reach and scope is achieving successful cross-border insolvency proceedings and truly international, and the activities and publications featured will restructurings… I can’t imagine any other forum exists for be informative and valuable to the readers who have, or aspire to, 20 practitioners from around the world each working at the such a profile. coalface of their local restructuring and insolvency market, to get together over a number of months to discuss and debate in detail the intricacies of the international framework of insolvency law.” INSOL International Global Insolvency The World Bank Group has also endorsed the programme. Practice Course Mahesh Uttamchandani, Practice Manager for SME Access to Finance and Credit Infrastructures, Finance & Markets, comments An underlying theme of the background to the work which INSOL that “the fellowship programme will be a very rewarding undertakes is that our members are able to operate globally. As we investment towards a successful career, both through helping all know, modern business enterprises often conduct business across the development of professional skills and through fostering a multiple jurisdictions. It is generally the case that the financial greater understanding of different jurisdictions’ cultures and distress of a global business traverses borders and that it can no systems”. longer be dealt with in terms of the insolvency regime of only one One of the course leaders, Professor Ian Fletcher of University particular jurisdiction. In fact, the ever-growing number of cross- College London remarked that the programme is “designed and border insolvency cases continues to present new challenges to the taught by an international faculty of highly distinguished turnaround and insolvency professionals. Not only do they have experts… It answers a long-felt demand for a benchmark to be skilled in the provisions of their own jurisdictions, but, in qualification to identify those practitioners who are in the front addition, they need to have a thorough and extensive knowledge rank of transnational insolvency practice in today’s challenging of the multinational aspects (both legal and financial) with which a market place”. distressed entity operating across borders is faced. The INSOL International Global Insolvency Practice course (also known as the Fellowship Programme) was created pursuant INSOL International Technical Publications to an interest which was displayed by the INSOL membership for an advanced educational qualification which has a focus on INSOL International produces a number of high-quality technical international and cross-border insolvency matters. The Fellowship papers and research works every year. For an indication of what is course was designed to provide such knowledge and expertise. available, visit the INSOL International website (www.insol.org). By the way, our website is undergoing a complete revamp, as to the The course has been one of the most successful projects undertaken look and feel, the ease of navigation, and a whole new approach to by INSOL International, and the Fellows have become ambassadors the management of member services and data. The new site will go for INSOL. They are known as leaders in their field and although live later this year. they are mostly younger practitioners, they have through undertaking the course, developed a close network enabling them to leverage off Although the publications are many and varied, some of the seminal the strengths and contacts of the entire group. Further, the cross- works which have recently been produced are especially worth referral of work is one of the positive spin-offs to the Fellows. The noting. course is exclusive and enrolment on an annual basis is limited to 20 participants. The Fellows have created a talent-pool from which Directors in the Twilight Zone a number of participants in the development and presentation of diverse technical programmes, such as INSOL’s various conferences The Fifth Edition of “Directors in the Twilight Zone” was published and seminars, have been drawn. This gives INSOL the benefit of the in early May. The work addresses the risks which are faced by availability of young, dynamic talent, and gives the individual and the controllers of companies in the “twilight zone” of insolvency. his or her firm the benefit of the international exposure. The publication takes its name from the uncertain and challenging The feedback from those undertaking the course is hugely positive. period when a company becomes financially distressed, and when One of the Fellows comments that the fellowship course is an it is uncertain whether or not a formal bankruptcy will eventuate or

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whether it will be possible to resolve the matter between the various The revised Statement of Principles has also been endorsed by the stakeholders on a consensual basis. World Bank, a global standard-setter. Gloria Grandolini (Senior The publication features contributions from various jurisdictions Director – Finance and Markets Global Practice) noted that the around the globe. The newest edition not only updates and refreshes World Bank recognised the importance of the timely and effective the content, but also adds 10 new countries to the list. Most recently resolution of non-performing loans. The World Bank was pleased added are the Bahamas, Belgium, the Cayman Islands, Colombia, to again endorse the “vital update” of the Statement of Principles, Estonia, Greece, Indonesia, Singapore, South Africa and the UAE. as it had done with the first iteration thereof: “INSOL is to be commended for this timely contribution to the evolving debate The Fifth Edition has now, for the first time, been published in e-book regarding the design and operation of insolvency systems, as well format and this will allow INSOL to ensure that the individual as for its long standing commitment to the global enhancement of contributions can be updated as and when there are developments awareness and best practice within the international professional which require this, and to add to the jurisdictions presently reviewed. community.” We have already had offers to contribute additional chapters since the work was published. From INSOL’s perspective, we are proud to note that the Principles are regularly referred to by governments and financial organisations around the world. Statement of Principles for a Global Approach to Multi-Creditor Workouts Conferences and Seminars INSOL has also published the Second Edition of its seminal work, the INSOL International Statement of Principles for a Global A visit to the website will also give a taste of the many and varied Approach to Multi-creditor Workouts. activities and programmes which INSOL International presents annually. This year saw the showcase 2017 Congress in Sydney, The first iteration of the Statement of Principles was published some Australia, attended by some 1,000 people. Apart from the high 16 years ago. It was produced by the collective effort of the INSOL quality programme and the networking opportunities, it also International Lenders Group (“IILG”), a diverse group from around provided a platform for numerous ancillary activities. the world. The Statement of Principles was endorsed by the Bank of England, the World Bank and the British Bankers Association. A number of regional seminars are also presented on an annual basis, such as in São Paolo. We have our first one day seminar Effectively, the Principles embodied in the report were designed in Israel, to take place in Tel Aviv on 27 June 2017. This is being and developed to be regarded as statements of best practice for all presented jointly with INSOL Europe. It promises to be an exciting multi-creditor workouts. The intention is that these principles will programme, set against the background of a vibrant society in a be applicable equally in all jurisdictions and would form the basis country steeped in history. upon which local multi-creditor workout principles are formulated having regard to local law, custom, and practice. During the period since its first publication, the Statement of INSOL’s Work in Developing Economies Principles has been utilised in multiple rescues and workouts around the globe and is in fact still a source of reference by governments It is important to note that INSOL is by no means only active in the and financial institutions. more developed jurisdictions. INSOL is also active in developing jurisdictions and regions such as the MENA Region, Asia and Taking account of the fast-changing pace of the commercial Africa. One of the well-established projects is the Africa Round world, there have, of course, been significant developments during Table, held each year in a different African jurisdiction. The Project the period since the publication of the First Edition. The IILG in now in its seventh year. has reviewed and updated the Statement of Principles to ensure that it adequately reflects the complex cross-border world of The Project brings together (by invitation only), policy-makers today’s commercial activities, and that it is applicable to financial and legislators, as well as regulators, judges and practitioners. The restructurings far more complex than was the norm when the Project creates a forum within which to debate common issues on a Principles were first published. peer-to-peer basis, and to discuss and learn about best practices in the international arena. The IILG itself has a broad world view, and includes representatives from numerous lenders in different jurisdictions around the globe, INSOL presents the Africa Round Table jointly with the World representing interests as geographically diverse as Abu Dhabi, Bank Group, and this greatly enhances the depth and breadth of the Australia, the United Kingdom, the United States of America and programmes presented. The range of issues addressed over the life others. of the Africa Round Table is extensive. From discussion surrounding the most appropriate legislative structures for countries considering The revised statement of principles has been welcomed by the reforms of their insolvency systems, to the implementation of the Bank of England and the IILG was commended by Governor system designed. The Africa Round Table recognises the philosophy Mark Carney for directing the global conversation around best that there is no “one size fits all” model, which enhances the debate practices for creditors of companies in distress. In his letter of and discussion around tailored best practice solutions. endorsement, Governor Mark Carney welcomed the release of the updated principles: “The INSOL lenders group continues to The Africa Round Table has been immensely successful, and lead the global discussion around best practice for creditors feedback from the delegates has shown that the dialogue was not of a financially distressed company. Experience suggests that just that of a talk-shop, but that it has made a positive contribution to a collective approach, such as the one advocated, can help the reform of the various systems, and the ability to implement such preserve value to the benefit of the creditors as a whole and reforms. It has also been an interesting platform for interaction with other stakeholders in the company.” the practitioners who attended the second “open” day. This year, the Project will be hosted in Mauritius on 9 and 10 November 2017.

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Executive Committee), embodies the drive to reinvent ourselves, The Future and to remain not just relevant, but cutting edge. A range of goals has been set, and a time-line developed for the implementation Despite a proud 35-year history, INSOL is aware of the need to thereof. Reaching the milestones set will greatly enhance the grow and develop and that continual introspection and redesign is delivery of valuable, technically excellent products and services that essential to keep us at the forefront. The Task Force 2021 project are relevant and timely. (under the leadership of Scott Atkins, a Fellow and member of the

Adam Harris INSOL International / Bowmans 22 Bree Street Cape Town, 8000 South Africa

Tel: +27 21 480 7837 Email: [email protected] URL: www.bowmanslaw.com www.insol.org

Adam Harris is a Director of Bowmans, South Africa, and specialises in business restructuring, insolvency and related fields. He is the current President of INSOL International. Adam represents lenders and creditors, such as a number of major banks, and other institutions such as professional indemnity insurers, as well as business rescue and insolvency practitioners in various aspects relating to the restructuring or winding up of companies and the administration of insolvent estates. He has represented international practitioners and creditors in various cross-border matters, to obtain recognition, and in relation to asset tracing, the valuation of such assets, and the ultimate disposal thereof and the repatriation of the proceeds. In the course of representation of creditors and business rescue practitioners, Adam has dealt with various aspects such as the rights of creditors given the moratorium established on commencement of the formal proceedings, post-commencement (DIP) finance, the ranking of claims, and the formulation and implementation of rescue plans. Adam has attended to some of the leading cases on different aspects of winding up, insolvency and business restructuring such as the constitutionality of interrogations, impeachable transactions (claw- backs), procedural aspects of winding up applications, the interpretation of the Business Rescue legislation and insolvency practitioners’ remuneration. He is one of the co-authors of “Mars: The Law of Insolvency” (9th Ed), a leading insolvency text in South Africa.

INSOL International is a worldwide federation of national associations for accountants and lawyers who specialise in turnaround and insolvency. There are currently over 40 Member Associations worldwide with over 10,000 professionals participating as Members of INSOL International.

Copyright © No part of this document may be reproduced or transmitted in any form or by any means without prior permission of INSOL International. The author accepts no responsibility for any loss occasioned to any person acting or refraining from acting as a result of any view expressed herein.

INSOL, INSOL INTERNATIONAL, INSOL Globe are trademarks of INSOL INTERNATIONAL.

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The EU Harmonisation Agenda and the Draft Tom Vickers Harmonisation Directive

Slaughter and May Nicky Ellis

In 2015, after some years of negotiation, a recast EUIR was adopted 1 Introduction – The Harmonisation (the majority of changes will take effect from 26 June this year). The Agenda scope has been expanded to include more restructuring proceedings, key concepts (most notably that of COMI) are clarified in line with Ever since the financial crisis, governments, practitioners and EU case law, and a new concept of group co-ordination proceedings international organisations have been anticipating the next big is introduced (but this is voluntary – insolvency practitioners wave of restructurings and asking whether their ‘tool boxes’ are of group companies can opt out). These changes are very much fit for purpose. Some states have already implemented reforms, incremental, and the final version of the recast regulation is a much including the introduction of new restructuring procedures. In other watered-down version of the original proposal. Both the existing jurisdictions, including the US and UK, reviews have been undertaken EUIR and the recast regulation are a testament to the complexities to assess the effectiveness of existing regimes, or certain aspects of of any alignment of the law in this area. them. However, there has been a drive for some years for EU law to go Perhaps the most ambitious proposal for reform is the European much further than the allocation of jurisdiction, applicable law Commission’s ‘harmonisation drive’, which culminated in the and recognition in cross-border matters. In November 2011, the publication on 22 November 2016 of the long-anticipated proposal European Parliament adopted a resolution on insolvency proceedings for a directive on ‘preventive restructuring frameworks, second which included recommendations for harmonising specific aspects chance, and measures to increase the efficiency of restructuring, of national insolvency law. A consultation followed and later, in insolvency and discharge procedures’, colloquially known as the March 2014, the Commission adopted a recommendation setting out draft ‘harmonisation directive’. The Commission believes that minimum standards for preventive restructuring procedures. increased convergence of insolvency and restructuring procedures This encouraged Member States to implement measures to enable would facilitate greater legal certainty for cross-border investors and debtors in financial difficulty to restructure at an early stage, but encourage the timely restructuring of viable companies in financial it was not legally binding. The minimum standards included distress, and is necessary for a well-functioning single market and a making provision for an efficient and cost-effective procedure for true Capital Markets Union. early restructuring of debts, allowing the debtor to stay in control of its assets, provision for a stay on the enforcement of debts, 2 Background to the EU Initiative court confirmation of a restructuring plan and protection for new finance. Member States were given 12 months to implement the The existing EU insolvency framework does not purport to recommendation, after which the Commission would consider harmonise the substantive laws of Member States. It aims to provide whether additional measures were required. A subsequent a regime to resolve conflicts of law in cross-border insolvencies evaluation concluded that the recommendation had not succeeded within the EU. This regime is primarily set out in the EU Insolvency in facilitating the rescue of businesses in financial difficulty, because Regulation (EUIR), which allocates jurisdiction to open main it had been only partially implemented in some Member States and insolvency proceedings to the courts of the Member State in which many appeared not to have engaged with it at all. a debtor has its centre of main interests (or COMI), provides that It was against this backdrop that, in September 2015, the European the law of that jurisdiction will apply to those proceedings, and Commission announced its intention to publish a legislative provides for the effects of those proceedings to be automatically initiative on insolvency law by the end of 2016. recognised elsewhere in the EU – except in Denmark, which has opted out. Even this somewhat limited ambition, of achieving one set of insolvency proceedings that is recognised throughout the 3 The Objective – An Effective Insolvency EU, was 30 years in the making and had to be qualified to account Framework Within the EU for the significant differences between Member States’ laws. For example, the EUIR allows for secondary proceedings to be opened The announcement of a new legislative initiative on insolvency was in other Member States where assets are located, largely to preserve made as part of the launch of the Commission’s Capital Markets the rights of preferential creditors in those jurisdictions. There are Union Action Plan. The Commission is seeking to strengthen and also a number of exceptions to the applicable law rule, in particular integrate Europe’s capital markets in order to promote the free flow to protect creditors’ rights in rem over assets located outside the of capital between Member States. There are many stated objectives jurisdiction in which main proceedings have been opened. of the Capital Markets Union – to unlock more investment from

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the EU and the rest of the world (particularly for SMEs), to better A debtor-in-possession procedure: the company which is being connect financing to investment projects across the EU, to make the restructured must be able to remain at least partially in control of its financial system more stable, to deepen financial integration and to assets and the day-to-day operation of its business. The appointment increase competition. of an insolvency practitioner cannot be required in all cases. The Commission thinks that some degree of harmonisation of Voting on the restructuring plan: all creditors who would be domestic insolvency law is essential for the effective functioning of affected by the plan must have the right to vote on its adoption. the single market, and variations in Member States’ insolvency laws Creditors are to be grouped together into classes for voting are one of a number of issues identified as a key barrier to the free purposes. Each class must comprise creditors with rights flow of capital. The Commission takes the view that differences and interests sufficiently similar to justify treating them asa in national insolvency procedures make it harder for investors to homogenous group with a commonality of interest. As a minimum, assess credit risk and deter cross-border investment. Harmonisation secured and unsecured creditors must be placed in separate classes. is also presented as an opportunity to address inefficiencies in Member States may provide that workers are to form a separate restructuring and insolvency laws, so that timely restructuring of class. A majority within each class must approve the plan, unless viable companies in financial distress can be achieved with the the provisions on cross-class cram-down apply (see below). The aim of maximising value. The Commission considers that a more threshold for approval is to be set by national law, but cannot exceed 75% by value within each class. efficient insolvency framework would also help to alleviate one particularly pressing issue – the accumulation of non-performing Cross-class cram-down: Member States must make provision for loans on the balance sheets of EU banks. The theory is that if the relevant judicial or administrative authority to ‘cram down’ a recovery rates could be increased, this would improve the pricing of class of creditors who have not voted in favour of a restructuring non-performing loans and encourage a secondary market to develop plan in certain circumstances. Amongst other criteria, the plan must so that the debts could at least be partially recovered, debtors could comply with a ‘best interests of creditors’ test, and must satisfy have a “fresh start” and banks would have greater capacity to lend. the ‘absolute priority’ rule (meaning the claims of each class of dissenting creditors must be satisfied in full before a more junior class can receive anything). 4 The Draft Harmonisation Directive and Member States must also ensure that new and interim financing is the Preventive Restructuring Framework adequately encouraged and protected, and not susceptible to attack in subsequent insolvency proceedings, in the absence of fraud or The draft harmonisation directive aims to achieve the partial bad faith. harmonisation of EU Member States’ restructuring and insolvency regimes, setting out broad criteria for a ‘preventive restructuring framework’, which each Member State would have two years to 5 The Draft Harmonisation Directive – put in place. It also contains measures intended to increase the Next Steps efficiency of insolvency processes in general, and measures that aim to give individual ‘entrepreneurs’ a second chance. This chapter The directive is currently a draft, or ‘legislative proposal’. The focuses on the corporate aspects of the proposal. European Council and Parliament need to approve the proposal, and the text may be amended to take into account the views and It is important to emphasise that this is a partial harmonisation drive: Members States would have some discretion when deciding how to concerns of different stakeholders. Various objections have reform their regimes in order to comply with the directive, and some already been raised: for instance, the Irish Parliament has issued an matters remain outside the scope of the proposal, so divergences in opinion stating that it does not believe the proposal complies with national law would remain. the principle of subsidiarity, and at EU level, the Committee on Employment and Social Affairs have suggested several amendments In order to meet the requirements of the preventive restructuring to address concerns which they have about the potential impact of framework as envisaged by the proposal, Member States would need the proposal on workers’ rights. The approval process is likely to to ensure that their regimes offer companies in financial difficulty take some time. access to a restructuring framework that gives them the opportunity to restructure their debts or business and avoid insolvency. The framework would need to include the following elements, though 6 The UK Perspective – Reform at a Member States would have the discretion to decide whether they National Level? should be combined in a single procedure or accessible via one or more procedures or measures used in combination: The UK was among those Member States that did not A moratorium: companies that are negotiating a restructuring plan implement reforms in direct response to the Commission’s 2014 with their creditors should be able to access a stay against individual recommendation. The Government considered (and consulted on) enforcement actions when necessary to support the negotiations. It the recommendation. It acknowledged that the UK regime did must be possible for the stay to cover actions brought by all types of not include all of the features recommended by the Commission. creditors, including secured and preferential creditors. It appears to However, the Government concluded that the restructuring and be for Member States to decide whether the stay is general (covering insolvency regime in the UK was flexible and effective, recognised all creditors as a matter of course) or limited (covering one or more across the world for its efficiency, emphasis on business rescue and individual creditors, as necessary). The stay must be limited to high levels of returns to creditors, and consequently was very much an initial period of four months, extendable to up to 12 months if in keeping with the general themes of the recommendation. certain conditions are met. Notwithstanding its response in 2014, and the thriving UK ‘Ipso facto’ clauses: in order to ensure that the moratorium is restructuring and insolvency industry, the UK Government effective, counterparties must in some circumstances be prevented published its own consultation in May 2016, seeking to establish from relying on clauses that allow them to terminate or modify whether legislative change is required to improve the UK corporate contracts with the company solely because it seeks the protection of insolvency regime. The consultation asked what a ‘good’ regime a stay or enters restructuring negotiations. looks like, and made reference to the EU initiative, as well as to the

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international principles developed by the World Bank and the United their regimes. It is not yet clear what arrangements, if any, will Nations Commission on International Trade Law. The proposals be negotiated concerning the UK’s participation in EU-wide foreshadowed certain key aspects of the preventive restructuring restructuring and insolvency initiatives. It may be that, even if the framework set out in the draft harmonisation directive, and included UK is not formally obliged to comply with the directive, it adopts the introduction of a restructuring moratorium, widening the scope some of the elements of the preventive restructuring framework, of existing legislative provisions that prohibit the termination of perhaps along the lines envisaged in the recent Government essential contracts when a company enters a formal process, the consultation, in order to keep its regime competitive. introduction of a new restructuring procedure (with the ability to bind creditors to a restructuring plan, including provision for cross-class cram-down) and a number of options to encourage the 6 Conclusion provision of rescue finance. The Government indicated that it was considering the responses and an announcement on next steps was The experience of the EUIR and the recast EUIR demonstrate how expected. However, a general election has subsequently been called difficult it is to achieve the requisite level of agreement between for 8 June 2017, and it is not at present clear whether these reforms Member States on matters of insolvency law. Significant differences will be pursued by the next Government. in policy, culture, infrastructure and other relevant areas of law (such as those relating to contracts, property, security, employment, It also remains to be seen how the next Government will respond to tax and trusts) pose considerable obstacles. In addition, radically the draft harmonisation directive. The UK may exit the EU before changing substantive laws in some Member States would inevitably compliance becomes mandatory – as discussed above, negotiation pose a challenge during the transitional period whilst judges, and approval of the final text is likely to take some time, and the practitioners and regulators adapt to the new regimes. draft envisages a two-year period for Member States to reform

Tom Vickers Nicky Ellis Slaughter and May Slaughter and May One Bunhill Row One Bunhill Row London EC1Y 8YY London EC1Y 8YY United Kingdom United Kingdom

Tel: +44 20 7090 5311 Tel: +44 20 7090 4406 Fax: +44 20 7090 5000 Fax: +44 20 7090 5000 Email: [email protected] Email: [email protected] URL: www.slaughterandmay.com URL: www.slaughterandmay.com

Tom joined Slaughter and May in 2005, and was promoted to partner Nicky is a professional support lawyer specialising in restructuring and in the firm’s restructuring and insolvency group in May 2014. His insolvency work at Slaughter and May. experience spans a broad range of contentious and non-contentious insolvency matters, bank resolution work for governments and central banks, complex capital and corporate restructurings, and advice to private equity and hedge fund clients on distressed acquisitions. For a full biography, please visit: http://www.slaughterandmay.com/who-we-are/partners/tom-vickers/.

Slaughter and May is a leading international law firm with a worldwide corporate, commercial and financing practice. It has offices in London, Brussels, Hong Kong and Beijing, as well as close working relationships with leading independent law firms around the world, which enables it to provide its clients with first-class and seamless legal advice worldwide. Slaughter and May’s practice covers a wide range of areas, including: M&A; Financing; Corporate and Commercial; Financial Regulation; Tax; Competition; Intellectual Property and Information Technology; Technology, Media and Telecoms; Commercial Real Estate; Environment; Dispute Resolution; and Pensions and Employment.

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Liability Management as a Restructuring Tool Chris Beatty

Sullivan & Cromwell LLP Vanessa Blackmore

Liability management is a broad term that is generally used to consent solicitations. This section provides an overview of the refer to tender offers, exchange offers and consent solicitations for United States and European Union legal regimes that regulate offers debt capital markets instruments. They are typically used by non- by an issuer (or its affiliate) to purchase its own debt securities, distressed issuers of debt securities seeking to actively manage their and offers of new securities in exchange for currently outstanding balance sheets and also can be used as tools to effect a consensual debt securities. In addition to the legal regimes described below, balance sheet restructuring for distressed companies. contractual and corporate restrictions may apply to any tender offer A “tender offer” in this context refers to an offer by an issuer (or or exchange offer. Issuers need to ensure they have corporate and its affiliate) to purchase its outstanding debt securities for cash. An contractual power to acquire their own securities, incur any debt “exchange offer” in this context refers to an offer by an issuer (or and liens associated with any exchange securities and conduct the its affiliate) to exchange its currently outstanding debt securities for tender offer on the specified terms (i.e. equal treatment or restricted newly issued debt or equity, cash or a combination of any of these. payment provisions may apply). A “consent solicitation” is a mechanism used by an issuer to solicit In both the United States and Europe, consent solicitations alone amendments to the terms of the debt securities or the governing are unregulated if the amendments requested in the consent document of the relevant debt instrument (i.e., the indenture or trust solicitation do not result in changes so fundamental that a new deed). These market-based restructuring tools may be implemented security is deemed to be issued (which, as a general matter, relate without a court process, on a fully consensual basis, where the only to “core” terms (such as principal, interest rate, tenor, etc.)). subject debt instruments are held by capital markets investors rather The parameters of a consent solicitation are driven solely by the than banks. contractual requirements of the instrument being amended and any Liability management tools have been widespread in the United other applicable contracts. States and Europe for many years for non-distressed issuers, but are becoming increasingly relevant for distressed issuers as credit markets have become increasingly disintermediated following the United States securities laws post-Lehman financial crisis. As debt capital markets have grown in importance as a source of funding relative to the traditional bank Issuer tender offers for debt securities (including exchange offers loan market, particularly in Europe and Asia during this period, so with a new issue of securities) in the United States are subject to too has the need for liability management tools. primary regulation under the U.S. Securities Act of 1933 (in respect These liability management tools of tender offers, exchange offers of exchange offers) and the U.S. Securities Exchange Act of 1934 and consent solicitations are regularly employed by non-distressed (in respect of all tender offers and exchange offers). companies to actively manage the cost, maturity schedule and terms The term “tender offer” under the U.S. securities laws is not of their debt, and the legal regime applicable to such transactions is defined by statute or regulation. In the case of debt securities, a broadly similar whether the issuer is distressed or not. However, this tender offer means a public offer by an offeror to security holders article focuses on liability management as a set of restructuring tools to tender their securities for purchase by the offeror at a specific for distressed companies which are used to achieve restructuring price and on specified terms. Not all offers to purchase securities goals – de-leveraging, extensions of maturity, covenant relief and by an issuer are “tender offers” and the difference between mere equitisation of debt positions. This article describes: secondary market trading (i.e., open market purchases) and a ■ the legal framework for liability management transactions in “tender offer” regulated as such depends on a number of factors, the United States and Europe; including the number of offerees, whether offers or purchases are ■ the nature of the investor base and the negotiating dynamic in made at a premium to current market prices, whether there is active liability management transactions; and and widespread solicitation, whether there is pressure on offerees ■ the legal and contractual tools available to debtors to overcome to sell their securities, whether the offer is open for only a limited some of the natural impediments to a fully consensual, capital period of time and whether the terms are fixed or negotiable. Open markets-based balance sheet restructuring. market purchases by an issuer of its own debt securities outside of a tender offer are subject to general market abuse and insider trading rules, but are not subject to the rules applicable to a tender offer Legal Framework described below. As noted above, liability management (broadly speaking) includes As it is generally the case that a company would be required to pay transactions in the form of tender offers, exchange offers and a premium to the then prevailing market price for its debt securities

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in a tender offer, there is an economic incentive for a company ■ The registration requirements of U.S. Securities Act of 1933 to attempt to lower the all-in price for the debt it purchases by apply to any exchange offer in which new securities are being undertaking open market purchases prior to the launch of a tender offered to tendering holders. The U.S. Securities Act of 1933 offer. The difference between open market purchases and a tender (the “U.S. Securities Act”) requires that offers and sales of offer, and the time at which a series of open market purchases securities must be either registered with the U.S. Securities and Exchange Commission (the “SEC”) or exempt from becomes a tender offer, is not always clear and, consequently, a registration pursuant to the U.S. Securities Act or an SEC company should consult with experienced U.S. securities counsel if rule. Several exemptions under the U.S. Securities Act are it is considering open market purchases at a time that a tender offer potentially available for exchange offers by an issuer, though is also contemplated to ensure compliance with the U.S. tender offer each has challenges in the context of a typical distressed rules. Additionally, open market purchases made prior to a tender exchange offer. For example: offer can be deemed to be made under a subsequent tender offer in ■ Section 3(a)(9) under the U.S. Securities Act is available certain circumstances. While there is no bright test applicable to for offerings of securities by an issuer solely to its own this situation, experienced U.S. securities counsel should provide security holders; however, one of the conditions of the guidance on particular facts. Section 3(a)(9) exemption is that no person is compensated The three principal sets of laws, rules and regulations in the United to solicit participation in the exchange offer. Typically, a financial institution is engaged as a dealer-manager to States that apply to liability management transactions are: assist the issuer with a distressed exchange offer, which ■ The tender offer rules of the U.S. Securities Exchange would render the Section 3(a)(9) exemption unavailable. Act of 1934 apply when a company is offering to purchase outstanding debt securities in a tender offer (as defined above). ■ Section 3(a)(10) under the U.S. Securities Act is available In the United States, all tender offers of non-convertible debt for transactions in which a court or authorised government securities are subject to Regulation 14E under the Securities entity finds that the transaction is fair to those to whom Exchange Act of 1934 (the “U.S. Securities Exchange Act”) securities will be issued. For an out-of-court liability (tender offers for equity securities and securities convertible management transaction, this finding will not occur. The into equity securities are subject to additional regulations), Section 3(a)(10) exemption is, however, relied upon in irrespective of whether such securities are registered with the connection with some kinds of in-court restructurings SEC or exempt from registration. This regulation provides such as Schemes of Arrangement in the United Kingdom. (among other things) that: ■ Exemptions for certain cross-border exchange offers for ■ A tender offer (including an exchange offer) must be held non-U.S. issuers may be applicable depending on the level open for at least 20 business days.1 Although exceptions of U.S. security holding. Reliance on the cross-border to the 20-business-day rule that would permit a shorter rules requires significant due diligence on the identity execution may be available, most of these exceptions of security holders, which is often not practical in the are unavailable in the context of a restructuring. In contemplated time frame. Additionally, a large portion 20-business-day structures, it is common to use an “early of the investor base for high-yield bonds is in the United bird” feature where additional compensation (subject States, so reliance on an exemption that is dependent on a to limits) is offered to those tendering before the 10th low level of U.S. holders is often impractical. business day of the tender offer. This incentivises early If the securities that are subject to the exchange offer have participation and allows the offeror to adjust the offer been registered with the SEC, the exchange offer typically and still complete within the 20-business-day period if also would need to be registered given the make-up of the insufficient demand exists at the offeror’s initial pricing investor base and the potential retail holders of the debt proposed. The early bird feature can be combined with securities. However, the cost- and time-intensive nature a Dutch auction in which the tender price is determined of SEC registration, coupled with the challenges inherent through competition among investors for a fixed amount in the SEC exemptions listed above, means that most of consideration. distressed exchange offers (particularly those conducted ■ If an amendment is made to the offer price or the by non-U.S. companies), are made in the United States on percentage of securities sought, the tender offer must a private placement basis in reliance on Section 4(a)(2) remain open for at least 10 business days thereafter. of, and Regulation D under, the U.S. Securities Act, and ■ If any other material change is made to the terms of the outside the United States in reliance on Regulation S under tender offer, the tender offer must remain open for at least the U.S. Securities Act. The primary elements of the U.S. five business days thereafter. private placement exemption relate to investor qualification ■ The offeror must pay the consideration offered, or return and related due diligence on investor status, the number and or unblock the tendered bonds, “promptly” after the nature of the investors, investor access to information, the expiration or withdrawal of the offer (generally interpreted absence of impermissible publicity, the imposition of resale to be within three business days). restrictions and certain regulatory notice filings with the SEC ■ Subject to certain limited exceptions, the offeror, its and (in certain circumstances) state securities regulators. dealer manager and their affiliates must not purchase Assuming the relevant private placement exemption any of the securities subject to the tender offer during the conditions are complied with, these transactions can either be offer period except pursuant to the tender offer – this is a conducted with an entire class of investors or on an individual requirement that causes significant tension with previous basis. Given the technical requirements of the U.S. Securities open market purchases by an offeror of the securities Act and their application, it is important that experienced subject to a tender offer. U.S. securities counsel is involved at an early stage of any ■ The consideration paid to any holder of securities must planning process. be the highest consideration paid to any other holder of ■ All offers and sales of securities in the United States are the securities pursuant to the tender offer – this is another subject to the SEC’s general anti-fraud rule (Rule 10b-5 requirement that is implicated by previous open market under the U.S. Exchange Act), and tender offers are also purchases. subject to an additional anti-fraud and manipulation rule ■ The anti-fraud rules of the U.S. securities laws described (Rule 14e-3 under the U.S. Exchange Act). Rule 10b-5 below are applicable to all tender offers and exchange is the general anti-fraud rule under the U.S. Exchange Act offers. that makes it unlawful for any person, in connection with an offering or sale of securities in the United States to “make

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any untrue statement of a material fact or to omit to state a EC) (as implemented by, or directly applicable, national law)) material fact necessary in order to make the statements made, applies to the newly issued securities and requires a compliant in the light of the circumstances under which they were prospectus unless an exemption applies. Given the nature and made, not misleading”. The word “material” was defined by composition of the investor base (i.e., largely institutional), it is 2 the U.S. Supreme Court to mean “a substantial likelihood usually possible to structure an exchange offer in reliance on an that a reasonable [person] would consider it important in exemption from the Prospectus Directive related either to the nature deciding how to [act]”. To establish a claim under Rule 10b- 5, plaintiffs (including the SEC) must show manipulation and number of investors participating in the transaction or the or deception (through misrepresentation and/or omission), minimum denomination of the securities issued in the transaction. materiality of such statements, that such statements are made Most commonly, imposition of a €100,000 minimum denomination in connection with the purchase or sale of securities, and is relied upon to provide an exception from both the Prospective scienter (or intention to deceive). Private plaintiffs also have Directive and the disclosure requirements of the Transparency the burden of establishing standing, reliance, causation and Directive (2004/109/EC). damages. Rule 14e-3 contains similar anti-fraud provisions with similar application in the context of a tender offer. Offer documentation, which can be extensive and Negotiating Dynamics voluminous, generally is prepared in the context of both tender offers and exchange offers to ensure investors have Liability management tools are generally employed with respect to sufficient information to make a decision on whether debt capital markets instruments with an institutional investor base. to participate in the proposed transaction. The offering As such, the issuer of debt securities is in a different position to a documentation requires significant lead time and input from company that gets into distress and needs to talk to its bank creditors company management (among others) and a due diligence in that it can look to a lender register and reach out to its contacts at the investigation is customarily conducted. relevant lender. Bonds, however, generally exist in dematerialised Rule 10b-5 under the U.S. Exchange Act also regulates form and are held and traded through a clearing system. The bond insider trading and potentially imposes liability on anyone register reflects only one holder, the nominee of the clearing system, who trades while in possession of material non-public but several layers of custodial relationships generally exist between information. In connection with liability management transactions, it is important that bondholders not be required the issuer and the ultimate economic owner of the credit position, so to make an investment decision at a time when the offeror identifying who will be the decision-maker is not as straightforward may be in possession of (or perceived to be in possession as for bank debt. While a bond issuer can engage specialist firms of) material non-public information. Some frequent debt to identify bondholders, this process is imperfect, taking several issuers have formal blackout periods for debt issuances weeks to accomplish and generally resulting in a list that does not and may sometimes apply them to repurchases (including identify holders that are adept at hiding their positions through use tender offers). More commonly, decisions as to the timing of custodians. Additionally, any such list is generated as of a single of repurchases and debt tender offers are made on an ad hoc date, and the date and price at which a holder acquired its position basis and take into account various factors, like the rating, is effectively impossible to ascertain. Also, if the issuer has not ranking and term of the debt securities. Open market and historically or periodically identified its bondholders, the very act negotiated repurchases should require consultation with the appropriate company personnel to avoid effecting a of compiling such a list can inform the market that the issuer is transaction when, at least in retrospect, it may appear that the contemplating liability management. Consequently, the “KYC” market was not in possession of all information necessary to process (“know your creditor”) and the information gathering fully value the subject debt securities. process on the goals of those creditors are constrained by the debt capital markets nature of the instruments, which can create a difficult and evolving negotiating dynamic that may differ substantially European Union securities laws from the negotiating dynamic with traditional bank lenders. This section describes the nature of debt capital markets investors and the Unlike in the United States, there is no harmonised European- limitations inherent in negotiations with these creditors. wide regime regulating the conduct of tender offers made in the The divergent and shifting goals of the holders and the impact on the European Union so that the regulations governing tender offers dynamics of the negotiation. (to the extent there are any) generally need to be considered on a case-by-case and country-by-country basis. Similarly, there is There are three broad groups of institutional investors participating no harmonised European-wide regime regulating the conduct of in the sub-investment grade bond market for distressed companies, consent solicitations in the European Union, whose structure and each with their own goals: terms are largely determined by the terms of the debt securities ■ “Par” credit funds/CLOs – These institutional investors themselves (except where the proposed changes are so fundamental invest in new issuance, generally own non-distressed debt as to be deemed to constitute a new issue of securities, in which case and are often long-term buy-and-hold investors. When the rules and regulations under the Prospectus Directive referred a borrower becomes distressed they will often seek to exit to below would need to be considered). Additionally, if the debt their position by selling their securities in the market. Where the position cannot be exited, these investors will generally securities are listed, the listing rules of the relevant exchange may try to achieve a par recovery (100% recovery) through cash have additional requirements governing tender offers or consent pay-down, take-back debt and equity, though generally these solicitations but, generally speaking, EU unregulated markets on funds have a bias (and often a structural limitation) against which most sub-investment grade debt securities trade do not in taking equity. practice restrict (other than by publication of notices) an issuer’s ■ Distressed credit funds – These institutional investors ability to conduct a tender offer or a consent solicitation. generally acquire their credit position after a borrower has Where a liability management transaction comprises an exchange gone into distress and the debt has traded well below par. offer, however, the harmonised European-wide regime regulating the They are often value investors who are acquiring securities offer of securities to the public in the European Union (comprising that have traded well below par with the goal of booking a the rules and regulations under the Prospectus Directive (2003/71/ profit either by selling when the price recovers or participating

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in a liability management transaction at a price higher than Abuse Regulation (No. 596/2014) in Europe. Extensions of time are their purchase price. These investors often do not require required (as described above) when the material terms are altered a par recovery and a liability management transaction that during the offer period. In addition to delay, these extensions have is accretive to the issuer can often be negotiated with these the potential to disrupt deal momentum and negotiating position investors. and, consequently, are often avoided by well-advised debtors. ■ Private equity funds – Traditional private equity funds will As described above, one of the primary draw-backs of liability often act both as distressed credit investors looking for a recovery on the debt as described above and as opportunistic management is that it is a fully consensual process and a debtor equity funds who view debt investing as a tool to effect a cannot drag hold-outs into a deal supported by the majority loan-to-own strategy and acquire equity of the borrower. of creditors. This being said, there are ways for a debtor to use They are often trying to identify and invest in the “fulcrum” negative incentives to drive participation. These negative incentives security, which is the debt security in which value will break come in two forms: those that can only be achieved with the consent and which will be equitised. of a portion of bondholders; and those that require no consent from As noted above, the goals and economic incentives of each of these the relevant class of bondholders. investor classes differs substantially and the relative make-up of a borrower’s investor base will drive, in very large part, what a Transactions requiring consent borrower is able to accomplish in a liability management transaction. Additionally, as bonds are generally freely transferable, an issuer’s In order to drive high participation rates, in the United States an investor base will shift over time, which will ultimately drive the issuer will often structure its tender offer or exchange offer to be consideration required to be offered to the market as part of the accompanied by a consent solicitation. In these transactions, liability management transaction. The size of stakes built by the participating holders will tender their securities concurrently with investors, the nature of the investors and their likely goals and an “exit” consent, which would modify the terms of the securities average cost basis (the average price the investor paid to purchase in a way that removes certain contractual protections attributable to the position) and the different thresholds required to create negative those securities. This would generally include removing covenant incentives for hold-out creditors described below are all important protection (which is usually permissible with a majority vote) and, elements of the negotiating dynamic that should be monitored by an in certain circumstances, release of security or other credit support. issuer considering a liability management transaction. The intention of these changes is to negatively affect the trading price for the securities following the transaction, and thereby 3 Limitations on binding hold-outs incentivise a high participation rate. While this is a useful tool to drive participation rates in a liability management transaction, it has a significant practical limitation – an exit consent requires the As noted throughout this article, liability management tools do not participation of a majority of bondholders and does not generally involve court processes and are undertaken on a consensual basis. result itself in majority participation. Consequently, in the United Consequently, these tools can only be used to achieve a balance States, a combination of adequate consideration and negative sheet restructuring of debt and cannot extend to trade and other incentives described below is generally required to reach the creditors. Additionally, it is generally not possible for any class of majority participation threshold. creditor to bind another class. While sweeteners and, to the extent legally permissible, coercive elements of a liability management In contrast to practice in the United States, the legal validity of transaction may incentivise participation of other creditors of the coercive exit consents in the context of English law-governed debt same class or another class (as discussed below), non-participating securities is doubtful as demonstrated by the Anglo Irish Bank case creditors cannot be forced to accept a deal except to the extent the in 20124 where the court held that, although the resolution was terms of the debt securities expressly permit the majority to bind permitted by the terms of the bonds, it was an abuse of the majority’s the minority and is not otherwise contrary to law. This creates voting power to assist the coercion of the minority by voting for a hold-out value for creditors willing to hold their position following resolution that would destroy the minority’s economic rights under the liability management transaction and makes it very difficult to their bonds. Notwithstanding this decision, market practitioners structure and achieve inter-conditional offers across classes. As a appear to agree that it should still be possible to solicit valid exit consequence, while liability management can be a powerful tool consents as a matter of English law provided the transaction is not for issuers to achieve certain restructuring goals – de-leveraging unduly oppressive of the minority (e.g., by offering financial or legal in particular – a holistic restructuring of a distressed issuer solely incentives to all holders) and, with proper structuring, to combine relying on liability management tools is extremely difficult and these with an exchange offer. generally issuers in need of a holistic restructuring rely on the court- supervised processes described elsewhere in this book. Transactions not requiring consent

Typical Transaction Structures The primary driver of participation in a liability management transaction is the adequacy of the consideration offered to In the United States, a typical liability management transaction bondholders. The adequacy of consideration will be determined for a distressed issuer is structured to occur over 20 business days on a transaction-by-transaction basis, primarily by reference to with an “early bird” period 10 business days following launch. the changes requested by the issuer (e.g. covenant changes, tenor These transactions are conducted on a take-it-or-leave-it basis, amendment, debt discount), the entry price of the holders (i.e. the so substantial effort is often required to shape the consideration price for which the holders purchased the bonds) and the amount offered to the market. Market soundings and negotiations with and nature of the consideration offered. In addition to the pure key bondholders may also precede the launch of the tender offer negotiation around adequacy of consideration, in the United States to generate sufficient participation by bondholders to ensure the astute issuers with multiple creditor classes can potentially lower debtor’s goals are met and need to be structured to comply with the overall cost of a liability management transaction if the issuer the applicable legal and regulatory framework such as the Market can cause the classes to compete with one another over scarce

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exchange consideration. This is particularly relevant where the offers is not applicable “if at the time of the offer the issuer relative ranking of different creditors can be effectively altered is the subject of bankruptcy or insolvency proceedings or has without consent through structural subordination or granting of commenced a solicitation of consents for a “pre-packaged” security in compliance with the covenants in the debt instruments. bankruptcy proceeding or if the board of directors of the This tactic has been used primarily in the United States in the last issuer has authorised discussions with creditors of the issuer to effect a consensual restructuring of the issuer’s outstanding several years to create incentives for participation. A Dutch auction indebtedness”. structure with classes competing for scarce exchange consideration is also a possibility, though less common as a practical matter. 2. TSC Industries, Inc. v. Northway, Inc., 426 U.S. 438 (1976). 3. During 2015 and 2016, U.S. federal trial court decisions in Marblegate Asset Management v. Education Management Conclusion Corp. (SDNY 2015) and Marblegate Asset Management v. Education Management Corp. (SDNY 2014) and All liability management transactions are different as the rights and Meehancombs Global Credit Opportunities Funds, LP protections in every credit structure and the needs of each issuer are v. Caesars Entertainment Corp. (SDNY 2015) had a material chilling impact on the law and practice of liability different. The ability to use liability management tools to the greatest management for New York law-governed instruments. These impact depends on the ability of the issuer to use the right collection U.S. federal trial court decisions broadened the substantive of carrots and sticks in the design of its transaction to achieve its protections afforded to bondholders under the U.S. Trust restructuring goals. Given the limitations on an issuer’s ability to Indenture Act of 1939 (the “TIA”) and impacted on the bind hold-outs and the cost of free riders, in most circumstances interpretation of similar provisions in indentures that are not liability management cannot be used to achieve a full restructuring, qualified under the TIA. In January 2017, the Marblegate but liability management tools can be very usefully employed decision was overturned by the Second Circuit Court of where an issuer requires only a balance sheet restructuring, can Appeals which held that Section 316(b) of the TIA prohibits bear the cost of hold-outs and/or only needs to achieve more modest only non-consensual amendments to an indenture’s core concessions from its creditors. payment terms (the amount of principal and interest owed and the date of maturity) and not to other terms. This Second Circuit Court of Appeals decision effectively returns the Endnotes market to the position it was in prior to the Marblegate and Caesars decisions. 1. In January 2015, the SEC issued a no-action letter that grants 4. Assenagon Asset Management S.A. v. Irish Bank Resolution relief to permit a debt tender to be conducted during a five- Corporation Ltd (formerly Anglo Irish Bank Corporation business-day period rather than 20 business days in certain (Anglo Irish)) casts doubt on the legality of coercive exit circumstances; however, this relief for accelerated tender consents under English law ([2012] EWHC 2090 (Ch)).

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Chris Beatty Vanessa Blackmore Sullivan & Cromwell LLP Sullivan & Cromwell LLP 1 New Fetter Lane 1 New Fetter Lane London, EC4A 1AN London, EC4A 1AN United Kingdom United Kingdom

Tel: +44 20 7959 8505 Tel: +44 20 7959 8900 Email: [email protected] Email: [email protected] URL: www.sullcrom.com URL: www.sullcrom.com

Chris Beatty is a partner in the Firm’s London office who concentrates Vanessa Blackmore is a partner in S&C’s London office and is on cross-border corporate finance transactions and restructurings, qualified to practise English law. She has a broad-based domestic advising U.S. and non-U.S. corporations, funds, lenders and broker- and international corporate practice, advising on mergers and dealers on securities and lending transactions in Europe, the United acquisitions, private equity and hedge funds, international equity and States and Australia. Mr. Beatty has particular expertise in liability debt capital markets financings, debt liability management, corporate management, acquisition finance, distressed debt transactions, restructurings, privatisations, joint ventures and on corporate secured and unsecured debt finance, structured products and governance and compliance issues. She has considerable experience bank lending transactions for high-yield issuers/borrowers. These in complex cross-border transactions and capital markets matters. transactions have included a wide variety of public and private Recognitions offerings of debt, equity, convertible and hybrid securities, secured and unsecured bank lending transactions and restructurings. Vanessa has been recognised as one of the “50 Most Influential Women in the Law” by Legal Business magazine, and a short-list nominee for Prior to his move to London in 2014, Mr. Beatty was a resident of the Euromoney, Women in Business Law Awards: Best in Debt, Best in firm’s Sydney office from 2007 to 2013 and the firm’s New York office Equity, among other notable guides to the legal profession. She is from 2013 to 2014. recommended as a leading lawyer in consecutive recent editions of Recognitions Chambers Global, Chambers Europe, Chambers UK, The Legal 500 United Kingdom and IFLR1000. She is a contributing editor to ■■ Chambers UK (2017). International Financial Law Review and Capital Markets Law Journal. ■■ IFLR1000 (2016, 2015). ■■ The Legal 500 United Kingdom (2016, 2015). ■■ Best Lawyers in Australia (2014).

Sullivan & Cromwell LLP provides the highest quality legal advice and representation to clients around the world. The results the Firm achieves have set it apart for more than 130 years and have become a model for the modern practice of law. Today, S&C is a leader in each of its core practice areas and in each of its geographic markets.

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Cross-Border Insolvency Laws Relating to Security: a UK Alicia Videon Perspective Ahead of Brexit

McDermott Will & Emery UK LLP Emma Jolley

may change in the UK post-Brexit, it is useful to understand the Introduction extent to which the two cross-border insolvency regimes have a similar effect and where they diverge. In the aftermath of the 2008 global financial crisis, most countries recognised that their insolvency regimes required reform. Corporate rescue regimes have been a particular focus of attention. Prior to the Insolvency and its Impact on the Secured financial crisis, significant reforms had been implemented in the UK Creditor – An Overview under the Enterprise Act 2002 (“EA 2002”). While no additional wide-reaching reform has been implemented in the UK since, a Insolvency laws are, as a general rule, disadvantageous to secured Government consultation on possible modifications to the UK’s creditors’ rights.5 However, the detail of these laws differs 1 corporate insolvency regime is under way. considerably among countries. For example: A key aspect of corporate rescue regimes is their impact on secured ■ Moratorium on security enforcement – The commencement creditors. In a general sense, as the trend towards corporate of insolvency proceedings may trigger a moratorium rescue has found favour, the rights of secured creditors have been which prohibits security enforcement. This is a common undermined. The EA 2002, for example, had a significant impact feature of many insolvency rescue regimes, such as a US on the rights of secured creditors in the UK, largely abolishing one bankruptcy filing or a UK administration. Accordingly, in of their key remedies (administrative receivership) and instead a UK administration, any security enforcement is prohibited promoting administration (a collective process) as the main rescue except with permission of the court or the consent of the administrator.6 In Germany, however, the extent of the stay procedure. Nevertheless, the UK continues to be perceived as an depends on the type of security in question.7 essentially creditor-friendly jurisdiction. ■ Disposals of secured assets by an insolvency office holder– This article explores the extent to which cross-border insolvency Security enforcement rights might also be effectively usurped laws interact to impact on the rights of secured creditors in the UK. by an insolvency office holder that has the statutory power, It is also relevant as to how this might change if the UK leaves the or who may seek the court’s permission, to realise secured EU. assets at proper value. However, the secured creditor’s Secured creditors operating in the EU are familiar with the priority is usually respected and the office holder will generally be required to account back to the secured creditor European Regulation on Insolvency Proceedings 2000 (“OIR”), (after deducting certain costs).8 In Germany, different rules which was recast by the Recast Insolvency Regulation2 (“RIR”) apply depending on the asset class9 and, consequently, (together, referred to as the “EIR”). The EIR governs cross-border insolvency administrators commonly enter into arrangements issues relating to security rights in circumstances where insolvency with secured creditors to agree on the terms of any disposal proceedings are opened in one Member State, but the debtor has of secured assets. A related point concerns the use of secured secured assets in another Member State.3 The scope of proceedings assets to raise debtor-in-possession financing (which is not covered by the RIR has been extended so that main insolvency possible in the UK without the secured creditor’s consent). proceedings extend to pre-insolvency rescue proceedings and ■ Debt compromises – In the UK, there is presently no secondary insolvency proceedings no longer exclude rescue insolvency regime which facilitates a compromise of secured proceedings. creditors’ rights without their consent, and this is a significant point of distinction from both the US Bankruptcy Code and Where the EIR does not currently apply (because the debtor’s German insolvency law. This limitation of UK insolvency insolvency proceedings are opened outside the EU), the Cross- law is commonly avoided by using a scheme of arrangement Border Insolvency Regulations 2006 (“CBIR”) are relevant for under UK company law.10 In Germany, secured creditors’ UK purposes. In the context of US/UK cross-border insolvencies rights can be compromised in the context of an insolvency in particular, there is considerable familiarity with the CBIR and plan, even if they are a dissenting group, provided that certain the common law rules of comity which will often apply to issues conditions are met. The German government is currently concerning security rights in the case of a US bankruptcy of a debtor considering whether to introduce a similar “cram-down” with secured assets in the UK.4 mechanism into pre-insolvency restructuring proceedings in order to prevent “restructuring tourism”, which currently If the EIR ceases to apply to the UK post-Brexit, one possibility is favours English schemes of arrangement. The Netherlands, that the CBIR and common law may gain significance in UK-related meanwhile, has plans to introduce a form of scheme of cross-border insolvency cases. To understand how insolvency arrangement which adopts aspects from the UK and US impacts on the rights of secured creditors and to consider how this models.

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■ Avoidance of security on insolvency – Insolvency laws may rem against secured assets located in another Member State.18 also be used to invalidate or avoid security on insolvency. For example, and as noted above, an English debtor that enters These avoidance laws are notorious for their technicality into administration enjoys the benefit of a statutory moratorium and significant local variations. Generally, security may be against security enforcement for the duration of the administration. avoided if it falls foul of the pari passu principle, whereby Whereas that moratorium would effectively tie a secured creditor’s creditors of an insolvent debtor should be treated fairly in hands with respect to secured assets located in England, it would relation to the distribution of the debtor’s assets.11 not be enforceable against any secured assets of the debtor located Noting the considerable differences between countries’ insolvency in another Member State. The administrator would need to open regimes, it follows that where insolvency proceedings are opened secondary insolvency proceedings in that other Member State to against a debtor in one country, but the debtor has secured assets take advantage of any moratorium available under that Member situated in another country, the question of which law governs the State’s local insolvency laws.19 The same analysis is applicable to rights of its secured creditors becomes critical. If foreign insolvency an insolvency office holder’s power to dispose of the secured assets proceedings were able to interfere with local security rights, the free of the security (for example, through redemption or accounting value of those security rights might be seriously impaired. back to the secured creditor at value).20 It is at this point that the cross-border insolvency laws come into play. The EIR and CBIR seek to protect trade in the country where EIR and debt compromises the secured assets are located and offer legal certainty of the rights over them; acknowledging that certainty of credit risk is critical to the It is perhaps less clear how Article 8 operates in the context of debt lending environment and promotes economic stability and growth.12 compromises.21 This is an increasingly relevant issue as countries It follows that cross-border insolvency laws generally provide that continue to develop insolvency rescue regimes which permit the the “local law” should apply to issues relating to security, rather than cram-down of secured creditor rights, similar to English schemes of the law of the place in which the debtor’s insolvency proceedings arrangements under the Companies Act 2006.22 It has been argued are opened (the lex concursus, hereafter referred to as the “law of that Article 8 applies to the secured debt, as well as the security the opening State”).13 “Local law”, in this sense, means the lex itself.23 If this interpretation is correct, then a debt compromise situs; the law of the place where the secured asset is located (and, available under the law of the opening State cannot cram-down the it follows, the law applicable at the date on which the security was debt of a creditor which is secured over assets situated in another created). Member State. If it was possible to cram down secured creditors in this way (as some have suggested24), it would substantially interfere European Regulation on Insolvency with their rights and “legitimate expectations”. This would be in Proceedings (EIR) and Security Enforcement conflict with one of the stated policy aims of the EIR, which is to protect these expectations of creditors who have had dealings with a The EIR by its nature is wide-reaching legislation on cross- debtor before it entered into insolvency. border insolvency issues within the EU. While it does not seek to 14 harmonise insolvency laws within the EU, it governs questions EIR and avoidance actions about jurisdiction to open insolvency proceedings and deals with 15 the recognition and enforcement of relevant judgments. It also The issue of which law should govern issues of security avoidance sets out the general rule on conflicts of laws: that the law applicable is not answered solely by reference to Article 8. Article 7(2)(m) of to insolvency proceedings and their conduct shall be the law of the the RIR (formerly Article 4(2)(m) of the OIR)25 provides that the 16 opening State. With that background, it may be expected that the law of the opening State governs “the rules relating to the voidness, EIR might have a significant impact on security rights; however, voidability or unenforceability of legal acts detrimental to the this is not entirely the case. This is because, as noted above, the EIR general body of creditors” of the insolvent debtor.26 This includes seeks to ensure, so far as possible, that the legitimate expectations of security, as security is typically a “detrimental act” given that its creditors who have had dealings with a debtor before it entered into enforcement reduces the size of the insolvency estate available for insolvency are protected in the event of that debtor’s insolvency. To distribution to the other creditors of the insolvent debtor. this end, and as a significant exception to the EIR’s general rule on A secured creditor may seek to effectively nullify Article 7(2)(m) by conflict of laws, Article 8 of the RIR (formerly Article 5 of the OIR) invoking a defence under Article 16 of the RIR (formerly Article 13 provides that the opening of insolvency proceedings does not affect of the OIR). Article 16 provides that Article 7(2)(m) shall not apply the rights in rem17 of creditors in respect of assets belonging to the where the person who stands to benefit from the “detrimental act” debtor which are situated within another Member State at the time (in this case, the secured creditor) can prove that (1) the said act is of the opening of proceedings. This includes the right to demand subject to a law of a Member State other than that of the opening possession of and dispose of those secured assets. Where Article 8 State (in other words, the security is subject to local laws), and (2) applies, the creditor’s security rights will be governed by local law. that law does not allow any means of challenging that security in It is necessary then to consider whether local law or the law of the relevant case. If the secured creditor can provide proof to this the opening State governs moratoriums on security enforcement effect, then the local law applicable to the security will govern (and realisations by the office holder), debt compromises and the all avoidance rules. If, on the other hand, the security could be avoidance of security on insolvency. These are issues of crucial challenged under both the law of the opening State and local law, importance to secured creditors. and the two sets of law conflict, the law of the opening State will govern all avoidance rules. EIR and moratoriums on security enforcement & disposals There is not a great deal of case law on the application of these provisions, and the position is ambiguous in a number of respects.27 It is generally accepted that Article 8 operates so that a moratorium The following cases shed some light on the European Court of on security enforcement imposed by the law of the opening State Justice’s (“ECJ”) recent approach to Articles 4(2)(m) and 13 of the would not be effective to prevent creditors exercising rights in OIR, on which Articles 7(2)(m) and 16 of the RIR are based.

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The first case in which the ECJ gave judgment in a matter concerning jurisdiction to open insolvency proceedings or the enforcement of Article 13 of the OIR (the “Article 13 defence”) was Lutz v Bäuerle.28 relevant judgments. Furthermore, under the CBIR the laws of the In this case, a German liquidator of an Austrian company sought opening State do not govern the laws applying to the insolvency to recover payments made by the company’s bank to an individual universally. This is important in a security context, and it means creditor of the company pursuant to a payment order made by the that an equivalent to the Article 8 EIR exception is unnecessary to Austrian court. The liquidator issued an application in the German protect local security rights. courts for the setting aside of the payments to the creditor. If Article 4(2)(m) of the OIR applied, the liquidator’s application would have CBIR and moratoriums on security enforcement & disposals been successful under German law avoidance rules. If the Article 13 defence applied, the liquidator’s application was time barred under Under Article 20(1), the basic effect of recognition of a foreign Austrian limitation laws. The ECJ considered whether the Austrian main proceeding is to stay proceedings concerning the debtor and limitation laws, being procedural in nature only, were “law” within execution against the debtor’s assets and to suspend the right to the meaning of Article 13. It held that they were “law” in this transfer, encumber or dispose of the debtor’s property. The stay sense on the basis that Article 13 encompasses both procedural is the same in scope and effect as if the debtor had been made the and substantive law. The Austrian time bar therefore applied and subject of an English winding up order.35 It respects the general the Article 13 defence prevented the operation of the German law principle concerning rights in rem, so that it does not affect rights avoidance rules. to take steps to enforce security over the debtor’s property which This ruling is also of interest as the limitation laws in this case were would have been exercisable in the UK in the debtor’s winding up.36 part of the Austrian insolvency code. There were, however, no This is supplemented by the court’s discretionary power to grant Austrian insolvency proceedings afoot. Both the German courts (in additional relief under Article 21. This expressly includes the referring the case to the ECJ) and the ECJ appear to have assumed right to grant relief provided by the statutory moratorium in UK and accepted that the Article 13 defence allows local insolvency administration proceedings.37 A practice that has developed in the laws to be used as a defence, even when there are no existing local English courts in relation to making a modified order under Articles insolvency proceedings. 20 and 21(1)(g) is to grant a stay on security enforcement in terms 29 In another case, Nike v Sportland, the ECJ held that the words which mirror that applicable in an administration (i.e. a stay on all “does not allow any means of challenging that act…” in Article enforcement, subject to the consent of the foreign representative38 or 13 should be interpreted as encompassing, in addition to local the permission of the court (hereinafter referred to as a “modified insolvency laws, the general provisions and principles of those local order”)).39 laws, taken as a whole. The ECJ clarified that the burden of proof The granting of additional relief under Article 21 requires the court is on the defendant creditor to show that the local law, taken as a to be satisfied that it is necessary to protect the assets of the debtor whole, does not allow the “detrimental act” to be challenged. The or the interests of the creditors (held to mean the general body of ECJ further held that if the court before which an avoidance action is creditors as a whole).40 The modified order is therefore common brought considers that the defendant creditor has adduced sufficient where the foreign main proceedings are rescue proceedings.41 The evidence that the act cannot be challenged under local laws, it may court must also be satisfied that the interests of the creditors and rule that it is for the claimant to establish the existence of a provision other interested persons are adequately protected.42 The terms of the or principle of local law by which that act can be challenged.30 standard modified order described above allow all secured creditors The ambiguity and complexity of Article 16 of the RIR arguably to apply to the court for relief. acts as a disincentive to office holders in bringing avoidance actions, If a secured creditor’s rights are affected by a general stay on to the advantage of secured creditors.31 security enforcement, they have a right to apply under Article 22(3) for relief. If a secured creditor sought relief under this Article, it is Cross-Border Insolvency Regulations 2006 expected that the principles applicable to administration, as set out (CBIR) and Security Enforcement32 by the Court of Appeal in re Atlantic Computer Systems plc43 would apply, i.e., the court would weigh the interest of the secured creditor The CBIR are based on the Model Law on Cross-Border Insolvency and the interests of the company’s unsecured creditors. There is adopted by the UN Commission on International Trade Law some support for this approach in the cases concerning the exercise 44 (UNCITRAL) (“Model Law”). They are familiar to countries of the discretion under Articles 21 and 22. which have adopted the Model Law (including, notably, the US). The ease with which a foreign representative can obtain a stay on This does not generally apply to countries in the EU.33 The EIR security enforcement in the UK, in the context of foreign rescue prevails over the CBIR to the extent of any inconsistencies.34 This proceedings, would seem to make the CBIR a favourable regime limitation on the scope of the CBIR may not apply if the UK leaves for debtors. There is no need to open insolvency proceedings in the EU and if the EIR then ceases to apply to the UK. the UK for this purpose (unlike the position under the EIR). The The model adopted by the CBIR differs from that adopted by the foreign representative can then apply for an order to dispose of the 45 EIR in a number of ways. In particular, reciprocity is not a condition secured assets. of application of the CBIR. If the EIR ceased to apply to the UK, the fact that Germany has not enacted the Model Law would not prevent CBIR and debt compromises the UK courts giving effect to the CBIR in respect of an application for recognition by a German insolvency office holder. On the other The CBIR does not allow for the recognition of foreign judgments hand, a UK office holder (in the reverse hypothetical scenario) will ending the insolvency proceedings, such as debt compromises. not be able to take advantage of the CBIR in Germany (or other Thus, if the main proceedings effect a compromise of secured Member States which have not enacted the Model Law). creditors rights, this will not affect those creditors’ rights in respect The CBIR has a correspondingly narrower effect than the EIR. of assets in the UK by virtue solely of the CBIR. The debtor needs It deals only with recognition and assistance and, unlike the to rely on rules concerning the recognition of judgments outside the EIR, it does not have the same extensive provisions dealing with CBIR or to seek the opening of proceedings in the UK.46

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focus on corporate rescue and the need to ensure that the UK’s CBIR and avoidance actions regime remains at the forefront of insolvency best practice. There is, therefore, a tension between the increasing international Article 23 provides that on recognition of a foreign proceeding, the trend towards rescue regimes and the protection of secured foreign representative has standing to make an application to the creditors, which has traditionally been strong in the UK. The UK court for an order under or in connection with Sections 238, 239 Consultation Paper acknowledges that the UK insolvency regime or 245 IA 1986.47 These provisions of the IA 1986 apply, as if the has been developed in a way that “encourages lenders to advance debtor was being wound up or was in administration under English credit knowing that their interests will be protected by any security law. If there is a UK insolvency proceeding taking place regarding arrangements that they have entered into. At the same time to the debtor, the foreign representative cannot make an Article 23 facilitate rescue, the insolvency regime allows limited circumstances application, except with permission of the court.48 These provisions in which interference with such security rights is permitted in order have at least the advantage of clarity and simplicity about the to achieve permitted statutory aims”.53 relevant laws and defences applicable to avoidance actions, which the EIR, as described above, lack. The UK Consultation Paper contemplates further inroads into the circumstances where secured rights are compromised. These If the laws of the main proceedings provide greater avoidance include introducing a debtor-in-possession moratorium, acting as powers than those of the UK, the CBIR will not assist. The question a single gateway to different forms of restructuring, with a new of whether foreign avoidance judgments will be enforced in the restructuring procedure being added to aid corporate rescue. This UK under the CBIR was answered by the Supreme Court in the procedure would have a cross-class cram-down mechanism with Rubin v Euro Finance SA.49 Therefore it is quite clear that under the the ability to bind secured creditors into a restructuring plan. The CBIR, the UK courts do not have jurisdiction to enforce a foreign Government’s stated intention is to “address the scenario where a avoidance judgment. relatively junior secured creditor can block or delay a company Broadly, therefore, the general principle concerning rights in rem rescue, despite the proposals being supported by the majority of applies under the CBIR and UK laws apply to security enforcement senior secured creditors”.54 It also addresses the question of rescue over UK domiciled assets, notwithstanding the effect of the CBIR. finance, albeit the proposals to impact secured creditor’s rights in this situation are raised for consultation only. This latter aspect has been received with little support by the profession.55 Comparison: EIR and CBIR More recently, the European Commission has published a Proposal While the EIR implements a more extensive and universal cross- for a Draft Directive which also addresses insolvency and rescue 56 border framework than the CBIR, it is perhaps simpler for an regimes. The Draft Directive aims to address a fundamental insolvency office holder to obtain protection against UK secured limitation of the EIR which is that it does not seek to harmonise creditors’ rights under the CBIR. insolvency regimes throughout the EU. It sets out certain legal principles and rules to be adopted by Member States as part of their It is arguably easier to obtain a stay on security enforcement in aid of local restructuring and insolvency laws. a rescue in respect of a debtor’s UK assets under the CBIR than the EIR. So, for example, while the stay imposed by a US bankruptcy The content of the Draft Directive is in many respects similar to that filing applies to all assets, wherever located,50 there are concerns of the UK Consultation Paper. It envisages a debtor-in-possession about how that stay would affect foreign creditors (not within the rescue regime with a stay on individual enforcement action in 57 jurisdiction of the US). Obtaining a discretionary stay under the respect of all types of creditors, including secured creditors. It CBIR in the UK is likely where the US debtor has substantial UK contemplates a cross-class cram-down mechanism to enable the assets, and is relatively straight forward. The comparative position approval of a restructuring plan which is supported by at least one with respect to a stay under German insolvency law is less simple; affected class of creditors (other than an equity holder class or a it is likely that secondary UK insolvency proceedings would need class which would not receive any payment or other consideration to be opened. if normal ranking of liquidation priorities were applied, upon a valuation of the business).58 Again, the protection for new financing The rules governing avoidance actions by foreign insolvency is somewhat more flexible. The Draft Directive provides, for officeholders in respect of UK security are clearer under the CBIR. example, that grantors of new and interim financing should have the So for example, a US office holder can apply for relief under the UK right to receive payment in priority to other creditors in an insolvency avoidance provisions and the CBIR, without facing arguments that situation, even where those creditors would otherwise have superior US law defences might be relevant. A German office holder seeking or equal claims (and that such new or interim financing shall rank at to avoid UK security under the EIR would need to address mixed least senior to the claims of ordinary unsecured creditors).59 questions of UK and German law.51 UNCITRAL is currently developing, through UNCITRAL Working It is arguable that neither the CBIR nor the EIR would assist an Group V (Insolvency Law), a draft Model Law on the recognition insolvency office holder seeking to give effect to a compromise of and enforcement of insolvency-related judgments, which may UK secured creditors’ rights under foreign law; at best it might be allow for the recognition of foreign insolvency-related judgments argued that such a compromise is capable of recognition in the UK which compromise or avoid secured creditors’ rights, though any under the EIR,52 while the CBIR clearly does not allow this. implementation into domestic legislation is likely to be some way off.60 Conclusion and Developments in the UK One way or another, the international trend towards corporate and EU rescue reform continues apace. This is both towards universalism of insolvency regimes through legislative reforms and also towards The introduction and development of rescue regimes worldwide rescue regimes based on the US Chapter 11. It will be difficult for has been noted above, and the UK does not operate in isolation the UK to stand in isolation in protection of secured creditors’ rights. from international developments. The UK Consultation Paper on If the current UK regime (notably administration and schemes of insolvency reform recognises the impact of increasing international arrangement) no longer represents the preferred approach for

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debtors because of, inter alia, inadequacies in cost-effectively 10. An English scheme of arrangement under Part 26 of the dealing with secured creditors’ rights, or is unable to deal with Companies Act 2006 may be used to “cram-down” dissenting cross-border insolvency, the UK’s pre-eminence in the restructuring creditors (including secured creditors) or shareholders and insolvency sphere could be threatened. to implement a restructuring, provided that the requisite majorities approve the scheme proposal and it is sanctioned by the court. However, this is not an insolvency regime, is not Endnotes covered by the EIR and is available to solvent and insolvent companies. 1. See “The Insolvency Service: A review of the corporate 11. In the UK, see the avoidance rules in sections 238, 239 and insolvency framework: a consultation on options for reform”, 245 of the IA 1986 and for a useful summary of the nature of May 2016 (the “UK Consultation Paper”). The European avoidance proceedings see Rubin and another v Eurofinance trend towards rescue regimes is acknowledged in Recital 10 SA and others and New Cap Reinsurance Corporation (in of the Recast Insolvency Regulation, referred to herein. liquidation) and another v Grant and others [2012] UKSC 2. The RIR (Regulation (EU) 848/2015 of the European 46, at paras 94–98. Parliament and of the Council of 20 May 2015 on insolvency 12. Recitals 24 and 25, OIR (and Recitals 67 and 68, RIR). See proceedings) replaces the OIR (Council Regulation (EC) also paras 21–23 and 94–106 of the Virgos-Schmit Report on No 1346/2000 on insolvency proceedings) in respect of the Convention on Insolvency Proceedings dated 8 July 1986 insolvency proceedings opened after 26 June 2017. and paras 4, 88 and 89 of the UNCITRAL Legislative Guide 3. The EIR has force throughout the EU, apart from in Denmark on Insolvency Law (2005). (which exercised its right to opt out of the EIR). References in 13. See Recital 25, OIR (and Recital 68, RIR) and this article to the EU should be taken as excluding Denmark. Recommendation 4 of the UNCITRAL Legislative Guide on 4. This article does not deal with countries to which section 426, Insolvency Law (2005). See also A. Keay, “Security rights, Insolvency Act 1986 (“IA 1986”) applies. the European Insolvency Regulation and concerns about the non-application of avoidance rules” (2016) E.L. Rev. 41(1), 5. As an example of the UK’s more favourable treatment 72–90. of secured creditors, a creditor that holds a “qualifying floating charge” over a debtor’s assets (within the meaning 14. Recital 11, OIR (and Recital 22, RIR). Greater harmonisation of paragraph 14(2) of Schedule B1, IA 1986) is entitled is, however, one of the aims of the “Directive on preventive to appoint an administrator using the “out of court” route, restructuring frameworks, second chance and measures instead of having to apply to court (like other creditors), to increase the efficiency of restructuring, insolvency and paragraph 14(1) of Schedule B1, IA 1986. They are also discharge procedures and amending Directive 2012/30/EU”, entitled to prior notice of another party’s application to a draft of which was published on 22 November 2016 and appoint an administrator, which effectively gives them the which is intended to complement the EIR. opportunity to appoint their own choice of administrator 15. Namely, judgments opening insolvency proceedings (Paragraphs 12(2) and 26(1) of Schedule B1, IA 1986). and which concern the course and closure of insolvency 6. Paragraph 43(2) of Schedule B1, IA 1986. Consent of the proceedings and compositions approved of by that court: debtor-in-possession or trustee is not sufficient to modify Articles 19 and 32, RIR (formerly Articles 16 and 25, OIR). the stay imposed by a US bankruptcy filing (but is given 16. Article 7(1), RIR (formerly Article 4(1), OIR). deference by the court). 17. For the meaning of “rights in rem”, see Article 8(2) and (3), 7. For example, a creditor cannot enforce its security over RIR (formerly Articles 5(2) and (3), OIR) and Recital 68, movable assets in the possession of the German insolvency RIR (formerly Recital 25, OIR). See also Lutz v Bäuerle (C- administrator or receivables which have been assigned 557/13) [2015] B.C.C. 413 (16 April 2015), at paragraph 27. by way of security. It is, however, generally permitted to 18. See M. Balz “The European Union Convention on Insolvency enforce its security over real estate assets, unless the court Proceedings”, (1996) 70 American Bankruptcy Law Journal exercises its discretion to extend the stay to such security. 485, at page 509. See also Article 20 RIR (dealing with the 8. A UK administrator has the power to dispose of floating effects of recognition of the judgment opening insolvency charge property (paragraph 70(1) of Schedule B1, IA 1986) proceedings) (and Article 17, OIR), which is subject to and the ability to apply to court for permission to dispose the express exceptions to the primacy of the laws of the of non-floating charge property (paragraph 71(1)). However, opening State, including Article 8. It has, however, been the secured creditor’s priority to floating charge assets is suggested that the impact of Article 8 on moratoriums is respected (under paragraph 70(2)) and the net disposal not so clear – see G. McCormack “Security rights and the proceeds of fixed charge property (at market value) must European Insolvency Regulation: a legal quagmire”, (2016) be paid to the secured creditor (under paragraph 71(3)). 4 JIBFL 224. In Germany, there is academic debate as to Similarly, the US Bankruptcy Code facilitates the disposal of whether a moratorium which is triggered after the opening of secured assets by a trustee or a debtor-in-possession through insolvency proceedings (in other words, during the course of a so-called 363 sale (where there must be some sort of market such proceedings, at the discretion of the insolvency courts), check to determine the fair value of the assets, e.g. an auction is outside the scope of Article 8. See also Recital 69, RIR. process) or a Chapter 11 plan (where the secured creditor 19. Article 37, RIR (formerly, Article 29, OIR). This position must consent to the disposal of the secured assets or it must does not appear to have been altered by Article 36 of the receive a distribution equal to the fair market value of the RIR (which introduces a new right whereby an insolvency secured assets. Disputes may arise if there is a contested practitioner in main insolvency proceedings may give an valuation). undertaking to local creditors that they will be treated as 9. For example, a German insolvency administrator is entitled to if secondary insolvency proceedings had been opened – a realise causes of action and movable assets which are subject concept sometimes referred to as “synthetic secondary to security (if these are in his possession), unless the secured proceedings”). For completeness, note Article 52, RIR creditor has a right to demand the surrender of those assets. (formerly Article 38, OIR) which enables a temporary Net proceeds are accounted back to the secured creditor. administrator in main insolvency proceedings (e.g. in the UK, a provisional liquidator) to apply for preservation measures in another Member State (and according to the law of that

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Member State) for the period between the request for the 40. Re Atlas Bulk Shipping A/S Larsen and others v Navios opening of insolvency proceedings and the judgment opening International Inc [2011] EWHC 878, at para 20. the proceedings. 41. See for example Pan Oceanic Maritime [2010] EWHC 20. In other words, this power should not cut across local law 1734 (Comm), where the company was in US Chapter 11 security rights – see article by G. McCormack, referred to in proceedings (which are, like an English administration, in endnote 18 above. the nature of a rescue) and Transfield ER Cape Ltd [2010] 21. In Germany, for example, this remains a controversial issue EWHC 2851, where the company was in BVI liquidation for debate and there is as yet no prevailing opinion among and the liquidators had been granted the power to continue German scholars. trading by the BVI court. 22. Note that UK schemes of arrangement fall outside the scope 42. Article 22(1), CBIR. of the EIR. 43. [1992] Ch.505; [1990] B.C.C. 859. 23. See article by A. Keay, referred to in endnote 13 above, at 44. For example, in Ronelp Marine Ltd and others v STX page 6. Offshore & Shipbuilding Co Ltd and Jang [2016] EWHC 24. See article by G. McCormack, referred to in endnote 18 2228 (Ch), a case in which the court’s permission was above, noting these arguments. sought for the continuation of English proceedings against 25. Note here Article 8(4), RIR (formerly Article 5(4), OIR). a debtor in Korean rehabilitation proceedings (a form of 26. Article 4(2)(m), OIR refers to “all the creditors”. In Lutz v rescue proceeding), the court considered a number of factors Bäuerle the court held that the scope of Article 4(2)(m) of the to be relevant in the exercise of its discretion, including OIR is not limited to actions commenced in court, because the the “more than usually difficult” nature of the claim in the Article refers to avoidance rules, and not avoidance actions. English legal proceedings, that English proceedings were on In the UK, the IA 1986 provisions relating to preferences, foot to determine the claim (and were at an advanced stage) transactions at an undervalue and the avoidance of floating and that to permit the proceedings to continue would not charges are relevant. impede the achievement of the debtor’s rehabilitation plan or unduly advance the claimant’s interests over the interests 27. See article by A. Keay, referred to in endnote 13 above, at page 9. of the debtor’s creditors as a whole. In Fibria Celulose S/A v Pan Ocean Co Ltd [2014] EWHC 2124 (Ch), the court 28. See endnote 17. considered the administration cases relating to the extent of 29. Nike European Operations Netherlands BV v Sportland Oy the administration moratorium in determining whether the (C310/14) [2015] All ER (D) 151 (Oct). service of a notice terminating a contract of affreightment 30. See also SCI Senior Home (in administration) v Gemeinde could be considered to be the “commencement or continuation Wedemark (C-195/15) [2016] All ER (D) 23 (Nov), in which of an individual action or proceedings”, and therefore within the ECJ recently interpreted Article 5 broadly and held that the scope of Article 21(1)(a). it applies not only to security created in the context of a 45. Under Article 21(1)(e) and Article 21.1(g) CBIR, the latter commercial or credit transaction, but also to security created of which would allow the court to make an order enabling by a provision of (in this case, German) national law. disposal of fixed charge security assets on the same basis 31. It should be noted that the insolvent debtor’s office holder as would apply in administration, under paragraph 71(1) of could also seek to open secondary insolvency proceedings Schedule B1, IA 1986. in the Member State in which the secured assets are located, 46. As noted above, the UK does not, as yet, allow for the cram- and that Member State’s laws would apply to avoidance rules down of secured creditors’ rights under its insolvency laws concerning those security rights, in the usual way. (schemes of arrangement being a company law regime). 32. References to Articles in this section of the article are to the 47. Among others; these are the most common avoidance Articles set out in Schedule 1 of the CBIR, unless otherwise provisions applicable to security under the IA 1986. Under stated. Article 23, the provisions of the IA 1986 referred to apply 33. Countries in the EU which have adopted the Model Law with certain modifications as set out, so that the avoidance include Greece, Poland, Romania and Slovenia. provisions are relevant to the foreign proceedings. There 34. Section 3(2), CBIR. is an additional threshold if the proceedings are non-main: 35. Article 20(2), CBIR. The stay in the case of an English Article 23(5). company being wound up is found in s 130(2), IA 1986 and 48. Article 23(6), CBIR. is limited to a stay on actions or proceedings. The purpose of 49. See endnote 11. the stay under s 130(2) is to preserve the pari passu ranking of unsecured creditors in a winding up and to prevent an 50. This is because the stay protects “property of the estate” individual unsecured creditor from obtaining an illegitimate which is defined as all property of the debtor “wherever advantage over other unsecured creditors in the collective located and by whomever held”. process of winding up. It therefore does not preclude action 51. Note here that the procedural and technical aspects of by a secured creditor exercising its security rights as the avoidance rules differ very considerably between countries. secured creditor “stands outside the collective process”; see 52. As set out above, the majority of commentators would Re OGX Petroleo e Gás SA [2016] EWHC 25 (Ch). disagree with this conclusion. 36. Article 20(3)(a), CBIR. 53. UK Consultation Paper, page 30. 37. Article 21(1)(g), CBIR. 54. UK Consultation Paper, page 23. 38. “Foreign representative” is a defined term in the CBIR and means a foreign office holder: Article 2(j), CBIR. 55. 73% of industry respondents disagreed with this proposal (A Review of the Corporate Insolvency Framework: Summary 39. The stay on security enforcement in administration is found of Responses (September 2016), para 5.2). in paragraph 43(2) of Schedule B1, IA1986. For an example of the modified order, see Bank of Tokyo-Mitsubishi UFJ Ltd 56. Draft Directive of the European Parliament and of the Council v the Owners of the Sanko Mineral [2014] EWHC 3927. on preventative restructuring frameworks, second chance and measures to increase the efficiency of restructuring, insolvency and discharge procedures and amending directive 2012/30/EU (22 November 2016).

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57. Articles 5 and 6, Draft Directive. Dr. Uwe Goetker has an in-depth knowledge of restructuring 58. Article 11(1), Draft Directive. & insolvency. He counsels companies and managements on out-of-court and in-court restructurings, creditors and shareholders 59. Article 16, Draft Directive. on the pursuance of their interests in distressed situations and 60. See “Recognition and enforcement of insolvency-related distressed debt/asset investors/sellers regarding transactions – often judgments: commentary and notes on the draft model law” in complex situations with groups of companies, various layers of dated 4 October 2016, arising out of the 50th Working Group financial instruments and/or cross-border issues. session, 12–16 December 2016, Vienna. Tim Walsh is global head of McDermott’s Restructuring & Acknowledgment Insolvency practice. He advises clients on all aspects of restructuring transactions and has represented debtors in possession, creditors’ The authors would like to acknowledge the invaluable assistance committees, trustees, secured and unsecured creditors, bondholders, of Dr. Uwe Goetker and Timothy Walsh in the preparation and insurance companies, US and non-US lenders, and corporate clients finalisation of this chapter. in a broad range of bankruptcy and commercial real estate matters. He routinely advises boards of directors on fiduciary duties for distressed companies.

Alicia Videon Emma Jolley McDermott Will & Emery UK LLP McDermott Will & Emery UK LLP 110 Bishopsgate 110 Bishopsgate London EC2N 4AY London EC2N 4AY United Kingdom United Kingdom

Tel: +44 20 7577 3481 Tel: +44 20 7577 3425 Email: [email protected] Email: [email protected] URL: www.mwe.com URL: www.mwe.com

Alicia Videon specialises in restructuring, insolvency and non- Emma Jolley advises clients on non-contentious corporate performing loan sales. She has over 25 years’ experience representing restructuring, turnaround and formal insolvency matters. Her clients lenders and borrowers, as well as distressed investors and other include senior and junior lenders, special servicers, borrowers, stakeholders, involved in local and multi-jurisdictional situations. Alicia insolvency practitioners and private equity funds with a particular focus has advised on a number of high-profile restructuring cases, including on the real estate, retail and leisure sectors. Emma has experience in most recently a number of significant commercial real estate and advising on complex insolvency, security and enforcement issues, high property finance matters. Alicia also advises buyers and sellers of profile debt restructurings, insolvency sales, and advising corporate distressed debt, assisting in negotiating and documenting trades and debtors and directors of companies in financial difficulties. implementing trading and investment strategies.

McDermott Will & Emery is a leading international firm with a diversified business practice. Currently numbering more than 1,000 lawyers, we have 19 offices worldwide and a strategic alliance with MWE China Law Offices in Shanghai.

Our firm has more than 80 years of experience serving a broad range of client interests. We understand the issues faced by corporate decisionmakers because many of our lawyers have held key government and in-house positions. We understand how economic, social and political issues affect operations because our lawyers have navigated the complex business and regulatory environment themselves.

Outstanding client service is a cornerstone of our practice that has withstood the test of geography, economy and time. We are proud of the recognition we have received from our clients for our commitment to service, and we value their satisfaction as the best measure of our success.

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Australia Dominic Emmett

Gilbert + Tobin Alexandra Whitby

1 Overview 2 Key Issues to Consider When the Company is in Financial Difficulties 1.1 Where would you place your jurisdiction on the spectrum of debtor to creditor-friendly jurisdictions? 2.1 What duties and potential liabilities should the directors/managers have regard to when managing a Australia is widely considered to emphasise the rights of creditors company in financial difficulties? Is there a specific over debtors and as such is recognised as a creditor-friendly point at which a company must enter a restructuring jurisdiction. Whilst there are some limitations on the options or insolvency process? that might otherwise be available to distressed companies and some inflexibility in certain of the tools available to insolvency Directors owe a number of general and specific law duties to the practitioners, Australia’s insolvency regime is, for the most part, company, its shareholders and creditors. These include: primarily focused towards protecting the rights and interests of ■ duties of good faith and due care and diligence; creditors over the interests of debtors. For example, Australia’s ■ to not improperly use the position, or information obtained voluntary administration regime is controlled by creditors to the by virtue of the position, to gain personal advantage or cause exclusion of management and members and its purpose is designed detriment to the company; to maximise creditor returns. Further, unlike the United Kingdom ■ to keep adequate financial records; for instance, receivership is alive and well in Australia. ■ to take into account the interests of creditors; and Creditors are active participants in all insolvency processes in ■ to prevent insolvent trading. Australia. They can enforce their rights in each process and, whilst Compliance with these duties means that directors should place a there are some timing limitations placed on their enforcement rights company into external administration at such time that the company in a voluntary administration scenario, enforcement rights over is cash flow insolvent or there exists a less than reasonable prospect secured assets are otherwise unfettered. that the company will remain cash flow solvent. Secured creditors and employees enjoy a statutory priority in Restructuring options may be pursued, so long as care is taken to a distribution of assets and, in some circumstances, unsecured ensure the duty to prevent insolvent trading is not breached. creditors can also place themselves in a position of protection. Unlike secured creditors, unsecured creditors are given no legal right to priority, yet due to a particular relationship that may exist 2.2 Which other stakeholders may influence the with a debtor (for example, as a supplier of essential materials), company’s situation? Are there any restrictions on the they can exercise that power to obtain payment and ensure future action that they can take against the company? payments as a practical necessity to maximise value and keep the debtor business running. Stakeholders who have the power to influence a company’s situation include: ■ Secured creditors, who may seek to enforce their security and 1.2 Does the legislative framework in your jurisdiction appoint a receiver to realise the assets of the company. allow for informal work-outs, as well as formal restructuring and insolvency proceedings, and are ■ Unsecured creditors, where they may have a particular each of these used in practice? relationship with a debtor (e.g. as supplier of essential materials), may exercise that power to obtain future payment of its debts as a practical necessity to keep the debtor business Whilst informal work-outs are available in Australia, they face running. challenges due to Australia’s onerous insolvent trading legislation. ■ Shareholders. The Act bestows a positive duty on directors to prevent a company An automatic moratorium applies in respect of each of the formal from incurring a debt whilst it is insolvent (or where they suspect procedures, other than receivership, to prevent unsecured creditors it is likely to become insolvent). A breach of this duty exposes the (including shareholders) from enforcing their rights. Whilst no director(s) to penalties such as personal liability for future debts such moratorium exists in receivership, to the extent an unsecured incurred, including during any informal workout period. creditor takes action to enforce their rights, they have no recourse to the assets which are secured and in the control of the receivers.

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■ deed of company arrangement (DOCA); or 2.3 In what circumstances are transactions entered ■ scheme of arrangement. into by a company in financial difficulties at risk of challenge? What remedies are available? DOCA A DOCA takes place in the context of a voluntary administration Under Australian law, transactions will only be vulnerable to (i.e. a formal appointment), whilst a scheme may occur without any challenge where a company is in liquidation. A liquidator has the formal appointment. power to bring an application to the court to declare the following Once a company is in voluntary administration, a DOCA can be types of transactions void: proposed by anyone with an interest in the company. A DOCA is ■ insolvent transactions (which includes both unfair preferences effectively a contract or compromise between the company and

and uncommercial transactions) if entered into, in the case of its creditors. Whilst it is a feature of voluntary administration, it Australia unfair preferences, during the six-month period ending on the should in fact be viewed as a distinct regime, where the rights and relation-back day (the relation-back day is generally the date obligations of the creditors and company differ to those under a of the application to wind up the company) or in the case voluntary administration. of uncommercial transactions, during the two-year period ending on the relation-back day; A DOCA is a flexible restructuring tool in terms of outcomes that it can deliver. These include debt-for-equity swaps, a transfer of ■ unfair loans, which are voidable if entered into any time equity pursuant to section 444GA of the Act, moratorium of debt before the winding up began; repayments, a reduction in outstanding debt and the forgiveness of ■ unreasonable director-related transactions, which are all, or a portion of, outstanding debt. voidable if entered into during the four years ending on the relation-back day; and A DOCA binds not only creditors but also the company, directors and shareholders. It is recognised in scenarios where a shareholder ■ transactions entered into for the purpose of defeating, delaying or interfering with creditors’ rights on a company’s has limited interest in the company under administration and is not winding up, which are voidable if entered into during the 10 entitled to vote in the DOCA in its capacity as shareholder. As noted, years ending on the relation-back day. each shareholder is bound by the terms of the DOCA, whatever such terms may be. Uncommercial transactions and unfair preferences are voidable if the company was insolvent at the time of the transaction or at a time Scheme of arrangement when an act was done to give effect to the transaction. The courts A scheme is a restructuring tool that sits outside of formal insolvency. have held a transaction is ‘uncommercial’ if a reasonable person in the It is a court-approved agreement which binds company’s creditors company’s circumstances would not have entered into it. An unfair and/or members to some form of rearrangement or compromise of preference is one where a creditor receives more for an unsecured their pre-existing rights and obligations. debt than would have been received if the creditor had to prove for Schemes, as seen recently in the Nine Entertainment Group scheme it in the winding up. The other party to the transaction or preference and the Atlas Iron scheme, may involve the deleveraging of a may prevent it being held void if it can be shown that they became a business or the reduction of outstanding debt in exchange for the party in good faith, they lacked reasonable grounds for suspecting that issuance of equity. the company was insolvent and they provided valuable consideration The key element to the success of both restructuring procedures is the or changed position in reliance on the transaction. willingness of (any) secured creditors to work with the management Loans to a company are ‘unfair’ and thus voidable if the interest of the distressed company as well as other stakeholders. The or charges in relation to the loan were, or are, not commercially starting point for the negotiation will often involve an agreement reasonable. This is distinct from the loan simply being a bad or undertaking on a standstill or forbearance period, during which bargain. Any ‘unreasonable’ payments made to a director or a close the company will look to refinance its current debt structure (often associate of a director are also voidable, regardless of whether the through the injection of new capital and/or equity). payment occurred when the company was insolvent. Pre-packaged sales The ‘pre-pack sale’ in the traditional English and US tradition has 3 Restructuring Options had limited application in the Australian restructuring environment due to the stringent obligations placed on insolvency practitioners and the protections afforded to creditors under both statute and 3.1 Is it possible to implement an informal work-out in common law. your jurisdiction? Australian law imposes specific obligations on receivers for the disposal of assets which can restrict any attempts to achieve a pre- As discussed at question 1.2 above, informal work-outs are pack sale. The key obligation imposed by the Act requires a receiver possible in Australia so long as adequate attention is given to the to, upon the sale of an asset, either achieve a price not less than insolvent trading obligations. One way to help manage directors’ market value (if a market exists for the asset), or alternatively the concerns about insolvent trading is for the company to enter into best price reasonably obtainable. Australian courts have identified forbearance or standstill arrangements with its creditors. In doing certain steps that a receiver should take in order to comply with the so, the company will have an opportunity to restructure what might second limb of the obligation, which include a market or auction otherwise be current debt obligations. sale process and marketing campaign, which has made a ‘pre-pack’ sale difficult for insolvency practitioners to agree. 3.2 What formal rescue procedures are available in your Due to the restrictions described above, pre-packs will only be jurisdiction to restructure the liabilities of distressed possible in circumstances where: companies? Are debt-for-equity swaps and pre- (a) there are limited alternative sale options available to the packaged sales possible? insolvency practitioner appointed and there is evidence to support the assumption that any delay in sale may be fatal to There are two ways to effect a restructure of a company’s debts the underlying business; or under Australian law:

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(b) a market testing sale process has already been undertaken not bound. ‘Crammed down’ creditors do have a right of recourse prior to the appointment of the receiver or administrator. through the court system if they can demonstrate they have been Given the relatively recent influx of UK and US funds into the unfairly prejudiced. Australian market, it is likely that we will see increased attempts to Scheme of arrangement utilise pre-pack sales in circumstances where equity and subsequent To the extent a scheme involves the reconstitution of equity, the ranking creditor stakeholders are clearly out of the money. This is consent of existing shareholders will be required (50% in number). particularly so in circumstances where those stakeholders will face The consideration for that consent is determined and agreed in the difficulties in demonstrating their loss or damage. context of existing equity facing the alternative of receivership or administration. 3.3 What are the criteria for entry into each restructuring If a scheme is successfully passed, those creditors that did not vote Australia procedure? in favour of it are still bound by its terms. Unlike a DOCA scenario, a scheme will bind secured creditors who did not vote in favour if DOCA they are included in a relevant class of creditors for the purposes of the scheme. Where a DOCA has been proposed by an interested party, it will be accepted at the second meeting of creditors if the majority of No automatic statutory stay or moratorium exists once a company creditors (50% in number and value) vote in favour of it. enters into a DOCA or scheme. However, the terms of the DOCA or scheme itself can provide for a moratorium on creditors’ rights Scheme of arrangement and actions, and creditors will be bound by these should the relevant A scheme will be approved where at least 50% in number and 75% voting thresholds be achieved to effect the restructure process. in value of creditors in each class of creditor vote in favour of it. Classes are determined by reference to commonality of legal rights and only those creditors whose rights will be affected, compromised 3.6 What impact does each restructuring procedure have on existing contracts? Are the parties obliged to or amended need be included. perform outstanding obligations? Will termination and Where the issuance of equity forms part of its terms, the scheme also set-off provisions be upheld? requires shareholder approval (simple 50% majority). Final court approval is required. In Australia, no formal insolvency procedure results in the automatic termination of contracts between the debtor and third parties. Often, however, contracts will contain ipso facto clauses, which allow 3.4 Who manages each process? Is there any court counterparties to terminate or renegotiate on the occurrence of an involvement? insolvency event (which can be defined to include any form of restructure). DOCA As a DOCA forms part of the formal administration process, The management of the company under the DOCA will depend following appointment (and prior to the company entering into a entirely on the terms of the deed itself. A Deed Administrator may DOCA) the administrator must decide whether or not to perform a be appointed to control the company and/or management may be contract. Any damages flowing from the termination of the contract reinstated. to the counterparty will rank unsecured against the company. Court supervision is not mandatory for a DOCA; however, should a However, any contract that an administrator continues with may section 444GA share transfer be contemplated, it is likely leave of result in the administrator being held personally liable under the Act. the court will be required for implementation. Whether a scheme impacts on existing contracts will depend on Dissatisfied creditors also have recourse to the court to havea the terms of each contract. The contract may confer a termination DOCA set aside. right on the counterparty where a company enters into any form of restructure, reconstruction, reorganisation or arrangement. Care Scheme of arrangement needs to be taken to consider whether this right is triggered where a During the scheme process, the pre-existing management of the company’s holding company is being restructured. company generally continue in that capacity during the process and Where contracts are terminated, it is unlikely that outstanding approval phases (and, depending on the terms of the scheme itself, obligations require performance, unless the parties otherwise agree after implementation). to do so. Termination and set-off provisions will usually survive a The scheme process is heavily supervised by the court (as well restructuring procedure; however, as the nature of each procedure is as regulatory bodies), with two hearings required throughout the inherently broad and flexible, the terms of each scheme and DOCA process. The first court hearing is to approve the convening of the may impact on those rights. relevant creditors’ meeting(s) and as noted above, the court must ultimately approve the scheme prior to implementation. 3.7 How is each restructuring process funded? Is any protection given to rescue financing? 3.5 How are creditors and/or shareholders able to influence each restructuring process? Are there any The costs of a DOCA will be the company’s costs in the restrictions on the action that they can take (including administration. Equally, scheme costs will usually be the costs of the enforcement of security)? Can they be crammed the company, unless otherwise negotiated. down? A debtor can obtain financing and otherwise use its assets as security DOCA in a scheme of arrangement and informal voluntary reorganisations. This is solely a matter for agreement between the company and its If a DOCA is successfully passed by creditors then it binds all creditors. There are no special priorities given to new debt as of unsecured creditors, including those that did not vote in favour. right and such priorities have to be negotiated and agreed with any Only secured creditors who did not vote in favour of the DOCA are existing creditors who already hold some form of priority.

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Court involvement is required in a compulsory winding up, where 4 Insolvency Procedures it will appoint the liquidator. It will also consider applications by the liquidator, pursuant to section 480 of the Act, for an order that 4.1 What is/are the key insolvency procedure(s) available the liquidator be released and that the company be deregistered to wind up a company? after the liquidator has realised all of the property of the company or so much of that property as can in his or her opinion be realised A company may be wound up: without needlessly protracting the winding up, has distributed a ■ if solvent, voluntarily by its members; or final dividend (if any) to the creditors, has adjusted the rights of the contributories among themselves and made a final return (if any) to ■ if insolvent, by its creditors or compulsorily by order of the the contributories. The court must be satisfied that no creditor will court. be adversely affected by the order. Australia

4.2 On what grounds can a company be placed into each winding up procedure? 4.4 How are the creditors and/or shareholders able to influence each winding up process? Are there any restrictions on the action that they can take (including Provisional liquidation the enforcement of security)? Upon application to the court to wind up a company, the court will order the appointment of a provisional liquidator. Generally, secured claims rank pari passu (with some exceptions), Members’ voluntary winding up with secured creditors afforded a level of priority by virtue of the security arrangements in place. However, the court has the power A members’ voluntary liquidation is a solvent winding up. It (in limited circumstances) to change the rank of a creditor’s claim. requires that the directors of the company make a declaration of Section 564 of the Act provides an incentive to creditors to give solvency under section 494 of the Act that, in their opinion, after an financial assistance or indemnities to the liquidator to pursue asset inquiry into the affairs of the company, the company will be able to recovery proceedings or to protect or preserve property. If creditors discharge its debts in full within 12 months of the commencement provide such assistance, the liquidator may apply to the court for an of winding up. This is coupled with a special resolution of the order that the contributing creditors receive a higher dividend from members to wind up the company (at least 75% of votes cast by the company’s assets than they would otherwise be entitled to. members entitled to vote). After the commencement of a winding up of a company, or after the Creditors’ voluntary winding up appointment of a provisional liquidator, legal proceedings are not A creditors’ winding up arises when the company is insolvent. It to be commenced or continued against a company without leave of can occur in a number of circumstances, including: the court, pursuant to section 471B of the Act. Secured creditors ■ if the members of the company by special resolution resolve are generally granted immunity from this process by section 471C, that the company be wound up and the directors cannot assuming the validity of their security, as they remain entitled to provide a solvency declaration; realise their security despite the liquidation. ■ in situations where a liquidator appointed by the members forms the opinion that the company is in fact insolvent, they will convert the process from a members’ voluntary winding 4.5 What impact does each winding up procedure have on up into a creditors’ voluntary winding up; and existing contracts? Are the parties obliged to perform ■ a company may also enter into a creditors’ voluntary winding outstanding obligations? Will termination and set-off up at the end of an administration if the creditors resolve to provisions be upheld? do so at the second creditors’ meeting. As stated above, termination of contracts following the appointment Compulsory liquidation of a liquidator is not automatic. However, there are usually ipso The most common ground for an application to be made to court for facto clauses that are triggered following such an appointment an entity to be wound up is insolvency, usually indicated by a failure conferring termination rights on counterparties. to comply with a statutory demand or judgment debt. Further, a liquidator has the power to ‘disclaim’ onerous contracts. Grounds are also available for a creditor to apply to the court for Any damages flowing from the termination to the counterparty will winding up orders against a company not necessarily related to rank unsecured against the company. solvency, including that it is ‘just and equitable’ to do or because of Section 553C of the Act provides that statutory set-off is available a deadlock at a shareholder or director level affecting the ability to in a liquidation scenario where there have been mutual dealings manage the company. between the distressed company and the relevant creditor. In such circumstances, an automatic account is taken of the sum due from 4.3 Who manages each winding up process? Is there any one party to the other in respect of those mutual dealings, and the court involvement? sum due from one is to be set-off against any sum due from the other. The Act allows a broad range of claims to be capable of set-off. The Provisional liquidation rule entitles creditors who are also debtors to have preference over The provisional liquidator controls the affairs of the company the general body of creditors. Only unsecured creditors and secured during the provisional liquidation to the exclusion of the directors creditors who choose not to rely on their security can take advantage and shareholders. of the rule. Liquidation A creditor is, however, unable to claim the benefit of set-off if he or Upon a winding up (either voluntarily or compulsorily), a liquidator she had, at the time of the relevant transaction, notice of insolvency will control the affairs of the company and has the power to of the company. Further, a creditor cannot off-set any existing claim realise and distribute assets to the exclusion of the directors and or debt of the company against new claims or debts that may arise shareholders. during any period of administration.

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and in some cases secured creditors. The position of directors and 4.6 What is the ranking of claims in each procedure, management is different, and the priority afforded to them is capped including the costs of the procedure? significantly. A liquidator that chooses to run the business for a short period of time as part of the process will become personally liable for Generally, the statutory waterfall set out in the Act has secured services provided by individuals retained or employed during that creditors paid in priority to unsecured creditors. Secured creditors period. may contract priority arrangements between themselves if there are Scheme of arrangement different levels of secured debt within a company. A scheme in itself generally does not affect employment. There is an exception to this for employee entitlement claims. During a winding up, the entitlements of employees have priority

Australia over all other unsecured debts and claims, as well as those assets 7 Cross-Border Issues subject to a circulating security interest (formerly floating charges). The remuneration, costs and expenses of liquidators are afforded priority over all creditors’ claims, including employees. 7.1 Can companies incorporated elsewhere restructure or enter into insolvency proceedings in your jurisdiction? 4.7 Is it possible for the company to be revived in the future? Companies registered as foreign corporations in Australia could have receivers, administrators or liquidators appointed to them, Where a provisional liquidator has been appointed, the court may but it is rare for this to occur. We are not aware of any foreign either order that the company move to a winding up or that the corporations having initiated a scheme of arrangement in Australia. provisional liquidator be terminated. In a liquidation scenario, the company cannot be revived in the 7.2 Is there scope for a restructuring or insolvency future. Following the sale of the company’s assets, the company is process commenced elsewhere to be recognised in deregistered with ASIC and ceases as a corporate identity. your jurisdiction?

5 Tax Australian courts act cooperatively with foreign courts and insolvency practitioners, and will recognise the jurisdiction of the relevant court where the ‘centre of main interest’ is located. This 5.1 Does a restructuring or insolvency procedure give approach follows the UNCITRAL ‘Model Laws’ on insolvency rise to tax liabilities? which were codified into Australian law through the Cross-Border Insolvency Act 2008 (Cth). Yes. Tax liabilities (including PAYG, capital gains tax) can continue There is also scope under different legislation such as the Act for to be incurred during each form of insolvency and restructuring Australian courts to recognise foreign judgments in Australia, process. and such recognitions require compliance with the relevant court practice and procedure rules. 6 Employees 7.3 Do companies incorporated in your jurisdiction restructure or enter into insolvency proceedings in 6.1 What is the effect of each restructuring or insolvency other jurisdictions? Is this common practice? procedure on employees?

It is becoming increasingly common for Australian companies Receivership subject to a formal insolvency process to seek recognition of that A receiver becomes personally liable for the services rendered by process in other jurisdictions, but it is rare for Australian companies an employee to the company. A receiver may choose to terminate to look to initiate a formal insolvency process or restructure employment contracts, and is not personally liable for accrued exclusively in a foreign jurisdiction. entitlements prior to appointment. The claims of the terminated It has been known for Australian companies to file for Chapter 11 employees rank as unsecured claims against the company; however, recognition in the United States. they are given priority to all other unsecured claims. Voluntary administration 8 Groups The position of an employee under any voluntary administration will be at the discretion of the administrator. DOCA 8.1 How are groups of companies treated on the insolvency of one or more members? Is there scope Employees are afforded a level of protection under a DOCA. The for co-operation between officeholders? statutory priority afforded to employees in liquidation must be the equivalent in a DOCA (unless the employees vote otherwise). In insolvency proceedings involving corporate groups, a Provisional liquidation consolidated group is not considered as a single legal entity. Where Provisional liquidation does not automatically terminate employees. companies operate as a consolidated group, the starting legal Liquidation position is the “separate personality” principle, which prevents creditors of an insolvent company from gaining access to the funds The winding up of a company automatically terminates the of other companies for payment of their debts. employment of employees. Whilst employees are unsecured creditors, they are afforded a statutory priority ahead of other unsecured creditors

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Having said that, groups of companies often enter into a deed of cross guarantee to afford themselves the benefit of consolidated 9 Reform financial reporting. In a liquidation scenario, that deed commits the companies a party to it to pay the liabilities of all the other 9.1 Are there any proposals for reform of the corporate companies that are a party to it. rescue and insolvency regime in your jurisdiction? The Act, however, provides for a holding company to be liable for the debts of their insolvent subsidiaries in certain circumstances. Australian insolvency law reform has been the subject of much These provisions enable the subsidiaries’ liquidator to recover discussion and debate for a long time and some steps have been amounts equal to the loss or damage suffered by creditors from the taken towards implementing change. For example, the Insolvency parent company if the parent failed to prevent the subsidiary from Law Reform Act 2016 (Cth) proposes major changes to Australia’s incurring debts while the subsidiary was trading when cash flow corporate regime insofar as it relates to external administrations, by Australia insolvent. creating a set of common rules to reduce cost, increase efficiency Pooling of group funds may occur in limited circumstances, as and stimulate competition. prescribed by Division 8 and Part 5.6 of the Act, being Sections It is anticipated that further reform will follow to provide for: 5.71 to 5.79L. Generally, those circumstances are where there is a ■ the introduction of a ‘safe harbour’ rule protecting directors substantial joint business operation between members of the same from personal liability for insolvent trading following corporate group and external parties; such members of the group the appointment of a restructuring advisor to develop a are jointly liable to creditors. The liquidator of the corporate group turnaround plan for a distressed company; being wound up makes what is called a pooling determination, ■ the making of ipso facto clauses, which allow contracts to be after which separate meetings of the unsecured creditors of each terminated solely due to an insolvency event, unenforceable company must be called to approve or reject the determination. The if a company is undertaking a restructure; court may vary or terminate any approved pooling determination. ■ amendments that allow for pre-packaged sales; and ■ the introduction of a voluntary administration style moratorium on creditor enforcement during the formation of schemes of arrangement to allow a distressed company the opportunity to restructure without the threat of possible creditor action.

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Dominic Emmett Alexandra Whitby Gilbert + Tobin Gilbert + Tobin Level 35, Tower Two Level 35, Tower Two International Towers Sydney International Towers Sydney 200 Barangaroo Avenue 200 Barangaroo Avenue Barangaroo NSW 2000 Barangaroo NSW 2000 Australia Australia

Tel: +61 2 9263 4328 Tel: +61 2 9263 4114 Email: [email protected] Email: [email protected] URL: www.gtlaw.com.au URL: www.gtlaw.com.au

Australia Dominic specialises in non-contentious restructuring and insolvency Alexandra practises in restructuring and insolvency disputes as well as work for banks and financial institutions, as well as special situation non-contentious restructuring and insolvency transactions. groups and distressed debt funds. His expertise includes: preparing Alexandra has been or is involved in advising on a number of high- and negotiating standstill and forbearance arrangements; debt profile transactions, including: restructuring and schemes of arrangement; structured administration and receivership sales; and advice to directors, receivers, ■■ Bis Industries, in relation to a recapitalisation plan to restructure its administrators and liquidators. A$1.17 billion debt. Recent and current roles in the resources sector include Bis Industries, ■■ The receivers and managers appointed to the Clem 7 (Airport Link) Arrium, Emeco, Boart Longyear, Paladin and WICET. Tunnel in Brisbane, Queensland (BrisConnections). Otherwise, Dominic was or is involved in a significant if not lead role ■■ The receivers and managers appointed to the North South Bypass in Atlas Iron, Mirabela Nickel, Straits Resources, BrisConnections, Tunnel in Brisbane, Queensland (RiverCity). RiverCity, Nine Entertainment, Westpoint, Ansett, Billabong, Alinta ■■ Nine Entertainment Group, in respect of its A$3.4 billion debt-for- Energy, I-Med, Centro, Freight Link, Cross City Tunnel, Timbercorp, equity restructuring by way of scheme of arrangement. Walter Construction, MF Global, Top Ryde, Allco Finance, Raptis and ■■ The deed administrators of Mirabela Nickel Limited, in respect of a FAI. recapitalisation plan to restructure its A$500 million debt. ■■ GrainCorp, in representative proceedings in the Supreme Court of New South Wales. ■■ The majority group of term lenders in the Atlas Iron creditors’ scheme of arrangement.

Gilbert + Tobin is Australia’s leading independent law firm. Established in 1988, the firm employs more than 500 lawyers and professionals nationally.

From our Sydney, Melbourne and Perth offices, we work on transactions and cases that define and direct the market. Our clients include major corporations and government clients, throughout Australia and the Asia-Pacific region, and around the world.

We are a diverse mix of talented, energetic and creative thinkers who bring different perspectives to find original solutions to unprecedented problems. With insight and rigour, we cut through complexity to get to the point.

Our core competency practice areas are: Restructuring + Insolvency, Corporate Advisory/M+A, Banking + Infrastructure, Capital Markets, Competition + Regulation, Intellectual Property, Litigation + Dispute Resolution, Technology, Media + Telecommunications, Employment, Energy + Resources, Real Estate, Environment + Projects.

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Austria Martin Abram

Schindler Attorneys Florian Cvak

not sufficient to satisfy all of the creditors and a business forecast 1 Overview shows that the debtor is likely to become illiquid within a reasonably predictable period; usually at least the current and the following 1.1 Where would you place your jurisdiction on the financial year are considered for such a test. If a debtor is illiquid spectrum of debtor to creditor-friendly jurisdictions? or insolvent, the managing directors have to file for the opening of insolvency proceedings without undue delay; however, no later than Austria is generally considered a creditor-friendly jurisdiction, as it within 60 days; failure to meet this obligation exposes the managing does not provide for UK or US styles of restructuring proceedings. directors to civil and criminal liability, as follows: In case of such delays, the managing directors will be liable to all creditors for the damages caused by such delay. Existing creditors, 1.2 Does the legislative framework in your jurisdiction allow for informal work-outs, as well as formal i.e. creditors who had a claim against the debtor before the opening restructuring and insolvency proceedings, and are of the insolvency proceedings, are entitled to claim quota damages, each of these used in practice? i.e. the difference between the quota they would have received in case of a timely filing and the lower quota they received because of the Austrian law allows for both informal work-outs as well as (within delayed filing. New creditors, i.e. creditors who became creditors of the framework of the Austrian Insolvency Code) formal restructuring the company after the point in time when management would have and insolvency proceedings, all of which are used in practice. The been obliged to file, will be entitled to be reimbursed for the negative Austrian Insolvency Code provides for three types of insolvency interest, as they would have most likely not have contracted with the proceedings, namely: debtor had its management already filed for insolvency. ■ restructuring proceedings with self-administration (where the Criminal liability can occur under several circumstances, most management of the debtor retains control over the day-to-day notably in cases of grossly negligent encroachment of creditors’ business); interests, preferential treatment of creditors, withholding of social ■ restructuring proceedings without self-administration (where security payments and fraudulent intervention with creditors’ claims. the court-appointed administrator takes control over the day- to-day business); and 2.2 Which other stakeholders may influence the ■ bankruptcy proceedings (where the court-appointed company’s situation? Are there any restrictions on the administrator takes control over the debtor with the aim to action that they can take against the company? realise all assets to pay off the creditors). The following chapter solely deals with work-outs, restructuring and Shareholders or members of the supervisory board of the debtor (if insolvency proceedings of corporate entities, and not individuals. any) are not entitled to file for the opening of insolvency proceedings. If they exert their influence to induce management not to file for the 2 Key Issues to Consider When the opening of proceedings, this may expose a stakeholder to claims for damages for contributing to a delay of the filing. Company is in Financial Difficulties Creditors are entitled to (and frequently do) file for the opening of insolvency proceedings; however, they can only apply for the 2.1 What duties and potential liabilities should the opening of bankruptcy proceedings, and not for the opening of in- directors/managers have regard to when managing a court restructuring proceedings. company in financial difficulties? Is there a specific point at which a company must enter a restructuring or insolvency process? 2.3 In what circumstances are transactions entered into by a company in financial difficulties at risk of challenge? What remedies are available? Managing directors are obliged to timely file for insolvency if the debtor is considered “insolvent” according to the Austrian Insolvency Act, i.e., if it is illiquid or over-indebted. A debtor is illiquid if it Court-appointed insolvency administrators can (and frequently do) cannot settle the liabilities due – known but not due liabilities are not challenge before the insolvency court transactions undertaken by considered – and this is not just a temporary occurrence. A debtor the debtor prior to the opening of the proceedings during certain is over-indebted if its assets – based on their liquidation value – are ‘suspect periods’ (not applicable for restructuring proceedings under

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self-administration). For example, transactions in which the debtor the debtor has the option to request that such proceedings are opened intentionally puts certain creditors at a disadvantage relative to one as restructuring proceedings. or several other creditors who knew of such an intention can be The debtor’s application for in-court restructuring proceedings must challenged when made within a suspect period of 10 years before include a restructuring plan (Sanierungsplan), which must provide the opening of the proceedings. In other cases, suspect periods range (i) that the rights of secured creditors (that is, rights of creditors between six months and two years. Cases include the transfer of holding a property interest in an asset in the estate to request return assets without due consideration (two years), provision of security or of the asset (Aussonderungsgläuber) and the rights of creditors settlement of an obligation not due at the time (one year), and business (Absonderungsgläubiger) holding a security interest in an asset to transactions with the insolvent debtor when the counterparty knew or the proceeds of enforcement into that asset) will not be affected, should have known of its insolvency (six months). (ii) full payment of all estate claims (Masseforderungen) (these Austria are, ranked in order of practical importance, claims for labour, services and goods furnished to the estate post-filing, the costs of 3 Restructuring Options the proceedings (including the remuneration and reimbursement awarded to the creditor’s committee and the Special Creditors’ 3.1 Is it possible to implement an informal work-out in Rights Protection Associations), any monies advanced by a third your jurisdiction? party to cover the initial costs of the proceedings (to avoid a dismissal of the filing in limine), and the fees of the administrator), Out-of-court restructurings can only be implemented pre-insolvency as well as (iii) an offer to pay at least 20 per cent (or 30 per cent if or within the 60-day grace period (that is, management has an self-administration is requested) of the claims filed by insolvency obligation to file for the opening of insolvency proceedings without creditors, i.e. other (unsecured) creditors that were not contested undue delay but in any event within 60 days of insolvency; during by the administrator, within two years of the approval of the the 60-day grace period, management may make reasonable efforts restructuring plan. Furthermore, the debtor must provide evidence to restructure the debtor or prepare an application for restructuring in the application that he is able to fund the estate claims for a period proceedings). The obvious advantage of an out-of-court restructuring of 90 days following the application. is that the proceedings are not registered in the insolvency database (as would be the case with in-court restructuring proceedings), and 3.4 Who manages each process? Is there any court thus it is less likely to become public. The other advantage is that involvement? out-of-court restructurings tend to offer more flexibility and can be implemented quicker as long as all relevant parties contribute. Out-of-court restructurings are managed by the company itself The downside is that out-of-court restructurings only capture the without any court involvement. contracting parties (and not all insolvency creditors) and in certain In restructuring proceedings with self-administration, the debtor situations there may be a risk of voidance where an agreement is retains control over the estate. The administrator’s approval is entered into at a time where the debtor is already insolvent and the required only for matters outside the ordinary course of business. effect thereof is to potentially reduce the value of the estate. However, the administrator may also veto matters which fall within the ordinary course of business. In restructuring proceedings 3.2 What formal rescue procedures are available in your without self-administration, control over the estate is transferred to jurisdiction to restructure the liabilities of distressed the administrator. companies? Are debt-for-equity swaps and pre- Following the receipt of an application for restructuring proceedings, packaged sales possible? the court will issue a formal edict opening the proceedings. In such edict, the court will determine the type of proceedings, appoint As mentioned under question 1.2 above, the Austrian Insolvency the administrator and set dates/deadlines for (i) the report hearing Code provides for three types of insolvency proceedings. The (where the administrator has to present his or her report of the two types of restructuring proceedings (with or without self- status of the debtor), (ii) the first creditors’ convention, (iii) the administration by the debtor) are aimed at ensuring the continuing filing of insolvency claims, (iv) the examination hearing (where survival of the debtor by providing a restructuring of (some of his) the filed insolvency claims are examined), and (v) the restructuring financial obligations. On the other hand, bankruptcy proceedings plan hearing (where the creditors will take a vote on the proposed (see question 1.2 above) are aimed at realising the assets of the restructuring plan). The report hearing and the first creditors’ estate and distributing the proceeds to the debtor’s creditors. In case convention typically take place within 14 days of the publication of restructuring proceedings are not successful, they are transformed the edict and the examination hearing within 60 to 90 days. into bankruptcy proceedings. Following the acceptance of the restructuring plan, the debtor will Additionally, the Austrian Reorganisation Act also provides – at (again) be vested with all rights in and to the estate. However, the least in theory – provisions for the restructuring of a company in restructuring plan may also provide that a trustee is appointed to (i) financial difficulties. However, these provisions have little practical supervise the fulfilment of the restructuring plan by the debtor (in relevance, as the completion of such procedure requires the consent which case supervision is similar to that during self-administration of all creditors. proceedings), (ii) take over the estate (übernehmen) with the Austrian law does not contain any special rules on pre-packaged mandate to fulfil the restructuring plan (Sanierungstreuhand), or sales or debt-for-equity swaps. (iii) liquidate the estate (Liquidationstreuhand).

3.3 What are the criteria for entry into each restructuring 3.5 How are creditors and/or shareholders able to influence procedure? each restructuring process? Are there any restrictions on the action that they can take (including the enforcement of security)? Can they be crammed down? An in-court restructuring process can only be opened by the competent insolvency court based on an application by the debtor; in case a creditor files for the opening of bankruptcy proceedings, As there are no cram-down provisions for out-of-court restructuring proceedings, creditors and shareholders will need to reach a

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compromise acceptable to all stakeholders to facilitate a successful operating cash flows, through existing unused financing lines or out-of-court restructuring. through new debt financing. For in-court restructuring proceedings, creditors can influence the process through threatening to withhold their consent to the 4 Insolvency Procedures restructuring plan. The restructuring plan must be approved by simple majority (by headcount) of the insolvency creditors present at the restructuring plan hearing (Sanierungsplantagsatzung) who 4.1 What is/are the key insolvency procedure(s) available must represent at least 50 per cent of the outstanding unsecured debt to wind up a company? represented at the hearing and be confirmed by a decision of the There are two types of proceedings to wind up a company, namely

court. Insolvency creditors who have acquired their claims after Austria the opening of the proceedings have no voting right (unless they (i) a voluntary liquidation, and (ii) bankruptcy proceedings pursuant acquired the claim based on an agreement entered into prior to the to the Austrian Insolvency Code. opening of the proceedings). In principle, the restructuring plan must treat all insolvency creditors equally (Paritätsprinzip) unless (where 4.2 On what grounds can a company be placed into each a group of insolvency creditors is concerned) unequal treatment winding up procedure? is approved by a simple majority (by headcount) of the affected insolvency creditors present at the restructuring plan hearing, A voluntary liquidation can only be initiated by a resolution of the who must represent at least 75 per cent of the affected insolvency shareholders of a company. In such resolution, a special suffix is claims represented at the hearing or (where an individual creditor is added to the company name to denote that the company is in wind- concerned) the individual creditor has granted his explicit consent. down. Both the resolution and the change of the company name The court decision confirming the restructuring plan releases the have to be notified to the Companies Register. debtor from his obligation to pay insolvency creditors in excess of For the preconditions of opening bankruptcy proceedings, see the agreed quota. If the debtor defaults and fails to come current question 2.1 above. As with in-court restructuring proceedings, the during the requisite cure period, the released claims are reinstated proceedings are opened by an edict of the competent insolvency court. and become immediately due. Please note that the debtor has the option to apply for a conversion Shareholders also have some (albeit less formalised) influence on of bankruptcy proceedings into restructuring proceedings, provided the process; typically, the debtor will require additional shareholder that he can show that the preconditions are met. funding to (a) satisfy the estate claims during the proceedings, and (b) fulfil the payment obligations pursuant to the restructuring plan. As opposed to creditors, the Austrian Insolvency Code does not 4.3 Who manages each winding up process? Is there any court involvement? provide for a (creditor-initiated) shareholder cramdown.

A voluntary liquidation is managed either by (all or some of) the 3.6 What impact does each restructuring procedure have managing directors of the company or by newly appointed liquidators, on existing contracts? Are the parties obliged to as decided by the company’s shareholders. Court involvement for perform outstanding obligations? Will termination and a voluntary liquidation is limited; basically the liquidators have to set-off provisions be upheld? make certain filings with the Companies Register, which are only subject to a limited review by the court. The liquidators will have Out-of-court restructuring proceedings do not have any impact on to terminate all existing contractual relationships of the company, existing contracts. Thus, as the debtor will at this point most likely be settle all outstanding claims and repay all debt of the company in default under certain of its financing arrangements, it is customary before the company can be finally wound down. for banks to agree on a standstill for the duration of such out-of- For bankruptcy proceedings, the process is similar to the process court restructuring. It has to be borne in mind that the 60-day filing for in-court restructuring proceedings; the court will appoint an obligation of the debtor’s management still applies in this case. administrator who will take care of the liquidation of the assets of For in-court restructuring proceedings, the Insolvency Act provides the debtors and the payment of the quota to the insolvency creditors. for a six-month moratorium for vital contracts, which limit a contracting party’s ability to terminate for good cause. Default on 4.4 How are the creditors and/or shareholders able to payments and deterioration of the financial or economic state of the influence each winding up process? Are there any debtor is not considered good cause. The most notable exception to restrictions on the action that they can take (including that rule is funding commitments under credit facilities. the enforcement of security)? Subject to this restriction, termination and set-off provisions will still be upheld; however, set-off in an insolvency setting is modified In a voluntary liquidation, the liquidators need to pay-off all existing compared to the general rules of the Austrian Civil Code, as claims creditors of the company, so the creditors are in a strong position to of creditors are converted to monetary claims upon the opening of demand full repayment of their claims. Shareholders still retain their the insolvency proceedings, and thus can be set off at an earlier influence (to the extent allowed by law), even after they decided to point. However, claims arising post-petition cannot be set off put the company in liquidation. against claims of the debtor. In bankruptcy proceedings, the shareholders do not have any noticeable degree of influence on the proceedings. They are, however, entitled to bid for assets of the debtors in the same way as 3.7 How is each restructuring process funded? other creditors. The influence of unsecured creditors is also limited in bankruptcy proceedings; certain decisions by the administrator As mentioned above, the debtor needs to provide proof of funds to require the prior consent of the creditors’ committee, where the cover its post-petition payment obligations for a period of 90 days various creditors have voting rights depending on the amount of following the application. There are no restrictions on the sources their (accepted) claims against the debtor. of funding, so funds can be provided by shareholders, through

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Austria the company is put into liquidation. Absent the company and its counterparty exercising such termination right or reaching a different 5 Tax agreement, the outstanding obligations under such contracts have to be fulfilled. Set-off provisions (whether by contract or by statute) will typically not be affected by a decision to put a company into 5.1 Does a restructuring or insolvency procedure give rise to tax liabilities? voluntary liquidation.

In bankruptcy proceedings, the insolvency administrator may elect The opening of a restructuring or insolvency procedure itself does to assume or withdraw from contracts which neither party has fully not give rise to tax liabilities. In an out-of-court restructuring, any performed at the time of the opening of the insolvency proceedings. formal subordination or waiver of existing shareholder debt may If the contract is assumed, further claims of the contracting party are lead to the debtor recognising a taxable gain, which – in most (preferred) estate claims (Masseforderungen), whereas in case of a circumstances – can be offset against current losses or loss carry- withdrawal, any resulting (damage) claims of the contracting party forwards. are ordinary insolvency claims. Where the estate is the tenant, the insolvency administrator (not the landlord) can terminate the lease, For a voluntary liquidation to be finalised, the company will need in which case he must only observe the statutory notice period or to obtain a tax clearance certificate before it can be deleted from the a shorter contractual notice period (but is not bound by a longer companies register. contractual notice period). The six-month moratorium referred to under question 3.5 above may also apply in case of bankruptcy 6 Employees proceedings if the administrator has sufficient funds to pay the estate claims and can show that keeping such contracts in place will likely enhance the chances of successfully selling the business enterprise 6.1 What is the effect of each restructuring or insolvency of the debtor during the bankruptcy proceedings for higher sales procedure on employees? proceeds. Where the estate is the landlord, no special termination rights exist. As regards set-off provisions, please see question 3.5 The opening of in-court restructuring or insolvency proceedings by above. itself does not affect the employees of the debtor. The insolvency administrator has special rights to terminate 4.6 What is the ranking of claims in each procedure, employment upon a partial or total shut down, only requiring the including the costs of the procedure? administrator to comply with the (mandatory) notice periods under statute and the applicable collective bargaining agreement (but not All Austrian in-court restructuring and insolvency proceedings longer contractual notice periods). A similar provision is available differentiate between certain types of claims, which are ranked in to a debtor in a restructuring with self-administration if he decides to the following order: close part of the business or unit, and continuing the employment of an employee engaged in that part of the business or unit would put Secured claims: claims of creditors holding a property the restructuring or the business at risk. Such a measure, however, interest in an asset in the estate to request return of the asset requires the consent of the insolvency administrator. (Aussonderungsgläuber) and creditors holding a security interest in an asset to the proceeds of enforcement into that asset Please note that mass lay-offs in connection with restructuring or (Absonderungsgläubiger). insolvency proceedings require a 30-day pre-notification of the competent branch of the Austrian Labour Market Service. During Estate claims: estate claims (Masseforderungen), which consist of the aforementioned 30-day notice period, no termination can be (i) costs of the proceedings, (ii) costs for the administration of the effectively announced – which means that the notice period is de estate, (iii) costs for post-petition salaries, (iv) costs for terminating facto prolonged by that period. certain types of employment agreements, (v) claims for the fulfilment of agreements not terminated by the administrator, (vi) claims based on acts of the administrator, (vii) unjust enrichment 7 Cross-Border Issues claims against the estate, and (viii) compensation claims by the creditor protection organisations. Insolvency claims: insolvency claims are claims by unsecured 7.1 Can companies incorporated elsewhere restructure or enter into insolvency proceedings in your creditors of the debtor relating to the pre-petition period. Such jurisdiction? claims needs to be filed with the court (within a period of time set forth in the opening edict of the proceedings) and can be contested Under the Austrian Insolvency Code, companies registered outside by the administrator. of Austria (but in another EU Member State) can enter into Subordinated claims: claims of shareholders or claims based on insolvency proceedings in Austria if their centre of main interest equity replacing services to the debtor can only be satisfied if all (COMI) is in Austria and no insolvency proceedings have been other of the aforementioned claims have been satisfied in full. opened in respect of such debtor in another EU Member State

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as a main proceeding according to Council Regulation (EC) No 848/2015. Companies registered outside the EU can in principle 8 Groups also enter into insolvency proceedings in Austria, provided that their COMI is in Austria; in this case, the Austrian Insolvency 8.1 How are groups of companies treated on the Code provides for a rebuttable assumption that the COMI of a non- insolvency of one or more members? Is there scope Austrian debtor is located in its country of registration. for co-operation between officeholders?

The Austrian Insolvency Code does at not present provide for 7.2 Is there scope for a restructuring or insolvency process commenced elsewhere to be recognised in cooperative insolvency proceedings for groups of companies; your jurisdiction? thus, separate insolvency proceedings have to be opened for each Austria group member. According to a proposed amendment (see question Insolvency proceedings that were opened as main proceedings in 9.1), the Austrian Insolvency Code will incorporate the provisions another EU Member State have to be recognised in Austria pursuant of Council Regulation (EC) No 848/2015 regarding insolvency to Council Regulation (EC) No 848/2015. proceedings for groups of companies, which so far have only applied in cross-border scenarios. These provisions basically provide for For foreign insolvency proceedings opened outside of EU Member increased coordination of the insolvency proceedings for the various States, the Austrian Insolvency Code provides for a recognition of group entities. such proceedings provided that the COMI of the debtor is located in the country where the insolvency proceedings were opened and the foreign insolvency proceeding is comparable to an Austrian 9 Reform insolvency proceeding. Please note that the Insolvency Code does not provide for a formal recognition procedure, such as a Chapter 15 filing in the United States; thus, the question of the effects for such 9.1 Are there any proposals for reform of the corporate foreign insolvency proceedings will be decided by Austrian courts rescue and insolvency regime in your jurisdiction? on a case-by-case basis, primarily when creditors try to initiate enforcement actions against the debtor in Austria. Currently, a government proposal to amend the Austrian Insolvency Code is in the legislative process; the amendment is expected to be adopted in the near future. The envisaged amendment mainly 7.3 Do companies incorporated in your jurisdiction concerns a modification of the provisions for insolvency proceedings restructure or enter into insolvency proceedings in other jurisdictions? Is this common practice? relating to individuals, as well as adaptations in connection with the coming into force of Council Regulation (EC) No 848/2015 and provisions regarding insolvency proceedings for groups of Generally, Austrian companies tend to restructure or enter into companies located in Austria (see question 8.1). Other than that, insolvency proceedings in Austria. As opposed to Germany, where there are currently no proposals for reform. several debtors have tried to open insolvency proceedings in the UK in the recent past, we have not observed such attempts in Austria.

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Martin Abram Florian Cvak Schindler Attorneys Schindler Attorneys Tuchlauben 13 Tuchlauben 13 A-1010 Vienna A-1010 Vienna Austria Austria

Tel: +43 1 512 2613 300 Tel: +43 1 512 2613 500 Email: [email protected] Email: [email protected] URL: www.schindlerattorneys.com URL: www.schindlerattorneys.com Austria Martin Abram is a founding partner of Schindler Attorneys. Prior to Florian Cvak is a founding partner of Schindler Attorneys. Prior to that, Martin was a partner at Wolf Theiss. His practice focuses on that, he co-headed the private equity practice of Schönherr. His corporate law, corporate restructurings, mergers & acquisitions and practice focuses on private equity, mergers & acquisitions, general project and real estate financing transactions. He regularly counsels corporate law and corporate finance transactions. He frequently financially troubled companies, their shareholders, management and assists financial sponsors and corporates on their investments in supervisory boards as well as financing banks and other creditors in distressed debt and businesses in distress, and regularly advises dealings with distressed debtors. shareholders, management and supervisory boards of financially troubled companies.

Schindler Attorneys is an Austrian law firm specialising in transactional work with extensive experience in the fields of M&A, private equity, finance, real estate, corporate, tax, securities law and restructurings. We regularly counsel leading national and international financial investors and their investments in corporate businesses, as well as financing banks.

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Bermuda Alex Potts

Sedgwick Chudleigh Ltd. Mark Chudleigh

There are various statutory provisions relevant to the taking of 1 Overview security in Bermuda, including, for example, section 19(d) of the Supreme Court Act 1905, section 1 of the Bonds and Promissory 1.1 Where would you place your jurisdiction on the Notes Act 1874, and section 2 of the Charge and Security (Special spectrum of debtor to creditor-friendly jurisdictions? Provisions) Act 1990. With this legislative background in mind, Bermuda can be Bermuda is a self-governing British Overseas Territory. The systems described, for the most part, as a very creditor-friendly jurisdiction. of law administered in Bermuda are local Bermudian legislation, Secured creditors can generally enforce their security outside of the Bermudian common law (as developed from English common law), insolvency process, and the insolvency legislation is highly pro- and UK legislation expressly made applicable to Bermuda. creditor. It provides, in particular, for the right of an unsecured Bermuda has its own Court system, including a designated creditor with an unpaid debt to apply for an order that the corporate Commercial Court which is part of the Supreme Court of Bermuda, debtor be compulsorily wound up and its assets applied in satisfaction with rights of appeal to the Court of Appeal for Bermuda, and then of its debts, and there is no statutory corporate rescue regime beyond the Privy Council in London. the ‘Scheme of Arrangement’, discussed below. Nevertheless, the Supreme Court has developed an insolvency practice, through The formal procedures available for companies in financial the appointment of ‘soft-touch’ provisional liquidators, which is difficulties are principally contained in the Companies Act 1981 designed to support formal and informal restructuring plans that (the winding up provisions of which are substantially modelled on have credible prospects of success, and the support of the majority the UK’s Companies Act 1948). Some provisions of the Bankruptcy of creditors. In appropriate circumstances, therefore, the Court does Act 1989 are also applied to companies, by virtue of section 235 of have the power to approach corporate insolvencies in a ‘debtor- the Companies Act 1981, and there is some scope for debate as to friendly’ manner, with a view to achieving a corporate restructuring. the applicability of certain provisions of the Bankruptcy Act 1989 to corporate partnerships. There are also specific provisions relating to insurance companies in the Insurance Act 1978 and relating to 1.2 Does the legislative framework in your jurisdiction segregated accounts companies and their general and segregated allow for informal work-outs, as well as formal accounts in the Segregated Accounts Companies Act 2000. There restructuring and insolvency proceedings, and are are also specific provisions relating to banks in the Banking (Special each of these used in practice? Resolution Regime) Act 2016, although only sections 1 and 10 of that Act are currently in force. There is no provision in Bermuda’s legislation for informal work- outs. However, informal work-outs are common in Bermuda, and The rules relating to compulsory winding up of companies are the Supreme Court has developed certain practices to support and contained in the Companies (Winding up) Rules 1982 and also, to a assist them as discussed in our answer to question 3.1. lesser extent, in the Rules of the Supreme Court 1985. The only formal restructuring process in Bermuda is the Scheme of As in other jurisdictions that follow English common law, there Arrangement, discussed in our answer to question 3.2. The Scheme are various ways by which a creditor can take security over assets of Arrangement is a highly versatile statutory procedure enabling in Bermuda, by agreement between the creditor and the debtor, the restructuring of debt (and capital) by majority approval and including by way of: legal mortgage; equitable mortgage; fixed Court sanction. It is frequently used to restructure debt where the charge; floating charge; pledge; contractual lien; and assignment. consent of all creditors is unlikely to be forthcoming. The nature of the security interest in any particular case will be The only formal insolvency proceeding is compulsory winding up determined by: by the Supreme Court. As we discuss in what follows, the Court’s (a) the terms of the parties’ agreement, ordinarily set out in the compulsory winding up jurisdiction can serve as a protective relevant security documents; device within which to restructure a company’s debt with a view (b) the nature of the property being secured; and to its continued trading. Compulsory liquidations are common in (c) the nature of the debtor’s interest in the property being Bermuda. secured.

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account representative to make a written report to the Registrar 2 Key Issues to Consider When the of Companies within 30 days of reaching the view that there is a Company is in Financial Difficulties reasonable likelihood of a segregated account or the general account of a segregated accounts company for which he acts becoming insolvent, and section 30 makes it a criminal offence to fail to do so. 2.1 What duties and potential liabilities should the directors/managers have regard to when managing a company in financial difficulties? Is there a specific 2.2 Which other stakeholders may influence the point at which a company must enter a restructuring company’s situation? Are there any restrictions on the or insolvency process? action that they can take against the company?

Bermuda Directors’ and officers’ duties are principally owed to the company Creditors with security over an insolvent company’s core assets itself. To the extent that the company is solvent, such duties are have the greatest influence over the company’s situation. ordinarily owed to the company for the benefit of its present and Unsecured creditors also exercise considerable influence as a result future shareholders. of the rights which they enjoy, pursuant to Bermuda’s winding When the company enters the zone of insolvency, directors must act up jurisdiction. The greater the value of an unsecured creditor’s in the best interests of the company’s creditors. Directors that allow debt (and the greater the support that it can command from other a company to continue to trade while it is in financial difficulties unsecured creditors), the greater the influence. Minority unsecured face a range of potential liabilities, depending on the precise creditors have relatively limited influence, above and beyond their circumstances and the relevant director’s conduct and state of mind statutory and contractual rights. (as discussed below). In addition to the Supreme Court (and any foreign Courts with Fraudulent trading: Section 246 of the Companies Act 1981 jurisdiction over the company), certain regulatory authorities in provides that any director that has knowingly caused or allowed a Bermuda may also influence the company’s situation, depending company to carry on business with intent to defraud creditors of the on the circumstances. For example, the Registrar of Companies, company or for any fraudulent purpose may be found personally the Bermuda Monetary Authority and the Regulatory Authority of liable for all, or any, of the debts or other liability as the Court may Bermuda might, in appropriate circumstances, investigate the affairs direct. This would include carrying on the business of the company of an insolvent company and exercise such regulatory powers as when it is known to be insolvent. may be appropriate. Personal liability for fraudulent conveyances/fraudulent preferences: It is possible that directors might be held to be 2.3 In what circumstances are transactions entered personally liable, in certain circumstances, for fraudulent into by a company in financial difficulties at risk of conveyances or fraudulent preferences, as discussed in our answer challenge? What remedies are available? to question 2.3 below. Breach of fiduciary duty and failure to exercise reasonable skill Payments, transfers of assets, and security transactions can be and care: Directors owe duties to the company both pursuant to vulnerable to attack in the event of the company’s insolvency section 97 of the Companies Act 1981, and as a matter of common or liquidation. Reviewable transactions include fraudulent law, to act honestly and in good faith with a view to the best interests conveyances, fraudulent preferences, floating charges, onerous of the company (which can include the interests of the company’s transactions, and post-petition dispositions. creditors when the company is in the zone of insolvency), and to Fraudulent conveyances: Sections 36A to 36G of the exercise the care, diligence and skill that a reasonably prudent Conveyancing Act 1983 provide that a creditor of a company may person would exercise in comparable circumstances. Failure to be entitled to apply to the Court to have a transaction set aside to comply with these obligations may result in personal liability on the the extent required to satisfy its claim, provided that the dominant part of directors. Although not confirmed in statute, the power of intention of the transaction was to put the property beyond the reach the directors of a Bermuda company to petition for the compulsory of other creditors and the transaction was entered into for no value winding up of an insolvent company has been recognised in Re First or significantly less than the value of the property transferred. For Virginia Reinsurance Ltd. [2003] Bda LR 47. these purposes, a creditor is one to whom an obligation is owed at Misfeasance and breach of trust: Section 247 of the Companies the date of the transfer, or to whom it is reasonably foreseeable an Act 1981 provides that a director may be personally liable if he has obligation will be owed within two years of the date of the transfer, misapplied, or retained, or become liable, or accountable for any or to whom an obligation is owed pursuant to a cause of action which money or property of the company, or been guilty of any misfeasance accrued before, or within, two years after the date of the transfer. or breach of trust in relation to the company. The scope and effect Fraudulent preferences: Section 237 of the Companies Act of section 247 was recently considered by the Supreme Court of 1981 provides that any conveyance, mortgage, delivery of goods, Bermuda in Peiris v Daniels [2015] SC (Bda) 13 Civ. payment, execution or other act relating to property made or done by Miscellaneous offences and liabilities: Sections 243 to 248 of the or against a company within six months before the commencement Companies Act 1981 set out a range of criminal offences that may of its winding up shall be deemed a fraudulent preference of its be committed by directors of companies, including, for example, creditors and be invalid accordingly. Section 238 provides for by fraudulently altering documents relating to company property or the liability and rights of fraudulently preferred persons. In order affairs, falsifying books or accounts with the intention of defrauding to fall foul of the provision, the transfer or disposition must have any person, or fraudulently inducing a person to give credit to the been made within the six months prior to the commencement of the company. There are also various legislative provisions that impose winding up. In the case of a compulsory winding up, this would be personal liability on directors for any failure to pay certain taxes and the date of the presentation of the petition to the Supreme Court of remit pension contributions. Bermuda. The transfer will be invalid if it was carried out with the Segregated accounts companies representatives: Section 10 of dominant intention of preferring one creditor over others at a time the Segregated Accounts Companies Act 2000 requires a segregated when the company was unable to pay all of its creditors in full.

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Floating charges: Section 239 of the Companies Act 1981 provides informally or through the medium of a Scheme of Arrangement. The that a floating charge on the undertaking or property of a company board of directors retains control over the company, and endeavours created within 12 months of the commencement of the winding up to effect a work-out under the supervision of the ‘soft-touch’ shall be invalid, unless it is proved that the company immediately provisional liquidator and the Court. If the work-out negotiations after the creation of the charge was solvent, except to the amount of are successful, the winding up petition can be dismissed; if they any cash paid to the company at the time of, or subsequently to, the are unsuccessful, the winding up petition can be restored for final creation of the charge, together with interest at the statutory rate. hearing and the company can be wound up and placed into full Onerous transactions: Section 240 of the Companies Act 1981 liquidation. While the work-out plan is negotiated, the hearing of provides that the liquidator of a company can, with the Court’s the winding up hearing petition is adjourned (although the company permission, disclaim any property belonging to the company or any enjoys the protection of the statutory moratorium). rights under any contracts which he considers to be onerous for the Bermuda company to hold, or is unprofitable or unsaleable. 3.2 What formal rescue procedures are available in your Post-petition dispositions: Section 166 of the Companies Act 1981 jurisdiction to restructure the liabilities of distressed provides that, in a compulsory winding up, any disposition of the companies? Are debt-for-equity swaps and pre- packaged sales possible? property of a company, including things in action, and any transfer of shares or alteration in the status of the members of the company, made after the commencement of the winding up (being the time Liquidation procedures can generally be divided into compulsory of presentation of the petition) shall be void, unless the Court liquidations and voluntary liquidations. Voluntary liquidations can, otherwise orders by way of a validation order. In the case of an in turn, be divided into solvent liquidations (members’ voluntary insolvent company, the Court should only make an order validating liquidations) or insolvent liquidations (creditors’ voluntary a post-petition disposition where it can be shown that the disposition liquidations). will benefit (in a prospective case), or that it has benefitted (in a As above, the general purpose of liquidation is to gather in, and retrospective case), the general body of unsecured creditors so as to realise assets, to pay off creditors in accordance with their rights and justify the disapplication of the pari passu principle. The focus of priorities, and to distribute any remaining assets to the company’s the test is mainly directed to an objective assessment of the benefit to shareholders. The only formal rescue procedure is the Scheme of be obtained by the general body of unsecured creditors, rather than Arrangement (although see the final paragraph of this section for an the necessity or expedience of the disposition from the company’s exception to this rule). A Scheme of Arrangement (“scheme”) is a or directors’ perspective. In the case of a solvent company, in formal procedure which may be used to reorganise the business of contrast, there are four elements which must be established before a the debtor with a view to its continued trading. validation order may be made: first, the proposed disposition must A scheme may result in the adjustment or compromise of all or a appear to be within the powers of the company’s directors; second, class of the debt of the company. It may include the transfer of the evidence must show that the directors believe the disposition is rights, property and liabilities of the company to another company. necessary or expedient in the interests of the company; third, it must Schemes of arrangement may also reorganise the company’s capital, appear that the directors in reaching that decision have acted in good and accordingly may be used (and have on several occasions been faith; and fourth, the reasons for the disposition must be shown to be used) to implement a debt-for-equity swap. ones which an intelligent and honest director could reasonably hold. The Court has jurisdiction to make specific provision for this in the Bulk sales in fraud of creditors: Under section 5 of the Bulk Sales order sanctioning the scheme. Act 1934, certain sales and purchases of stock in bulk are deemed to A scheme is not an intrinsically insolvency-related procedure. be fraudulent, and absolutely void as against the vendor’s creditors, However, it may be employed after appointment of a liquidator or unless the proceeds of sale are sufficient to pay the vendor’s creditors provisional liquidator, and there can be advantages in employing a in full, and are in fact so applied. scheme in this way. Where illiquidity issues confront the company, for example, its freedom to promulgate or pursue a Scheme of 3 Restructuring Options Arrangement may be susceptible to litigation or compulsory winding up petitions presented by dissentient creditors. Where this is a concern, the powers of the Court pertaining to the winding up 3.1 Is it possible to implement an informal work-out in of companies and appointment of liquidators may be employed in your jurisdiction? the protection of a proposed scheme. This may include the use of a ‘soft touch’ provisional liquidation, along the lines described in our Yes, where the consent of all relevant creditors is forthcoming. It answer to question 3.1. is not possible to ‘cram down’ creditors in the absence of a formal In the case of an insolvent insurance company, there is another restructuring process. restructuring tool potentially available under section 37(5) and Where there is a risk that negotiations towards an informal work- section 39 of the Insurance Act 1978. These provisions enable the out may be jeopardised by creditors instituting or continuing Court, if it thinks fit, to reduce the amount of the insurance contracts proceedings against the company seeking enforcement of their of the insurer, on such terms and subject to such conditions as the debts, the negotiations may be protected by a ‘soft touch’ provisional Court thinks fit. Although the procedure and case law in this area liquidation, a procedure developed as part of the insolvency practice is not fully developed in Bermuda, it is likely that the Court would of the Supreme Court and now commonly used to support work- require that a meeting of policyholders be convened, and their views outs. The procedure is described below. canvassed, and one relevant consideration for the Court would be Following presentation of a petition for the winding up of the the effect of any reduction order on the company’s ability to make company (usually presented by the company itself, if the company recoveries against its reinsurers. Depending on the circumstances, a contemplates a restructuring), a provisional liquidator may be formal Scheme of Arrangement may be required in any event. appointed, who may then apply for a statutory stay of all proceedings A pre-packaged sale involves the pre-agreement of terms of a sale against the company while the work-out process continues, whether of the business of the company to another party or a new company,

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which sale is then effected directly after the appointment of an However, there is a hybrid option, under which the scheme is office-holder. The sale and its terms are frequently negotiated by, or conducted within a ‘soft touch’ provisional liquidation, used to with the approval of, major secured creditors of the company. The implement a restructuring within the protective environment of a prevailing regime in Bermuda does not lend itself to the use of pre- provisional liquidation but without the necessity of winding up the packaged sales. Winding up proceedings anticipate the death of the company. The ‘soft touch’ provisional liquidation procedure has company and distribution of its assets. Conversely, the Scheme of been described in our answer to question 3.1. The board of directors Arrangement process is too dependent upon the views of the general normally manages the scheme process under the supervision of the creditor body. Neither allows the discretion necessary to pre-agree provisional liquidator. and dictate a disposal of the business of the company, in the manner required for a pre-packaged sale. Conceivably, a receiver and 3.5 How are creditors and/or shareholders able to Bermuda manager appointed by a secured creditor pursuant to a charge over influence each restructuring process? Are there any substantially all the assets of a company may achieve something restrictions on the action that they can take (including akin to a pre-packaged sale. It is also conceivable that a Bermudian the enforcement of security)? Can they be crammed exempt company whose centre of main interests is in the United down? Kingdom, or whose assets and liabilities are situated in the United Kingdom, might seek the assistance of both the Courts of Bermuda As has been noted in our answer to question 3.3, a binding Scheme and the Courts of England and Wales for the purposes of having of Arrangement requires the approval of a majority within each class a pre-packaged sale effected under the supervision of a court- of creditors present and voting (including by proxy) at the meeting appointed administrator. The procedure, however, is not as common of that class, representing 75 per cent by value of that class, votes in Bermuda as it is in certain other jurisdictions, such as Jersey, and in favour of the scheme. Accordingly, the Scheme of Arrangement there is some uncertainty in the case law as to the scope of the power must be on such terms as may be approved by the majority of of Bermudian Courts and English Courts in this respect. creditors in each class, and a Scheme of Arrangement is often the result of promotion and direction by majority creditors. 3.3 What are the criteria for entry into each restructuring Those voting at scheme meetings may in some circumstances procedure? include persons beneficially interested in the company’s debt. In a recent Scheme of Arrangement of debts of a company evidenced The Scheme of Arrangement procedure may be initiated by by a global note held by a trustee, beneficial owners of the note, application of a creditor, a member, the company itself, or (where who were each entitled to require issuance of an individual note one has been appointed) the liquidator. enforceable directly against the company, were allowed to vote in The applicant requests the Court to convene a meeting of the the Scheme as contingent creditors of the company. creditors, or the relevant class of creditors, of the company. If As may be seen from the above, a minority of dissenting creditors the Court so directs (which will almost always be the case, absent in each class may be crammed down by a Scheme of Arrangement. exceptional circumstances), creditors must be summoned by notice. Notification commonly includes advertisement of the meeting. 3.6 What impact does each restructuring procedure have Where, because of differences in their respective rights, two or more on existing contracts? Are the parties obliged to creditors are unable to consult together with a view to their common perform outstanding obligations? Will termination and interest, it will be necessary to separate creditors into classes for the set-off provisions be upheld? purposes of voting on the scheme proposal. If a majority within each class of creditors present and voting The commencement of a Scheme of Arrangement has no (including by proxy) at the meeting, representing 75 per cent by automatic effect on contracts, save in the case where the relevant value of that class, votes in favour of the scheme, and the Court contract contains contractual terms to that effect. If a Scheme of approves it, then the scheme will be binding on all creditors. Court Arrangement with creditors is approved, the scheme will govern any approval is a discretionary matter. The Court must be satisfied that issues relating to the termination of contracts with those creditors. the statutory requirements have been met, including the holding of requisite class meetings and approval of necessary majorities, and 3.7 How is each restructuring process funded? Is any that each class was fairly represented at each meeting. In addition, protection given to rescue financing? the Court must be satisfied that the scheme is fair to creditors generally – in other words, that the majority has not taken unfair The company generally uses its own assets to finance the procedures advantage of its position. of voluntary liquidation, compulsory liquidation, and any Scheme The scheme is not effective until a copy of the sanction order is of Arrangement. However, if the company does not have sufficient delivered to the Registrar of Companies. The scheme order must be assets or liquidity, it is possible for the company, or its liquidators, to annexed to any copies of the company’s memorandum of association enter into funding arrangements with those interested in the outcome issued subsequent to the order. of the procedures, typically creditors, if doing so is necessary for the beneficial winding up of the company. In such a case, funding 3.4 Who manages each process? Is there any court liabilities would be expected to be re-paid by the company or involvement? by the liquidator prior to the repayment of unsecured creditors, although subject to the specific terms of any funding agreement and If the Scheme of Arrangement is conducted outside a liquidation, the Court’s approval. In this context, it is possible as a matter of the company’s board of directors and any managers control the Bermuda law to secure protection (or priority treatment) for rescue process, although a Scheme Administrator is normally appointed to financing on an ad hoc basis, and by agreement in appropriate administer the scheme once it is implemented. circumstances. In certain cases, the liquidator appointed by the Court is the Official Receiver, being a government official with a If the scheme is conducted within a liquidation, the liquidator limited government budget. controls the process.

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petition for the winding up of the whole company, and also for the 4 Insolvency Procedures Court to wind up a company of its own motion. Section 170(2) of the Companies Act 1981 also allows the Court 4.1 What is/are the key insolvency procedure(s) available to appoint a provisional liquidator between the presentation of a to wind up a company? winding up petition and its final hearing.

As set out above, the formal procedures available for companies 4.2 On what grounds can a company be placed into each in financial difficulties are principally contained in the Companies winding up procedure? Act 1981 (the winding up provisions of which are substantially modelled on the UK’s Companies Act 1948). Some provisions of A company may be compulsorily wound up by the Court in any of Bermuda the Bankruptcy Act 1989 are also applied to companies, by virtue the following circumstances, under section 161 of the Companies of section 235 of the Companies Act 1981, and there is some Act 1981: scope for debate as to the applicability of certain provisions of the (a) if the company has, by resolution, resolved that the company Bankruptcy Act 1989 to corporate partnerships. There are also be wound up by the Court; specific provisions relating to insurance companies in the Insurance (b) if there is default in holding the company’s statutory meeting; Act 1978 and relating to segregated accounts companies and their general and segregated accounts in the Segregated Accounts (c) if the company does not commence its business within a year of its incorporation or suspends its business for a whole year; Companies Act 2000. There are also specific provisions relating to banks in the Banking (Special Resolution Regime) Act 2016, (d) if the company carries on any restricted business activity; although this legislation has not yet been brought into force. The (e) if the company engages in a prohibited business activity; rules relating to compulsory winding up of companies are contained (f) if the company is unable to pay its debts; in the Companies (Winding up) Rules 1982 and also, to a lesser (g) if the company’s ministerial consents were obtained as a result extent, in the Rules of the Supreme Court 1985. of a material misstatement in the application for consent; or Insolvent liquidation procedures can generally be divided into (h) if the Court is of the opinion that it is just and equitable that compulsory liquidations and insolvent voluntary liquidations the company should be wound up. (creditors’ voluntary liquidations). The Supervisor of Insurance (being the Bermuda Monetary The general purpose of the liquidation process is to gather in and Authority) can present a petition for the winding up of an insurance realise assets, to pay off creditors in accordance with their rights company if it is in breach of the regulatory provisions of the and priorities, and then to distribute any remaining assets to the Insurance Act 1978, or if it is in the public interest that the insurance company should be wound up on just and equitable grounds. company’s shareholders. However, liquidators in a winding up of a company have the power to promote compromises and arrangements Section 34 of the Insurance Act 1978 also provides that the Court whether by consensual means or using a Scheme of Arrangement. may order the winding up of an insurance company subject to the Furthermore, where the company is not already in liquidation, the modification that the insurance company may be ordered to be wound winding up jurisdiction of the court and statutory machinery may up on the petition of 10 or more policyholders owning policies of be invoked in order to protect the implementation of a restructuring an aggregate value of not less than $50,000, provided that such a (as discussed above in connection with ‘soft-touch’ provisional petition shall not be presented except by leave of the Court, and leave shall not be granted until a prima facie case has been established liquidation). to the satisfaction of the Court and until security for costs for such Liquidators are generally given a degree of discretion as to the time amount as the Court may think reasonable has been given. period within which to effect and complete the liquidation, which The Registrar of Companies can petition for the winding up of a may depend to some extent on the nature, location, and liquidity of company if directed to do so by the Minister of Finance following the company’s assets. After the liquidation process is complete, the receipt of a report of an Inspector to investigate the company under company can then be dissolved and it will cease to exist as a legal section 110 or section 132 of the Companies Act 1981. entity. A provisional liquidator can be appointed prior to the final hearing of Voluntary liquidation a compulsory winding up petition if there is a good prima facie case An insolvent voluntary liquidation is initiated by the company’s that a winding up order will be made, and if the Court considers that shareholders through a resolution, based on the recommendation a provisional liquidator should be appointed in all the circumstances of the board of directors. Although creditors participate in the of the case. creditors’ voluntary liquidation procedure, they can only secure the active supervision of the Court by petitioning for the compulsory 4.3 Who manages each winding up process? Is there any liquidation of the company. court involvement? Compulsory liquidation The compulsory liquidation process is initiated by one of the Compulsory liquidation: the liquidator or provisional liquidator following making a petition to the Supreme Court of Bermuda: appointed by the Court controls the procedure of liquidation, and a creditor, including any contingent or prospective creditor; a displaces the company’s board of directors upon his appointment. contributory (that is, any person liable to contribute to the assets The exercise by the liquidator of his powers is subject to the of the company in the event of its liquidation, i.e. a shareholder or sanction, supervision and control of the Court, and, to a lesser extent, member); the company itself (by a shareholders’ resolution if it is the Committee of Inspection, if one is appointed. In the same way solvent and/or by a directors’ resolution if it is insolvent); and, in as the board of directors is displaced, so too are the powers of the certain circumstances, the Registrar of Companies or the Supervisor shareholders displaced. of Insurance (being the Bermuda Monetary Authority). ‘Soft touch’ provisional liquidation: subject to the circumstances It is also possible, in exceptional circumstances, for receivers of the case, the Court can order that a provisional liquidator be of segregated accounts within a segregated accounts company to appointed with limited powers (i.e. a ‘soft touch’), and that the directors continue to retain all of their powers or certain limited

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powers, subject only to the supervisory role to be played by the (2) the costs and expenses of the liquidation, including all costs, provisional liquidator (subject, in turn, to the Court’s supervisory charges and expenses properly incurred in the company’s role). This can be an important tool for the purposes of effecting a winding up, including the liquidator’s remuneration if restructuring, especially in the context of international insolvencies sanctioned by the Court (pursuant to sections 194, 232, which require parallel restructuring procedures both in Bermuda and 236(6) of the Companies Act 1981 and Rule 140 of the Companies (Winding up) Rules 1982); and in other jurisdictions. (3) debts due to employees located in Bermuda under section Voluntary liquidation: the liquidator appointed or approved by the 33(3) of the Employment Act 2000; company’s creditors controls the procedure of voluntary liquidation. (4) preferential debts owed to preferential creditors pursuant to The board of directors is displaced upon the appointment of the section 236(1) of the Companies Act 1981, including unpaid liquidator, and their powers are terminated. taxes under the Taxes Management Act 1976, unpaid social Bermuda insurance/Government pension contributions under the 4.4 How are the creditors and/or shareholders able to Contributory Pensions Act 1970, liability for compensation influence each winding up process? Are there any under the Workmen’s Compensation Act 1965, and payments restrictions on the action that they can take (including of up to $2,500 due to employees of Bermudian companies the enforcement of security)? but resident outside of Bermuda; (5) debts secured by a floating charge (although higher priority Subject to any orders dispensing with the need for approval, a debts must be paid out of any property secured by a floating number of the powers of a liquidator appointed in an insolvent charge if the assets of the company are not otherwise sufficient winding up of a company may only be exercised with the approval to meet them pursuant to section 236(5) of the Companies Act 1981); of a ‘Committee of Inspection’ comprising representative creditors of the company. It is also possible for creditors to apply to the Court (6) unsecured creditors’ debts, including the unsecured balance with respect to the exercise or proposed exercise of the liquidator’s of secured creditors’ claims (pursuant to sections 158(g), 225 and 235 of the Companies Act 1981); powers, under sections 175 and 176 of the Companies Act 1981. (7) post-liquidation interest on unsecured creditors’ debt claims; The making of a winding up order brings about a statutory moratorium on proceedings against the company. This will not (8) debts due to shareholders in their capacity as such (pursuant to section 158(g) of the Companies Act 1981); and prevent secured creditors enforcing their security where they can do so without instituting proceedings before the court. Furthermore, (9) shareholders’ equity in the event of a surplus balance, even where judicial assistance is needed, leave will usually be given according to their rights and interests under the company’s bye-laws. to enforce valid security interests notwithstanding the statutory moratorium. A judgment creditor will not be permitted to continue Each category of debts must be paid in full before payment of with execution of its judgment against the company where notice creditors in the subsequent category. Creditors in the same category of an order winding up the company is received by the Provost rank equally (or pari passu) among themselves. Marshall prior to sale of goods of the company taken in execution However, in the case of the winding up of segregated accounts or prior to completion of execution by receipt or recovery of the full companies, section 25 of the Segregated Accounts Companies amount of the levy. Act 2000 provides that the liquidator shall deal with the assets and liabilities which are linked to each segregated account only in accordance with the segregation principles of the legislation and the 4.5 What impact does each winding up procedure have on existing contracts? Are the parties obliged to perform relevant governing instruments or contracts for each transaction. outstanding obligations? Will termination and set-off Section 36 of the Insurance Act 1978 also provides that, in the provisions be upheld? case of an insurer carrying on long-term business, the assets in the insurer’s long-term business fund will only be available for meeting Other than the statutory provisions governing contracts of the liabilities of the insurer attributable to its long-term business, and employment discussed in our answer to question 6.1, as a matter of its other assets shall only be available for meeting its other liabilities. law, there is no automatic termination of contracts with the company There is some scope for argument as to the order of priority for upon the commencement of a compulsory liquidation or a creditors’ payment of claims asserted by former shareholders in mutual voluntary liquidation (save in the case of the liquidator disclaiming fund companies, whose shares have been redeemed but who are an onerous contract or transaction, and save in the case where the owed payment of the redemption proceeds at the commencement relevant contract contains contractual terms to that effect). However, of liquidation. The general view is that these are debts due to a contracting counterparty can only claim in the liquidation for debts shareholders that rank behind outside trade creditors’ debts, but which exist at the date of commencement of the liquidation, and ahead of shareholders’ equity, but the legislative provisions, interest also ceases to run from that date. In the circumstances, there including section 158(g) of the Companies Act 1981, are not is, as a matter of fact, a termination or cancellation of contracts in entirely clear in this respect, notwithstanding a recent judgment of the event of liquidation, unless the liquidator elects to affirm the the Supreme Court of Bermuda that has touched upon the issue. relevant contract. Contracting counterparties can also seek to assert claims against the company for damages sustained as a result of any There is also scope for argument as to the order of priority of breach of contract caused by the commencement of the liquidation, outstanding occupational pension payment liabilities under the subject to proof in the liquidation. National Pension Scheme (Occupational Pensions) Act 1998 and Regulation 56 of the National Pension Scheme (General) Regulations 1999, since the legislative provisions are not entirely clear. 4.6 What is the ranking of claims in each procedure, including the costs of the procedure? 4.7 Is it possible for the company to be revived in the future? In a compulsory liquidation or a creditors’ voluntary liquidation, creditors’ claims are ranked in the following order: In the course of the liquidation, the liquidator will adjudicate the (1) secured creditors enforce their security outside the liquidation, claims of unsecured creditors and collect the assets of the company. but essentially in priority to all other creditors;

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Assets will be distributed (to the extent available) according to the in Bermuda. A previously used ‘loophole’ under the External statutory priorities in the form of dividends. Companies (Jurisdiction in Actions) Act 1885 was closed by the At the end of this process, the liquidator is generally released, and Privy Council’s decision. the company is dissolved. The Supreme Court currently lacks jurisdiction to order the Under section 260 of the Companies Act 1981, the Court has power convening of meetings of creditors in relation to a proposed to declare a dissolution of a company void in certain circumstances, compromise or arrangement of the debt of an overseas company, up to a period of either two years (most liquidation cases) or 10 unless that company has been registered by the Minister of Finance years (members’ voluntary liquidation) after the date of dissolution, as a Non-Resident Insurance Undertaking under the Non-Resident and under section 261 of the Companies Act 1981 the Court has Insurance Undertaking Act 1967. power to restore a company that has been struck off the Register for Bermuda up to 20 years after strike-off. 7.2 Is there scope for a restructuring or insolvency Following Court approval of a Scheme of Arrangement (see below), process commenced elsewhere to be recognised in the scheme is implemented under the auspices of the company’s your jurisdiction? directors and the Scheme Administrator (or the liquidator, if one has been appointed). The company may continue in all respects (subject Bermuda has no statutory equivalent of Chapter 15 of the US’s to the scheme) as before. Alternatively, where the scheme was Bankruptcy Code, section 426 of the UK’s Insolvency Act 1986, or promoted in the context of winding up proceedings, the liquidation the UK’s Cross-Border Insolvency Regulations 2006, by which the of the company may proceed on the basis of the balance of its assets UK implemented the United Nations Commission on International and liabilities. Trade Law’s Model Law on Cross-Border Insolvency. The Supreme Court of Bermuda has nonetheless confirmed, following A Scheme of Arrangement of the debts of a company extinguishes the Privy Council decision in Cambridge Gas Transportation the debts and has no effect on the existence, powers or capacity Corp v Navigator Holdings plc [2007] 1 AC 508 that, as a matter of the company. Accordingly, the company may go on to trade of common law, the Supreme Court of Bermuda may (and usually unburdened by the debts that have been discharged as a result of the does) recognise liquidators appointed by the Court of the company’s Scheme of Arrangement. domicile and the effects of a winding up order made by that Court, and has a discretion pursuant to such recognition to assist the 5 Tax primary liquidation Court by doing whatever it could have done in the case of a domestic insolvency. However, the precise scope of Bermudian Courts’ common law 5.1 Does a restructuring or insolvency procedure give power to assist foreign liquidations, and, in particular, to “provide rise to tax liabilities? assistance by doing whatever it could have done in the case of a domestic insolvency” has been the subject of considerable debate in No particular tax liabilities are incurred in each procedure. Stamp a number of recent judgments, including in two recent judgments by duty is payable in the ordinary way, save that section 253 of the the Privy Council, on appeals from the Court of Appeal for Bermuda, Companies Act 1981 provides various exemptions from stamp in Singularis Holdings Limited v PricewaterhouseCoopers [2014] duty where a company is in compulsory liquidation or creditors’ UKPC 36 and PricewaterhouseCoopers v Saad Investments voluntary liquidation. Company Limited (referred to in our answer to question 7.1). In summary, subject to the facts of any particular case, the Bermuda 6 Employees Court is likely to recognise the winding up orders of foreign Courts, and to assist foreign liquidators to the fullest extent possible, in circumstances where: 6.1 What is the effect of each restructuring or insolvency (1) there is a “sufficient connection” between the foreign procedure on employees? Court’s jurisdiction and the foreign company making it the most appropriate, or the “most convenient” jurisdiction to Section 33(1) and 33(2) of the Employment Act 2000 provide have made an order for the winding up of the company and that the winding up or insolvency of an employer’s business shall appointment of foreign liquidators; cause the contract of employment of an employee to terminate one (2) there are documents, assets, or liabilities of the foreign month from the date of winding up or the appointment of a receiver, company within the jurisdiction of Bermuda; the foreign unless, notwithstanding the winding up or insolvency, the business company has conducted business or operations within, or continues to operate. from, the jurisdiction of Bermuda, whether directly or by agents or by branches; the foreign company has former directors, officers, managers, agents or service providers 7 Cross-Border Issues within the jurisdiction of Bermuda; and/or the foreign company properly needs to be involved in litigation or arbitration within the jurisdiction of Bermuda; and 7.1 Can companies incorporated elsewhere restructure (3) there is no public policy reason under Bermudian law to or enter into insolvency proceedings in your the contrary (if, for example, there would be unfairness or jurisdiction? prejudice to local Bermudian creditors). However, the Privy Council has stressed that the question how far Following the decision of the Privy Council in it is appropriate to develop the common law so as to assist foreign PricewaterhouseCoopers v Saad Investments Company Limited liquidations depends on the facts of each case, and the nature [2014] UKPC 35 (discussed in more detail in our answer to question of the power that the Bermuda court is being asked to exercise. 7.2), it is clear that the Supreme Court of Bermuda currently has In the context of an application for an order for production of no jurisdiction to wind up ‘overseas companies’ that have not been documents by an entity within the jurisdiction of the Bermuda granted a permit by the Minister of Finance to carry on business

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court, the Privy Council has noted that such a power is available only where necessary to assist the officers of a foreign court of 8 Groups insolvency jurisdiction or equivalent public officers, but is not available to assist a voluntary winding up, which is essentially a 8.1 How are groups of companies treated on the private arrangement. It is not a power to assist foreign liquidators insolvency of one or more members? Is there scope to do something which they could not do under the law by which for co-operation between officeholders? they were appointed, and its exercise must be consistent with the substantive law and public policy of the assisting court in Bermuda. There are no statutory provisions for the treatment of insolvent group There is some uncertainty as to whether a foreign Scheme of companies. The Supreme Court has, however, occasionally appointed Arrangement or related procedure (such as an insurance business the same office-holders as liquidators to multiple companies in the Bermuda transfer scheme under legislation implementing European single same group of companies, subject to suitable arrangements being market insurance directives) can be recognised and enforced in made with respect to any conflicts that might arise (including by Bermuda as a matter of common law. Although the Supreme Court way of appointment of a ‘conflicts’ liquidator). In appropriate cases, of Bermuda has shown some willingness to recognise foreign Court the Supreme Court has also supported and approved co-operation orders approving foreign schemes (in the absence of opposition), agreements that have been entered into between separate office- it is unclear what position it might take in a contentious situation. holders of companies within a group of companies.

7.3 Do companies incorporated in your jurisdiction 9 Reform restructure or enter into insolvency proceedings in other jurisdictions? Is this common practice? 9.1 Are there any proposals for reform of the corporate rescue and insolvency regime in your jurisdiction? Exempted companies incorporated in Bermuda carry on business predominantly or exclusively in foreign jurisdictions, and The Restructuring and Insolvency Specialists Association frequently have their shares and other securities listed on foreign (Bermuda) is actively considering a variety of industry proposals for public exchanges. They are accordingly subject to the insolvency potential law reform in the area of insolvency and corporate rescue, regimes of the jurisdictions in which they do business, where these and this is also an area of interest to the Government of Bermuda. extend to companies incorporated overseas. Proceedings in other jurisdictions, for example: the United States; the United Kingdom; The most recent legislative development in Bermuda is the Banking (Special Resolution Regime) Act 2016, which has been enacted but the British Virgin Islands; the Cayman Islands; Hong Kong; and not yet brought into force, save with respect to sections 1 and 10 (as Singapore, affecting insolvent Bermuda exempted companies at the time of writing). This is a very substantial piece of legislation are common. Where necessary, these are commonly supported which provides a new statutory toolset for dealing with the failure by ancillary liquidation proceedings in Bermuda or by judicial or insolvency of a bank in Bermuda. recognition and assistance (of the type discussed in our answer to question 7.2) from the Supreme Court with the foreign proceedings, It is anticipated that the Bermuda Monetary Authority may also in the absence of winding up proceedings in Bermuda. carry out a consultation exercise later in 2017 regarding potential reform of the order in which insurance policyholder creditors rank for payment in an insolvent liquidation of an insurer.

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Alex Potts Mark Chudleigh Sedgwick Chudleigh Ltd. Sedgwick Chudleigh Ltd. E.W. Pearman Building E.W. Pearman Building 20 Brunswick Street 20 Brunswick Street Hamilton HM10 Hamilton HM10 Bermuda Bermuda

Tel: +1 441 296 9276 Tel: +1 441 296 9276 Email: [email protected] Email: [email protected] URL: www.sedgwick-chudleigh.com URL: www.sedgwick-chudleigh.com

Alex Potts has a wide-ranging commercial litigation and arbitration Mark Chudleigh is the managing partner of Sedgwick Chudleigh. Bermuda practice, with a focus on disputes in the fields of contentious insolvency, Having practised in London for 20 years, he maintains an international banking, financial services, investment funds, insurance, reinsurance, practice for clients in Bermuda, London, the United States, Asia professional negligence, aircraft finance, company law, and trusts. and elsewhere. His practice focuses on commercial litigation and arbitration involving the insurance and financial services sectors. Mr. Potts has conducted cases and appeared as counsel before a variety of courts and tribunals, in England and Wales, Bermuda and Mr. Chudleigh’s insurance/reinsurance practice covers all lines of (re) the Cayman Islands, representing creditors, directors, managers, insurance, including both contentious and non-contentious matters. liquidators, and debtors. Mr. Chudleigh’s litigation practice includes commercial/corporate Mr. Potts has appeared in a number of reported insolvency cases litigation, insolvency and trust matters. He frequently acts as an expert in Bermuda, and he regularly advises, speaks and writes on issues witness on Bermuda law and accepts appointments as an arbitrator. of insolvency law in Bermuda. He is a committee member of the He is a member of INSOL and the American Bankruptcy Institute. Restructuring and Insolvency Specialists Association (Bermuda) and Mark Chudleigh’s full professional profile is available at: a member of INSOL. http://www.sedgwick-chudleigh.com/people/chudleigh_m.html. Alex Potts’ full professional profile is available at: http://www.sedgwick-chudleigh.com/people/potts_a.html.

Sedgwick Chudleigh Ltd. provides expert counsel in relation to commercial matters.

In addition to its insurance practice, the firm handles insolvency and restructuring matters, commercial litigation and arbitration, corporate and trust disputes, contract drafting, and general corporate advisory/regulatory work.

The firm excels at prosecuting and defending complex matters involving significant exposure, sensitive public relations issues, and industry-wide policies. Sedgwick Chudleigh offers its clients not only local Bermuda expertise but also multinational legal expertise through its association with the international law firm Sedgwick LLP.

In its insolvency and restructuring practice, Sedgwick Chudleigh counsels clients both in Bermuda and in other jurisdictions with connections to Bermuda. Recent matters handled by the team include representing the liquidators of two BVI fund companies in compulsory winding up proceedings in Bermuda; advising on Schemes of Arrangement; representing the compulsory Liquidators and segregated accounts receivers of two Bermuda mutual fund companies structured as segregated accounts companies; representing creditors and shareholders of various Bermuda companies, funds and private equity structures in a number of contested compulsory winding up petitions; representing the interests of unsecured creditors in various receiverships; and representing a Bermuda mutual fund company structured as a segregated accounts company in responding to various claims and applications for its various segregated accounts to be put into receivership.

Sedgwick Chudleigh’s insolvency team includes Alex Potts, Mark Chudleigh, Nick Miles, Neil Thomson, and Caitlin Conyers.

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Brazil Luiz Fernando Valente de Paiva

Pinheiro Neto Advogados André Moraes Marques

obligations of the company. On an exceptional basis, they may be 1 Overview held liable if: (i) they have caused damages to the company due to actions that violate the company’s bylaws, the applicable legislation 1.1 Where would you place your jurisdiction on the and their fiduciary duties; or (ii) in other circumstances such as spectrum of debtor to creditor-friendly jurisdictions? mismanagement, fraud or abuse of the corporate legal entity. These rules also apply when the company is in financial difficulties. In Our comments to this question will focus on the judicial reorganisation other words, no specific fiduciary duties (other than the duties proceeding because it is much more commonly used than the out-of- required in the ordinary course of business) are required from the court reorganisation proceeding (as further described below). The officers and directors if the company is in a zone of insolvency legislator of the Brazilian Bankruptcy Law thought that there would and continues to trade. There are also no specific rules indicating be a balance of power between the debtor and creditors subject to circumstances where officers and directors of a company would the judicial reorganisation plan. On the one hand, the debtor has be required to file a restructuring or insolvency process or have a exclusivity with respect to the plan and, thus, may refuse to include fiduciary duty towards the creditors. in the plan the amendments requested by the creditors. On the other hand, the creditors have the ability to reject the judicial reorganisation 2.2 Which other stakeholders may influence the plan presented by the debtor and, consequently, push it into bankruptcy company’s situation? Are there any restrictions on the liquidation. From a practical perspective, however, the debtor seems action that they can take against the company? to have maintained exclusive control over the judicial reorganisation process. The debtor knows that the consequences of a bankruptcy The creditors may also influence the company’s situation. Upon the liquidation are also detrimental to the creditors because it entails a default of the debtor, the creditors are entitled to file a enforcement destruction of value to all stakeholders. As a result, creditors are or foreclosure proceedings against the debtor seeking the collection reluctant to reject the reorganisation plan and end up giving debtors of the respective claims. Creditors can also request the bankruptcy and their controlling shareholders substantial power with respect to liquidation of a company. As a reaction to certain enforcement the rejection of the amendments to the plan requested by the creditors. or foreclosure actions or requests for involuntary bankruptcy liquidation, the debtor can resort to a reorganisation proceeding. On 1.2 Does the legislative framework in your jurisdiction the other hand, creditors are not allowed to force the company into allow for informal work-outs, as well as formal any of the reorganisation proceedings. restructuring and insolvency proceedings, and are each of these used in practice? 2.3 In what circumstances are transactions entered Yes. Our legislative framework allows for both informal work- into by a company in financial difficulties at risk of outs as well as formal restructuring and insolvency proceedings, challenge? What remedies are available? which are frequently used in practice depending on the situation of the debtor. The debtor typically resorts to formal restructuring As a general rule, even if a company is not bankrupt, the sale or proceedings whenever a cram down is desired and/or an automatic encumbrance of assets may be revoked by the court if: (a) the stay protection is necessary. seller/debtor was insolvent at the time of the transaction or became insolvent as a result of such transaction; (b) such transaction caused losses to the creditors; and (c) the purchaser/creditor did 2 Key Issues to Consider When the not act in good faith. Such transactions may also be held by the Company is in Financial Difficulties court as ineffective in relation to the injured party if there is any pending lawsuit related to an in rem right over the relevant asset or any pending collection or enforcement lawsuit that could cause 2.1 What duties and potential liabilities should the the seller/debtor’s insolvency. When the bankruptcy liquidation of directors/managers have regard to when managing a company in financial difficulties? Is there a specific a company is decreed, certain acts performed during a claw back point at which a company must enter a restructuring period (termo legal) are held by the court as ineffective in relation or insolvency process? to the bankruptcy estate, regardless of whether the parties had the intention to defraud creditors. These include, among others: (i) As a general rule, officers and directors are not held liable for the payment of debts that were not due; (ii) payment of debts that were

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due in a manner other than originally agreed; and (iii) creation of a security interest to secure an existing unsecured debt. In addition 3.4 Who manages each process? Is there any court to such transactions, other transactions can be revoked by the court involvement? even if entered into outside of the claw back period if (x) they were performed with the intent to harm creditors, (y) there was In reorganisation proceedings, the debtor’s directors and officers a fraudulent collusion between the debtor/seller and the creditor/ remain in control of the debtor’s business. In judicial reorganisation, purchaser, and (z) the bankruptcy estate suffered losses as a result a trustee is appointed by the court with the purpose of overseeing of such transactions. the activities of the company under judicial reorganisation and a creditors’ committee may be formed. On an exceptional basis, the management of a company under judicial reorganisation may be Brazil 3 Restructuring Options replaced by a court-appointed manager. In contrast, in the out-of- court reorganisation the court should not appoint a trustee to oversee the debtor and a creditors’ committee may not be formed. 3.1 Is it possible to implement an informal work-out in your jurisdiction? 3.5 How are creditors and/or shareholders able to Yes. Nothing prevents a debtor from implementing informal work- influence each restructuring process? Are there any outs, e.g., through amendments to the original debt instruments to restrictions on the action that they can take (including the enforcement of security)? Can they be crammed reflect new payment terms. down?

3.2 What formal rescue procedures are available in your We make reference to our answer to question 1.1. The declaration jurisdiction to restructure the liabilities of distressed of the bankruptcy liquidation, the filing of the out-of-court companies? Are debt-for-equity swaps and pre- reorganisation and the processing order of the judicial reorganisation packaged sales possible? cause the stay (in the latter case, for at least 180 days) of enforcement/foreclosure proceedings filed against the debtor based There are two types of formal procedures available for companies on claims impaired by the judicial reorganisation. This general rule in financial difficulties to protect themselves against actions taken also applies to the creditors holding collateral formalised through a by creditors. Both can be used in a restructuring and ultimately mortgage or a pledge (i.e., the decree of the bankruptcy liquidation, allow debtors to obtain court confirmation of reorganisation plans the processing of the judicial reorganisation and the filing of an out- negotiated directly with their creditors. The first is the judicial of-court reorganisation encompassing the claims secured by such reorganisation (recuperação judicial), which is similar to the Chapter collateral would stay the foreclosure proceedings of such collateral). 11 proceeding of the United States Bankruptcy Code. The second is However, certain types of potentially significant claims that are not the out-of-court reorganisation (recuperação extrajudicial), which is subject to the effects of the stay period of a judicial reorganisation similar to a pre-packaged reorganisation. A debt-for-equity swap is proceeding or the stay of an out-of-court reorganisation, including: possible under both of the reorganisation proceedings. However, the (i) claims secured by a fiduciary lien over movable assets or real existing shareholders have to agree with such exchange, i.e., a debt- for-equity exchange cannot be imposed on shareholders against their property; (ii) tax claims; (iii) claims held by the owner (or committed will. It is disputable, however, if the majority of creditors can impose seller) of real property where the relevant agreement contains an the conversion on the dissenting creditors. There are no specific rules irrevocability or irreversibility clause; (iv) claims held by the owner governing “pre-packaged” sales. In an out-of-court reorganisation of an asset in a sale contract with title retention; (v) claims deriving proceeding (similar to a pre-packaged proceeding), there are no from Advance on Currency Exchange Contracts; (vi) claims deriving specific rules limiting or governing the sales of assets, which means from financial leasing agreements (arrendadamento mercantil); or that the debtor may still sell assets without requiring court approval. (vii) claims constituted after the filing of the judicial reorganisation Such sales, however, are not considered free and clear sales (i.e., do proceeding. This means that those creditors, including creditors not protect the purchaser from succession of liabilities of the debtor). holding claims secured by a fiduciary lien (as opposed to claims secured by mortgage and pledge) are allowed to enforce their rights despite the fact that the debtor is under judicial or out-of-court 3.3 What are the criteria for entry into each restructuring reorganisation. However, they are prevented from adopting, during procedure? the stay period, measures aimed at removing assets that are deemed by the court as essential for the debtor’s operations and activities. A company may not be involuntarily placed into a judicial or out- This rule, however, does not apply to aircraft leased by airlines of-court reorganisation proceeding. Judicial and out-of-court under judicial reorganisation (which, therefore, can be repossessed reorganisation proceedings may only be filed by a debtor who (i) during the stay period even if deemed essential to the operations of has been doing business regularly for over two years, (ii) is not the debtor) nor to measures taken in enforcement proceedings based under bankruptcy liquidation, (iii) was not engaged in judicial on claims deriving from Advance on Currency Exchange Contracts. reorganisation within the last five years, (iv) was not engaged in special judicial reorganisation within the last eight years, (v) was Dissenting creditors can be crammed down. In out-of-court not convicted, or does not have, as a senior manager or controlling reorganisations, the plan may be confirmed by the court if creditors shareholder, a person convicted of any bankruptcy related holding more than 60% of claims (amount) of the creditors impaired crimes, and (vi) has a viable business. In addition, the filing of approve the reorganisation plan. Once the plan is approved, reorganisation proceedings has to be approved by the majority of the it is binding on all of the creditors subject to the out-of-court shareholders of the company beforehand. Specifically in connection reorganisation, even if they were opposed to the plan or were silent. with an out-of-court reorganisation, the debtor may not file for such In the judicial reorganisation, the rules for approval of the reorganisation if a request for judicial reorganisation is pending or reorganisation plan are specific and also allow a cram down. For if it has obtained decisions granting its judicial reorganisation or the purpose of the approval of a plan, the creditors present at a confirming another out-of-court reorganisation plan within the last general meeting of creditors are divided into four groups, namely: two years.

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(i) labour creditors; (ii) secured creditors; (iii) unsecured and other general pre-petition claims (claims existing prior to the filing of the remaining creditors; and (iv) micro companies or small companies judicial reorganisation). This is the main legal protection granted (this class of creditors was included in the Brazilian Bankruptcy to rescue financings (which also extends to other post-petition Law in August 2014). All four classes of creditors must approve the claims of the company). In addition, if an unsecured creditor grants final plan. Under the general rule, a proposed plan obtains creditor a new financing or has a post-petition claim against the company, approval pursuant to the following voting criteria: in a bankruptcy liquidation scenario, its unsecured claim would be Classes (i) and (iv): Approve the plan, per class, by a simple improved and re-classified as a general privileged claim (please see majority of creditors present or represented at the meeting (heads), our answer to question 4.6 below regarding the ranking of claims regardless of the amount of the individual claims. in a bankruptcy liquidation) to the extent of the post-petition claim.

Brazil Class (ii) and Class (iii): Approve the plan, per class, by creditors present or represented at the meeting holding: (a) a simple majority 4 Insolvency Procedures of the total amount of claims present at the meeting; and (b) by a simple majority of creditors present at the meeting (heads). If the debtor fails to obtain sufficient creditor support for a proposed plan 4.1 What is/are the key insolvency procedure(s) available under the general rule described above, the court may also confirm to wind up a company? the plan and grant the judicial reorganisation, provided that the plan has obtained, cumulatively, at the same meeting: (1) the favourable The main insolvency procedure to wind up a company is bankruptcy vote of creditors representing over 50% of the amount of all claims liquidation (falência), which is analogous to a Chapter 7 proceeding present or represented at the meeting (all classes considered); (2) under the US Bankruptcy Code. approval by at least two classes, pursuant to the ordinary voting criteria mentioned above (or the approval by three classes, since the 4.2 On what grounds can a company be placed into each law that determined the inclusion of class (iv) did not indicate how winding up procedure? the inclusion of such class would affect this cram down rule); and (3) the favourable cumulative vote of over ⅓ of the creditors (and Creditors can request the involuntary bankruptcy liquidation of credits, if applicable) in the class that rejected the plan (computed a company which defaults on a liquid obligation that exceeds 40 pursuant to the ordinary voting criteria) (or in the two classes that minimum wages and is formalised through a protested instrument rejected the plan, since the law that determined the inclusion of class that would allow the creditor to file an enforcement proceeding (iv) did not indicate how the inclusion of such class would affect this against the company. In case the debtor is not able to restructure cram down rule). In summary, after the enactment of the law that its debts, it may also request its voluntary bankruptcy liquidation. created the fourth class of creditors (micro and small companies), it is still unclear as to whether two of four classes (as opposed to three of four) would be sufficient in order to cram down a plan. 4.3 Who manages each winding up process? Is there any court involvement?

3.6 What impact does each restructuring procedure have Once bankruptcy liquidation is decreed, a court-appointed trustee on existing contracts? Are the parties obliged to replaces the debtor’s directors and officers. The work of the court- perform outstanding obligations? Will termination and set-off provisions be upheld? appointed trustee is supervised by the court.

Bankruptcy proceedings are not, per se, a legitimate cause for 4.4 How are the creditors and/or shareholders able to termination of an agreement and do not grant the debtor the right influence each winding up process? Are there any to terminate contracts. In this sense, the default of contractual restrictions on the action that they can take (including obligations shall generate the right of indemnification to the relevant the enforcement of security)? counter party (the company does not have the right to decide whether or not it will assume or reject contracts). The enforceability As a general rule, the declaration of bankruptcy liquidation causes a of termination provisions is a controversial issue. Reorganisation stay of enforcement/foreclosure proceedings filed against the debtor. proceedings do not cause, by virtue of law, the acceleration of Shareholders will be removed from the control of the company but obligations. The offset of obligations and claims matured before the will be able to give opinions with respect to the relevant issues of date of the filing of the reorganisation proceeding are valid. the bankruptcy proceeding.

3.7 How is each restructuring process funded? Is any 4.5 What impact does each winding up procedure have on protection given to rescue financing? existing contracts? Are the parties obliged to perform outstanding obligations? Will termination and set-off provisions be upheld? The company under reorganisation has to bear all the costs related to these procedures, which includes court costs, attorney fees, fees of Bankruptcy proceedings are not, per se, a legitimate cause for the financial advisors, and fees of the court-appointed trustee (in the termination of an agreement and do not grant the debtor the right to judicial reorganisation). In a bankruptcy liquidation proceeding, all terminate contracts. In this sense, the trustee (in case of bankruptcy costs associated with the proceeding are paid with the funds of the liquidation) should decide if the continuation of a contractual bankruptcy estate with priority over certain credits. Any financing relationship is in the best interest of the bankruptcy estate, but the granted to the company after the filing of a judicial reorganisation termination of contractual obligations shall generate the right of proceeding would be considered in a bankruptcy liquidation as a indemnification to the relevant counterparty. The enforceability post-petition claim (together with any other obligation undertaken by of termination provisions is a controversial issue. Once the the company after the filing of a judicial reorganisation) and, would, bankruptcy liquidation is decreed, all obligations become due (i.e., therefore, in a bankruptcy liquidation scenario, rank higher than the are accelerated) and interest owed is reduced proportionately. In

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addition, all foreign currency-denominated claims are converted into employees will be dismissed and must file the respective labour domestic currency, at the exchange rate of the date of the bankruptcy claims before the labour courts to have their claims quantified liquidation decree. Debts due on the date of the bankruptcy decree and recognised. After that, the employees must file a proof of are set off against claims in favour of the debtor, with priority over credit before the bankruptcy court. On the other hand, if after the all other creditors. bankruptcy liquidation decree the company continues to operate, jobs are maintained and the wages must be timely paid.

4.6 What is the ranking of claims in each procedure, Labour claims existing prior to the judicial reorganisation proceeding including the costs of the procedure? are subject to the effects of the judicial reorganisation and, therefore, may be rescheduled under the plan. Such claims, however, must

Please find below a summary of the ranking of claims in a bankruptcy be paid in full within 12 months of the court’s confirmation of the Brazil liquidation proceeding: judicial reorganisation plan. (i) immediately cashed-out expenses; Labour claims are not affected by the out-of-court reorganisation. (ii) claims for restitution, including: (a) claims for restitution In both reorganisation proceedings, employment contracts may be of assets belonging to third parties (including the assets terminated depending on the restructuring of the operations of the granted as collateral through fiduciary lien); and (b) claims debtor. for restitution in cash, including the claims deriving from Advance on Export Currency Exchange Contracts; (iii) Post-Petition Claims, including the fees payable to the 7 Cross-Border Issues trustee and his assistants, expenses relating to schedules, management, and sale of assets, and court costs of the bankruptcy proceeding; and 7.1 Can companies incorporated elsewhere restructure or enter into insolvency proceedings in your (iv) Pre-Petition Claims: (a) labour-related claims (limited to jurisdiction? 150 minimum wages per worker) and occupational accident claims; (b) claims with a security interest (guarantees in rem, such as mortgage and pledge) up to the amount received from As a general rule, only companies with principal place of business the sale of the encumbered asset; (c) tax claims, except for or with a branch in Brazil can file reorganisation or bankruptcy tax fines; (d) special privileged claims; (e) general privileged liquidation proceedings in Brazil. claims; (f) unsecured claims; (g) contractual penalties and fines for breach of criminal or administrative laws, including tax-related fines; and (h) subordinated claims. 7.2 Is there scope for a restructuring or insolvency process commenced elsewhere to be recognised in your jurisdiction? 4.7 Is it possible for the company to be revived in the future? In Brazil there is no procedure that allows the recognition of a foreign main procedure (e.g., such as a Chapter 15 of the US This is a controversial issue. There are scholars who argue that a Bankruptcy Code). In Brazil we only have a procedure to recognise company under bankruptcy liquidation could resume its operations a foreign court decision. after it obtains a release from its obligations in a bankruptcy liquidation proceeding (that may happen, for example, if all of the 7.3 Do companies incorporated in your jurisdiction assets are sold and over 50% of the unsecured claims are paid, after, restructure or enter into insolvency proceedings in of course, all other creditors ranking above the unsecured claims other jurisdictions? Is this common practice? are paid). It is not common for companies incorporated in Brazil to enter into 5 Tax main insolvency proceedings in other jurisdictions. Sometimes Brazilian companies file main insolvency proceedings in Brazil and seek recognition of such main proceedings abroad (e.g., through a 5.1 Does a restructuring or insolvency procedure give proceeding governed by Chapter 15 of the US Bankruptcy Code). rise to tax liabilities?

Companies under judicial or out-of-court reorganisation and 8 Groups bankruptcy estates incur tax liabilities the same as any other company in the normal course of business. Therefore, no tax benefit 8.1 How are groups of companies treated on the or incentive is granted to companies under financial crisis, except insolvency of one or more members? Is there scope where companies under reorganisation apply to the tax authorities to for co-operation between officeholders? participate in tax rescheduling programmes (when available). There is no specific legal provision in the Brazilian Bankruptcy 6 Employees Law regarding substantive consolidation. In the past few years it has become more common for companies of the same group to file joint requests for judicial reorganisation and request substantive 6.1 What is the effect of each restructuring or insolvency consolidation (even in cases where the companies have completely procedure on employees? different activities) so that the group of companies can present one single judicial reorganisation plan and hold only one general meeting In a bankruptcy liquidation proceeding, if the company’s activities of creditors, where the creditors are treated as if they were creditors are discontinued as a result of the adjudication of bankruptcy, the of one single consolidated entity. In our experience, substantive

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consolidation has been recognised in the majority of cases where it was requested. Courts usually take into consideration if the 9 Reform companies are (i) interdependent and act as if they were part of an economic group with one single coordinated purpose (e.g., personal 9.1 Are there any proposals for reform of the corporate guarantees provided in favour of other companies, intercompany rescue and insolvency regime in your jurisdiction? loans, synergy between business units for the performance of the group’s activities), and/or if the companies are (ii) under the The Ministry of Finance has appointed a group to study proposals to same control or management (same board members, managers or amend the current Brazilian Bankruptcy Law. As of May 15, 2017, executives, one single cash account, etc.). This matter, however, is the study has not yet been concluded and there is still no specific

Brazil very controversial. project with amendments to the Brazilian Bankruptcy Law to be presented to Congress.

Luiz Fernando Valente de Paiva André Moraes Marques Pinheiro Neto Advogados Pinheiro Neto Advogados Rua Hungria, 1100 Rua Hungria, 1100 São Paulo, SP, 01455-906 São Paulo, SP, 01455-906 Brazil Brazil

Tel: +55 11 3247 8883 Tel: +55 11 3247 8626 Email: [email protected] Email: [email protected] URL: www.pinheironeto.com.br URL: www.pinheironeto.com.br

Luiz Fernando Valente de Paiva is a partner at Pinheiro Neto André Moraes Marques is a partner at Pinheiro Neto Advogados. Mr. Advogados and focuses his practice on: corporate reorganisation, Marques focuses his practice on: corporate reorganisation, bankruptcy bankruptcy and extrajudicial reorganisation; debt recovery and and extrajudicial reorganisation; debt recovery and renegotiation; renegotiation; and litigation in general. Mr. Paiva was a member of the and civil and commercial litigation in general. Mr. Marques holds an Joint Ministerial Committee that helped draft the final wording of the LL.M. degree from Columbia University focused on Bankruptcy Law Brazilian Bankruptcy Law. He holds an LL.M. degree in Commercial (2012/2013) and an LL.B. degree from the University of São Paulo Law from the São Paulo Catholic University (2009) and an LL.M. from (2004). He has also worked as an international lawyer in one of the Northwestern University (2016). He taught at Brazilian universities most prominent firms in New York, USA (2013/2014). and co-coordinated courses on insolvency for members of the Judiciary Branch and of Attorney-General’s Offices. He is the Vice- President of TMA Brazil. Mr. Paiva is recommended by publications such as Chambers and Partners (Band 1), PLC Which Lawyer, The Legal 500 (Leading Lawyer), Best Lawyers and was referred as “one of the world’s leading practitioners in this field” by Who’s Who Legal (2011) and recommended by Expert Guides.

Pinheiro Neto Advogados has earned a solid reputation in advising creditors, including official and ad hoc creditors’ committees, financial institutions, bondholders, syndicated lenders (including in respect of exit financing solutions), distressed investors, and also represents company debtors in M&A involving distressed companies and in other asset deal opportunities, whether through out-of-court negotiated arrangements or in- court reorganisation or bankruptcy liquidation proceedings. It is the firm of choice for the most complex cross-border insolvency and restructuring matters, having also advised clients in numerous Chapter 15 (and former Section 364) and other cross-border proceedings in Australia, Canada, Italy, Ireland, Netherlands and the UK involving Brazilian debtors and affiliated entities. Our Corporate Restructuring and Insolvency team provides innovative, pragmatic and effective legal advice to clients in distressed situations, and combines its efforts with the wide-ranging and awarded M&A, banking, capital markets, tax and labour practices of the Firm, comprising over 25 partners with experience in corporate restructuring and distressed M&A cases, to effectively develop and implement groundbreaking strategies in all types of recapitalisation, refinancing, out-of-court restructuring, pre-package, judicial reorganisation, bankruptcy and liquidation situations.

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Canada Leanne M. Williams

Thornton Grout Finnigan LLP Puya J. Fesharaki

including by considering all relevant information, identifying 1 Overview reasonable alternatives and seeking input from appropriate advisors. Directors face many potential liabilities as regards a financially 1.1 Where would you place your jurisdiction on the troubled company. A variety of stakeholders have standing to seek spectrum of debtor to creditor-friendly jurisdictions? an oppression remedy against a director where the director’s conduct was oppressive, unfairly prejudicial or unfairly disregarded the Canada is a relatively creditor-friendly jurisdiction. Canada’s interests of a shareholder, creditor, director or officer of the company. restructuring legislation is drafted to provide creditors with In such circumstances, the court can make any order it deems fit, sufficient remedies and latitude while balancing those remedies with including holding the director personally liable for any damages. protections in favour of the debtor to ensure fairness. In addition, various statutes impose personal liability on directors for the company’s failure to meet its obligations. Examples include a company’s failure to pay wages or vacation pay to its employees 1.2 Does the legislative framework in your jurisdiction allow for informal work-outs, as well as formal and to remit source deductions for employee income taxes and restructuring and insolvency proceedings, and are Employment Insurance and Canada Pension Plan contributions. each of these used in practice? While there is no statutory requirement to enter a restructuring or insolvency process at a particular time, a company must be Many restructurings never become public and are not formalised. “insolvent” in order to qualify for insolvency protection. For In order to avoid the costs of a formal restructuring process, parties proceedings under the Companies’ Creditors Arrangement Act often attempt an informal restructuring prior to commencing a (CCAA) (Canada’s primary restructuring statute for large companies, public insolvency filing. which is discussed in greater detail below), courts have interpreted the term “insolvent” broadly, finding that a company is insolvent if it is reasonably expected to run out of liquidity within a reasonable 2 Key Issues to Consider When the proximity of time as compared with the time reasonably required to Company is in Financial Difficulties implement a restructuring.

2.1 What duties and potential liabilities should the 2.2 Which other stakeholders may influence the directors/managers have regard to when managing a company’s situation? Are there any restrictions on the company in financial difficulties? Is there a specific action that they can take against the company? point at which a company must enter a restructuring or insolvency process? A variety of stakeholders may influence the company’s situation in the pre-filing context. For example, secured creditors may Under Canadian law, the directors of a company have a fiduciary have the ability to compel the company to file for insolvency duty to the company and not to its creditors, shareholders or protection or may have a contractual right to appoint a receiver to other stakeholders. This is so even when the company is facing take over the company’s business and/or realise on its assets. The insolvency. However, directors may consider the interests of government is also a key player in the pre-filing context, as it is various stakeholders, including shareholders, creditors, employees able to impose financial sanctions on the company for a variety of and suppliers, in fulfilling their fiduciary duty. The fiduciary duty is reasons, including environmental, pension and other wrongdoings. a duty of loyalty – it requires directors to act honestly and in good A company’s employees may also affect a company’s decision about faith with a view to the best interests of the company. This means whether to file for insolvency protection and there are very limited that a director must prefer the interests of the company over, for circumstances under which a collective agreement can be altered example, the interests of a shareholder who nominated the director in both a bankruptcy and restructuring situation. Other than any to the board or the director’s own interests in a business opportunity restrictions that may exist in a contract between the company and a that properly belongs to the company. given stakeholder, there are virtually no restrictions on the actions the Directors also have a duty of care that requires them to exercise stakeholder can take against the company in the pre-filing context. the care, diligence and skill that a reasonably prudent person would In the post-filing context, there are restrictions on the actions exercise in comparable circumstances. In other words, directors certain stakeholders can take against the company. If a company must take steps to ensure that they are making informed decisions, files for protection under the CCAA, typically all creditors (secured

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and unsecured) are stayed from exercising their rights against the A restructuring under the BIA typically takes the form of a company. By contrast, if the company files for protection under the restructuring proposal to the company’s creditors. If a proposal Bankruptcy and Insolvency Act (BIA), only unsecured creditors are process is commenced, a licensed trustee in bankruptcy (trustee) is restricted from pursuing their rights against the company. appointed as proposal trustee who will work with the debtor company to prepare a proposal to put to its creditors. The proposal trustee is required to monitor the business of the debtor but management of 2.3 In what circumstances are transactions entered into by a company in financial difficulties at risk of the corporation remains under its control. challenge? What remedies are available? A debtor company is not restricted in what its proposal may include. Typically, a proposal under the BIA will offer to pay a percentage of the debt owing to compromised creditors or establish a pool of Canada There are generally two types of transactions entered into by a financially troubled company that are at risk of challenge. The first money which is to be divided up among creditors and/or provide occurs where the company makes a transfer (e.g., a gift, conveyance, an extension of the time required to pay the amounts afforded assignment, payment of dividends, premiums, etc.) to or for a under the proposal. The restructuring proposal must be put to a creditor at the expense of other creditors. The second occurs where vote by the creditors being compromised at a meeting established the company makes a transfer and the consideration received by the for that purpose. During the creditors’ meeting, at least 51 per company (if any) is far less than the value of the consideration given cent of creditors holding at least 66⅔ per cent of the voting claims by the company. must approve the proposal for it to be passed and approved. Even It is possible to challenge such transactions under various provincial if approved by the required majorities, the proposal must also be and federal statutes. Where the company has filed for insolvency approved by the court. In the event that the proposal is not approved protection under either the BIA or the CCAA, typically the party by the required majorities or the court, the proposal will fail and the challenging the transaction is the court officer overseeing the company will automatically be deemed bankrupt. insolvency proceedings, although it is possible for a creditor to do so Debtor companies with liabilities of at least $5 million may where the court officer refuses or neglects to act. A creditor can also commence restructuring proceedings under the CCAA. The CCAA challenge the transaction under various provincial statutes, regardless is designed to be a flexible and discretionary statute by which larger of whether the company has filed for insolvency protection. companies are able to restructure their indebtedness. A CCAA The requirements to prove that such a transaction has occurred plan of arrangement must be approved by at least 51 per cent of vary depending on the statute pursuant to which the transaction creditors holding at least 66⅔ per cent of the voting claims and is challenged. For example, in certain instances, it is necessary the court. Unlike a vote under a BIA proposal, there is no deemed to prove that the company intended to defraud, defeat or delay a bankruptcy if a CCAA plan is not approved by the creditors or the creditor, while in other cases it is not necessary to prove intent. court. However, in the event that the creditors of a debtor under the Where a creditor successfully challenges a transaction under a CCAA fail to approve the debtor company’s plan of arrangement, it provincial statute, the transaction is void against any person injured is likely that the creditors will move to pursue a liquidation of the by the transaction. Where the company has filed for insolvency debtor’s assets for the benefit of its creditors. protection under either the BIA or the CCAA and the transaction is successfully challenged by the court officer overseeing the A debtor company may also successfully restructure its obligations proceedings, typically the transaction is void as against the court under the provisions of its governing statute, whether such company officer. In certain cases, it is also possible for the court officer to is provincially or federally incorporated. Certain restructurings do order that a party or any other person who is privy to the transaction not require the extensive relief afforded by the BIA or CCAA and, as make a payment to the company’s estate to make it whole. such, its governing statute may provide the flexibility to restructure certain discrete aspects of a corporation’s capital structure. In Canada, such restructurings are not common but have become more 3 Restructuring Options prevalent in recent years.

3.1 Is it possible to implement an informal work-out in 3.3 What are the criteria for entry into each restructuring your jurisdiction? procedure?

Often an informal restructuring of a company’s balance sheet or A bankruptcy proposal may be filed by an “insolvent person”. An sale of assets is approved through an abridged court process. In insolvent person is defined by the BIA as one whose liabilities appropriate circumstances, the court will approve a consensual amount to $1,000 and (i) who is unable to meet his obligations as restructuring that is in the best interests of the debtor company and they generally become due, (ii) who has ceased paying his current its creditors without a full-blown insolvency proceeding. obligations in the ordinary course of business as they generally become due, or (iii) the aggregate of whose property is not, at a fair valuation, sufficient to pay its obligations. A bankruptcy 3.2 What formal rescue procedures are available in your jurisdiction to restructure the liabilities of distressed proposal is commenced by either filing (i) a notice of intention to companies? Are debt-for-equity swaps and pre- make a proposal (NOI) together with a statement of creditors having packaged sales possible? claims in excess of $250, or (ii) the filing of the actual proposal together with a statement of the financial affairs of the debtor, with Formal restructuring proceedings are provided for under the BIA a government office known as the official receiver. The NOI must and the CCAA to either liquidate or restructure a company’s also appoint a trustee to act as proposal trustee. indebtedness. A formal restructuring may also be implemented by In order to qualify to restructure under the CCAA, a debtor company a corporation’s governing statute. This chapter will focus on the or affiliated debtor companies must have total obligations in excess mechanisms by which a debtor may restructure it liabilities; as a of $5 million. A CCAA restructuring is commenced by way of result, certain other liquidation and sale mechanisms will not be application to the court in the province within which the head office fully explored. or chief place of business resides. In the event that the company has

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no place of business in Canada, a company may file in any province where the company’s assets are situated. 3.7 How is each restructuring process funded? Is any protection given to rescue financing? A restructuring under a corporation’s governing statute is dependent on the particular framework of that statute. This type of restructuring In the event that sufficient funding is not available to sustain the is typically reserved for a solvent corporation that is attempting business through the process, Debtor-in-Possession (DIP) financing to make a fundamental change; however, the courts have used a may be obtained in either a BIA proposal process or a CCAA flexible approach to this interpretation. process. Under both the BIA and the CCAA, the court may grant a super- 3.4 Who manages each process? Is there any court priority charge in favour of the DIP lender which ranks ahead of all involvement? Canada other creditors of the debtor. The ranking of charges is discussed in more detail in question 4.7. The proposal trustee manages the process of a BIA proposal. The debtor company remains in possession and control and any proposal approved by the debtor’s creditors must be approved by the court. 4 Insolvency Procedures A CCAA restructuring is also a debtor-in-possession process. A monitor is appointed by the court (Monitor) to oversee the process 4.1 What is/are the key insolvency procedure(s) available on its behalf. The CCAA is a purely court-driven process. Any to wind up a company? plan of arrangement approved by the creditors of the debtor must be approved by the court. Depending on the nature of the company, it may be wound up A restructuring under a corporation’s governing statute is managed through bankruptcy or receivership proceedings under the BIA by the corporation. The court typically plays a central role in the or the Winding up and Restructuring Act (WURA). The WURA arrangement process. The court establishes the process by which governs the liquidation and restructuring of certain types of the arrangement will be presented to the company’s stakeholders financial institutions including incorporated banks or savings banks, which must then be approved by the court prior to implementation. authorised foreign banks, trust companies, insurance companies, loan companies having borrowing powers and building societies 3.5 How are creditors and/or shareholders able to having a capital stock. The WURA also applies, but is rarely used to influence each restructuring process? Are there any liquidate federally regulated corporations, including not-for-profit restrictions on the action that they can take (including corporations. The WURA has been used sparingly in recent years the enforcement of security)? Can they be crammed and will not be discussed in detail in this chapter. down? While the CCAA is primarily a restructuring statute, it is possible to liquidate or wind up a debtor company under the CCAA if attempts In each process, the debtor company’s creditors are instrumental to restructure the debtor company under the CCAA fail. to a successful restructuring. The creditors must ultimately vote in favour of any restructuring proposal/plan/arrangement. If the vote is successful, those creditors not in favour will be subjected 4.2 On what grounds can a company be placed into each to the will of the majority and have the proposal/plan/arrangement winding up procedure? crammed down on them. Bankruptcy proceedings in Canada can be commenced on a voluntary or involuntary basis. A voluntary bankruptcy proceeding 3.6 What impact does each restructuring procedure have may be commenced by a company that meets the statutory definition on existing contracts? Are the parties obliged to perform outstanding obligations? Will termination and of “insolvent person” under the BIA. An insolvent person is defined set-off provisions be upheld? as a person who is not bankrupt and who resides, carries on business or has property in Canada, whose liabilities to creditors provable as Once the BIA proposal process has commenced, a debtor may claims under this Act amount to $1,000, and: disclaim or resiliate any agreement to which the debtor is a party (a) who is for any reason unable to meet his obligations as they by giving notice in a prescribed manner to the other parties to the generally become due; agreement and to the proposal trustee. A stay of proceedings is (b) who has ceased paying his current obligations in the ordinary granted which prohibits parties from terminating or failing to honour course of business as they generally become due; or their obligations under the proposal process unless such agreement (c) the aggregate of whose property is not, at a fair valuation, is disclaimed. Creditors are not permitted to set off for goods and sufficient, or, if disposed of at a fairly conducted sale under services delivered by them after the date of filing. legal process, would not be sufficient to enable payment of all his obligations, due and accruing due. During a CCAA process, the court order will grant a stay of proceedings prohibiting a party from exercising any rights or By contrast, an involuntary application may be initiated by one remedies against the debtor, including the termination of contracts. or more unsecured creditors where: (i) their debt owing to the Parties are expressly prohibited from terminating a contract for applicant creditor(s) is at least $1,000; and (ii) the debtor company reason of the commencement of the proceedings. The purpose of has committed a prescribed act of bankruptcy within six months the CCAA is to preserve the status quo in order to allow the debtor preceding the filing of the application. A secured creditor may also to restructure its affairs. The CCAA explicitly states that the law of commence an involuntary bankruptcy application provided that it set-off applies in CCAA proceedings. can establish that the debtor company has unsecured debts of at least $1,000 owing and that an act of bankruptcy has occurred with six The terms and structure of a restructuring under a corporation’s months preceding the filing of the application. governing statute is completely discretionary. Typically, the stay of proceedings is very limited. With respect to receiverships, a creditor’s contractual right to appoint a receiver is often triggered by a default under the terms

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of the security document governing the credit relationship. A appointed receivers will provide the court with periodic reports and receiver may be privately appointed by a creditor if the right to do must seek court approval when taking certain steps. so is contained in the security documentation governing the credit relationship. 4.4 How are the creditors and/or shareholders able to Alternatively, a creditor may seek a court-appointed receiver where influence each winding up process? Are there any such appointment is “just or convenient”. In determining whether restrictions on the action that they can take (including an appointment would be “just and convenient”, a court may look to the enforcement of security)? the following factors: ■ whether the company’s default justifies the appointment of a Under liquidation proceedings under the BIA, a secured creditor may proceed to enforce its security without obtaining the consent Canada receiver; ■ whether a right to appoint a private receiver exists; of the trustee or leave of the court. The stay of proceedings that comes into effect on the bankruptcy of a company does not apply to ■ whether it is in the interests of all parties to have a receiver appointed by the court; a secured creditor in realising or otherwise dealing with its security unless the court orders otherwise, which occurs infrequently. ■ whether appointment by the court is necessary to enable the receiver to carry out its work and duties; Under CCAA proceedings, all creditors, including secured creditors, ■ whether the assets of the company are in jeopardy; are stayed from taking enforcement action against the debtor company. ■ whether the appointment would cause prejudice to innocent third parties; and Shareholders typically have very little or no influence over the wind ■ whether the appointment would maximise recoveries for all up of a debtor company under each of Canada’s insolvency and creditors. restructuring regimes. If a company qualifies for liquidation under the WURA, it may be liquidated if it is: insolvent; in liquidation or in the process of being 4.5 What impact does each winding up procedure have on wound up and asked to be brought under the WURA by petition of existing contracts? Are the parties obliged to perform any stakeholders, assignees or liquidators; or a financial institution outstanding obligations? Will termination and set-off provisions be upheld? and it is (or its assets are) under the control of the Superintendent of Financial Institutions and is subject to an application for a winding up order. The rules applicable to contracts in insolvency differ depending on whether the company is being wound-up under the BIA or CCAA. In certain cases, existing contracts may be disclaimed 4.3 Who manages each winding up process? Is there any by the debtor company (i.e., rejected) or they may be assigned court involvement? to purchasers notwithstanding that the agreement contains a restriction on assignment. However, post-filing contracts, eligible Bankruptcy proceedings under the BIA are managed by a trustee. financial contracts and collective agreements are not assignable. At the time of the trustee’s appointment, all property of the debtor Counterparties to a contract with the debtor company may also be company passes to the trustee, including property located outside stayed from exercising what are commonly known as ipso facto Canada and property of the company in the possession of third clauses, which purport to terminate, amend or accelerate payment parties. After taking possession of the debtor company’s property, the in the event that the counterparty to the contract becomes insolvent. trustee will sell the company’s property and distribute the proceeds to Termination or acceleration rights triggered by insolvency or creditors, subject to the rights and actions of secured creditors. bankruptcy are stayed in CCAA proceedings but may not be stayed The trustee will compile certain statutory documents in accordance in bankruptcy proceedings under the BIA where the company is with the BIA, notify creditors of the debtor company’s bankruptcy, being wound-up. investigate the affairs of the debtor company and arrange for the The disclaimer of contracts by a company is statutorily authorised first meeting of creditors to provide creditors with information on under the CCAA with the consent of the Monitor, subject to the right the bankruptcy. Following the distribution to creditors, the trustee is of any party to the contract to move before the court for an order that discharged and the company is usually discharged from its debts. As the company should not be permitted to disclaim the contract. If part of the bankruptcy process, the trustee will provide the court with the Monitor does not consent to the contract rejection, the company periodic reports and must seek court approval when taking certain may move before the court on notice to all parties to the contract steps, such as selling the debtor company’s property and finalising for an order permitting the rejection of the contract. It is important its discharge. to note that certain types of categories of contracts may not be With respect to receiverships, the winding up process is managed disclaimed: an eligible financial contract; a collective agreement; a by a receiver. A receiver may take control of the debtor company’s financing agreement if the company is the borrower; and a lease of business (at which point the receiver becomes a receiver-manager) real property if the company is the lessor. and dispose of the company’s property. As noted above, a receiver While a trustee does not have the statutory right to disclaim a may be privately appointed or appointed pursuant to court order. contract made by the company, the common law has held that the Privately appointed receivers will generally only act on behalf of the trustee has a right to do so. With respect to intellectual property, secured creditor that appointed them and will realise on the property while a licensor may reject a licence, the licensee continues to be specifically covered by the relevant security or loan agreement entitled to use the intellectual property during the term of the licence under which they were appointed. Privately appointed receivers are agreement provided the licensee continues to perform its obligations not overseen by the court. Court-appointed receivers are officers of under the licence agreement. As noted above, the CCAA explicitly the court and act on behalf of all creditors of the debtor company. states that the law of set-off applies in CCAA proceedings. While The powers and rights of court-appointed receivers are included the law of set-off in the bankruptcy context is different from that in the court order that appointed them. Similar to trustees, court- under the CCAA, it continues to apply in BIA proceedings.

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4.6 What is the ranking of claims in each procedure, 6 Employees including the costs of the procedure?

6.1 What is the effect of each restructuring or insolvency The BIA contains a statutory scheme that governs the ranking procedure on employees? of claims. The rights of secured creditors will rank ahead of substantially all claims against the debtor company, except for None of the three procedures discussed in this chapter have an certain “super-priority” claims. These super-priority claims automatic effect on the status of the employment of the debtor’s include: (i) claims for unpaid payroll tax deductions (known as employees. However, in the event that a BIA proposal is source deductions); (ii) claims made by suppliers for the return of unsuccessful and a debtor is deemed bankrupt, the act of bankruptcy goods supplied to the debtor company in the 30-day period priority Canada automatically terminates the employees of the debtor. The BIA to bankruptcy; and (iii) claims for up to $2,000 for unpaid salary, wages, commissions and benefits. Once super-priority claims and and CCAA both prohibit the termination of collective bargaining secured claims are satisfied, preferred claims are paid. Preferred agreements during a restructuring. claims include fees of the trustee and its legal counsel and claims for Notwithstanding that the employment relationship remains up to three months of arrears of rent and three months of future rent unaltered, in each process, certain amounts owing to employees by landlords. Once preferred claims are paid, the claims of general may be compromised. unsecured creditors are paid pari passu. If the debtor company has funds remaining after all unsecured creditors are paid, equity holders and other subordinated claims may receive a distribution. 7 Cross-Border Issues The CCAA does not contain a statutory scheme for distribution. However, the BIA scheme of liquidation and distribution supplies 7.1 Can companies incorporated elsewhere restructure the backdrop for distribution if a CCAA reorganisation is ultimately or enter into insolvency proceedings in your unsuccessful and a company is liquidated under the CCAA. Under jurisdiction? the CCAA, the court typically grants super-priority charges which rank ahead of secured creditors for certain claims. These super- Companies incorporated in a foreign jurisdiction can restructure or priority charges often include: (i) fees for professionals such as the enter into insolvency proceedings in Canada. In order to restructure Monitor and its counsel, fees for counsel to the company and fees for or enter into insolvency proceedings under the CCAA, a debtor other restructuring professional such as a chief restructuring officer company must be incorporated in Canada or have assets or conduct (administrative charge); (ii) DIP financing (DIP financing charge); business in Canada. Companies not incorporated in Canada, but and (iii) amounts to pay post-filing suppliers to the company that are seeking to restructure in Canada, will often have to establish that deemed critical suppliers (critical supplier charge). their centre of main interest (COMI) is situated within Canada. Three factors generally determine where a debtor company’s COMI 4.7 Is it possible for the company to be revived in the is situated: (i) the location of the company’s headquarters or head future? office; (ii) the location of the company’s management; and (iii) the location which a significant number of creditors’ recognise as A dissolved company that is insolvent or bankrupt may be revived. the company’s COMI. Other secondary factors, which a Canadian A revival, however, does not change the company’s status under court may review in determining COMI, include: the BIA. When the company is revived, the rights, liabilities and ■ the location where corporate decisions are made; obligations arising before and after the dissolution are restored to ■ the location of human resource functions; the revived company. The company is put in the same position ■ the existence of shared management within entities and in an as though it was never dissolved. The company benefits from, is organisation; bound to and is liable for, all acts taken while the corporation was ■ the location where cash management and accounting dissolved. Also, any changes to the internal affairs of the company functions are administered; are deemed valid. Any legal actions dealing with the internal affairs ■ the location of the debtor company’s marketing and of a revived corporation taken between the time of its dissolution communication functions; and its revival are valid. ■ whether the debtor company is managed on a consolidated basis; 5 Tax ■ the extent of integration of the debtor company’s international operations; ■ the centre of the debtor company’s corporate, banking, 5.1 Does a restructuring or insolvency procedure give strategic and management functions; rise to tax liabilities? ■ the location where pricing decisions and new business development initiatives are made; and Certain steps in a restructuring or insolvency procedure may give rise to tax liabilities. The primary tax consideration in a restructuring ■ the location of the debtor company’s treasury management or insolvency proceeding is the potential application of the debt functions, including management of accounts receivable and accounts payable. forgiveness rules contained in the Income Tax Act. In general terms, the debt forgiveness rules apply where debt of a company is forgiven or settled for payment of an amount that is less than 7.2 Is there scope for a restructuring or insolvency the principal amount owing. The forgiveness causes a reduction process commenced elsewhere to be recognised in in various tax accounts or tax attributes or, ultimately, an income your jurisdiction? inclusion. In addition, the sale of a company’s assets may give rise to tax liabilities if the debtor company does not have sufficient tax Foreign restructuring or insolvency proceedings may be recognised losses to offset the gains made on the sale of the assets. by courts under the BIA (in the case of a bankruptcy) or the CCAA

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(in the case of a restructuring). To commence the process, a foreign of that foreign proceeding in Canada. Alternatively, a company or representative must apply to the court for recognition of a foreign group of companies may file in the jurisdiction that is the group’s insolvency proceeding. If the applicant is successful in convincing COMI, with each debtor company filing in only one jurisdiction and the court that he or she is a “foreign representative” and that the then coordinating each separate filing either through recognition application relates to a “foreign proceeding” as those terms are proceedings or some other mechanism. Finally, each member in defined under the CCAA and the BIA, the court must make an order a corporate group may make separate full filings in Canada and the recognising the foreign proceeding. foreign jurisdiction(s). If the court is satisfied that the applicant is a foreign representative Coordinated filings are often implement in circumstances in which and that the application relates to a foreign proceeding, the court there is a corporate group consisting of entities that are related but must determine whether the foreign proceeding is a “foreign main not centrally managed or highly integrated. Canada proceeding” or a “foreign non-main proceeding”. If the proceeding Concurrent main filings involve full insolvency proceedings under is characterised as a foreign main proceeding, the court will issue an the CCAA or BIA as well as a full filing in the foreign jurisdiction(s) order staying all proceedings against the debtor, restraining further by the same entity. This approach is administratively complex and proceedings in any action. By contrast, if the proceeding is classified has rarely been used since the UNCITRAL Model Law on Cross- as a non-main proceeding, a stay is not automatic. Rather, the court Border Insolvency was adopted by Canada in 2009. has the discretion to make any order necessary for the protection of Courts and office holders (professionals administering the debtor the debtor’s property or the interests of creditors. company’s insolvency) involved in multi-jurisdictional insolvency proceedings typically enter into communication or cooperation 7.3 Do companies incorporated in your jurisdiction protocols to ensure that cross-border insolvency proceedings are restructure or enter into insolvency proceedings in managed in a harmonious and efficient manner. other jurisdictions? Is this common practice?

Companies incorporated in Canada can enter into insolvency 9 Reform proceedings in other jurisdictions. However, this is rare given that Canada’s insolvency regimes are advanced and Canadian insolvency 9.1 Are there any proposals for reform of the corporate practitioners and courts are recognised around the world. rescue and insolvency regime in your jurisdiction?

8 Groups There are not currently any fundamental proposals of reform that have been tabled in respect of the restructuring regime in Canada.

8.1 How are groups of companies treated on the insolvency of one or more members? Is there scope for co-operation between officeholders?

There are a number of different approaches for seeking insolvency protection for a corporate group in Canada. A company or group of companies may file in a foreign jurisdiction and seek recognition

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Leanne M. Williams Puya J. Fesharaki Thornton Grout Finnigan LLP Thornton Grout Finnigan LLP Suite 3200, 100 Wellington Street West Suite 3200, 100 Wellington Street West Toronto Dominion Centre Toronto Dominion Centre Toronto, ON, M5K 1K7 Toronto, ON, M5K 1K7 Canada Canada

Tel: +1 416 304 1616 Tel: +1 416 304 1616 Email: [email protected] Email: [email protected] URL: www.tgf.ca URL: www.tgf.ca Canada Leanne Williams is a partner at Thornton Grout Finnigan LLP practising Puya Fesharaki is an associate practising exclusively in the area of exclusively in the area of restructuring and insolvency, including corporate restructuring and insolvency. He acts for debtors, lenders reorganisations, workouts, refinancings and secured transactions. and court officers in complex domestic and cross-border restructurings Leanne has extensive experience in Canadian and cross-border and insolvencies. restructurings on behalf of both debtors and creditors across a Puya obtained his law degree from Osgoode Hall Law School, where broad spectrum of industries. She also regularly acts for accounting he won several awards and worked as a research assistant. Prior to firms during the insolvency process. Leanne represents all types of becoming a lawyer, Puya worked as a project and financial analyst for stakeholders in the restructuring process with the goal of achieving a industry-leading companies in the pharmaceutical and retail sectors. successful workout both within and outside of formal court proceedings.

Thornton Grout Finnigan LLP (“TGF”) is a Canadian boutique law firm with an office located in the financial district of Toronto, Ontario, practising exclusively in two areas: (i) insolvency and restructuring; and (ii) commercial litigation. As one of the first Canadian firms to recognise the value provided by a high-end boutique model, TGF was founded in a spirit of innovation with a view to providing a more focused and efficient vehicle for delivering legal services to sophisticated clients. TGF is a mix of senior restructuring and litigation lawyers with a full range of experience gained by years of practice, both inside and outside major full service law firms, combined with talented and energetic younger lawyers who thrive in the entrepreneurial environment of a boutique firm.

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Cayman Islands Guy Manning

Campbells Guy Cowan

authorities, held that where a company is insolvent or of doubtful 1 Overview solvency, the directors’ duty to act in the best interests of the company requires them to have regard to the interests of its creditors. It is in 1.1 Where would you place your jurisdiction on the the interest of the creditors to be paid, and it is in the interest of the spectrum of debtor to creditor-friendly jurisdictions? company to be safeguarded against being put in a position where it is unable to pay. Although there is no prescribed statutory point at The Cayman Islands has traditionally been regarded as a creditor- which a company must enter a restructuring or insolvency process, friendly jurisdiction and that remains the case. Creditors are treated directors can be made personally liable to the company for any losses equally irrespective of where they are domiciled. which they cause to the company if they act in breach of that duty; an example of this might be incurring additional liabilities when they knew or should have known that there was no reasonable prospect of 1.2 Does the legislative framework in your jurisdiction the company avoiding insolvent liquidation. allow for informal work-outs, as well as formal restructuring and insolvency proceedings, and are each of these used in practice? 2.2 Which other stakeholders may influence the company’s situation? Are there any restrictions on the Informal work-outs are not addressed in the legislative framework, action that they can take against the company? but they are used in practice when there is requisite support from affected stakeholders. Formal restructuring and insolvency As set out below, formal insolvency proceedings can be instigated proceedings are provided for in the Companies Law and are by a company’s creditors or contributories (among others). Their employed frequently. Schemes of arrangement are common, right to present a winding up petition is, however, subject to any often combined with a provisional liquidation in order to obtain an contractually binding non-petition clauses and, in the case of a automatic stay. The scheme may be promoted by the provisional contributory, to the contributory having either inherited or been liquidators, or by the management with the liquidators having a allotted its shares, or having been registered as their holder for at supervisory role in what are known as “light touch” provisional least six months. liquidations. Occasionally a Cayman provisional liquidation is used to facilitate an overseas restructuring process without a Cayman scheme of arrangement. Restructuring and insolvency proceedings 2.3 In what circumstances are transactions entered into by a company in financial difficulties at risk of are addressed in more detail below in sections 3 and 4 respectively. challenge? What remedies are available?

2 Key Issues to Consider When the The principal applicable statutory provisions are sections 99 Company is in Financial Difficulties (avoidance of property dispositions), 145 (voidable preference), 146 (avoidance of dispositions at an undervalue) and 147 (fraudulent trading) of the Companies Law. 2.1 What duties and potential liabilities should the Section 99 (avoidance of property dispositions) provides that any directors/managers have regard to when managing a company in financial difficulties? Is there a specific dispositions of a company’s property (or transfers of its shares) point at which a company must enter a restructuring made after the deemed commencement of the winding up will be or insolvency process? void in the event that a winding up order is subsequently made, unless validated by the court. The liquidator is entitled to apply for As a general principle of Cayman Islands law, directors’ duties are appropriate relief to require the repayment of the funds or the return owed to the company, rather than directly to shareholders or creditors. of the asset. A number of duties might be engaged in circumstances of financial Pursuant to section 145 (voidable preference), any payment or difficulty, but the fiduciary duty to act in the best interests ofthe disposal of property to a creditor constitutes a voidable preference if: company will always be relevant. What is meant by the best interests ■ it occurs in the six months before the deemed commencement of the company in times of financial difficulty was considered in of the company’s liquidation and at a time when it is unable to Prospect Properties v McNeill [1990-91 CILR 171]. In Prospect pay its debts; and Properties the Grand Court of the Cayman Islands (the “Grand ■ the dominant intention of the company’s directors was to give Court” or the “Court”), following the well-known line of English the applicable creditor a preference over other creditors.

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A payment or disposition is deemed to have been made to give the In some instances, restructurings have been implemented without a creditor a preference where the creditor has the ability to control the scheme of arrangement, by using a Cayman provisional liquidation company or exercise significant influence over it in making financial to obtain an automatic stay and to facilitate and give effect to an and operating decisions. overseas restructuring process. If a payment or disposition is set aside as a preference then it is void Debt-for-equity swaps are a common feature of Cayman schemes. and the creditor will be required, on application by the liquidator, to Pre-packaged sales are also possible, but are less common in return the payment or asset and prove (claim) in the liquidation for practice. the amount of its claim.

Section 146 (avoidance of dispositions at an undervalue) provides 3.3 What are the criteria for entry into each restructuring that transactions in which property is disposed of at an undervalue procedure? with the intention of wilfully defeating an obligation owed to a creditor are voidable on application of the liquidator. This is subject Schemes of arrangement involve three main stages: Cayman Islands to the application being brought within six years of the disposal. If ■ an application for orders convening the scheme meetings (at a transferee has not acted in bad faith then although the disposition which the Grand Court will principally be concerned with will be set aside, the transferee’s pre-existing rights and claims will issues of class composition, any jurisdictional or similar issues, be preserved, and it will be entitled to a charge over the property and the adequacy of the scheme documentation and notice); securing the amount of costs which it properly incurs defending the ■ the scheme meetings (at which the scheme will require proceedings. the approval of a majority in number representing not less If the business of a company was carried on with intent to defraud than 75% by value of those present and voting in each class creditors or for any fraudulent purpose then, pursuant to section 147 meeting); and (fraudulent trading), a liquidator may apply for an order requiring ■ a hearing to sanction the scheme (at which the Grand Court any persons who were knowingly parties to such conduct to make will principally be concerned with compliance with the such contributions to the company’s assets as the court thinks proper. convening orders, whether the majority fairly represent the Lastly, transactions made by a company in financial difficulty and class, and whether the arrangement, having regard to the in breach of the directors’ fiduciary duties may also be vulnerable to scheme comparator, is such that an intelligent and honest man, who is a member of the class concerned and is acting in claims based on dishonest assistance or knowing receipt. his own interest, might reasonably approve it). The criteria for entry into provisional liquidation are addressed in 3 Restructuring Options question 4.1 below.

3.1 Is it possible to implement an informal work-out in 3.4 Who manages each process? Is there any court your jurisdiction? involvement?

It is possible to implement informal work-outs in the Cayman The directors remain in control of the company if the scheme is Islands, provided that they are supported by the requisite proposed outside of liquidation, and the Grand Court is involved in stakeholders. ordering the convening of the scheme meetings and sanctioning the scheme (i.e., stages 1 and 3 above). 3.2 What formal rescue procedures are available in your If the scheme is promoted within a provisional liquidation then jurisdiction to restructure the liabilities of distressed the management of the scheme process will depend on the terms companies? Are debt-for-equity swaps and pre- of the order appointing the provisional liquidators. In some cases, packaged sales possible? the provisional liquidators will only be given the powers necessary to supervise the directors’ promotion and implementation of the The principal mechanism used to restructure a company’s liabilities scheme. In other cases, the provisional liquidators will displace the is a scheme of arrangement between the company and its creditors or directors entirely for the duration of the restructuring. In either case, members, or classes of creditors or members, pursuant to section 86 the provisional liquidators will be subject to the Court’s supervision, of the Companies Law. If a scheme is approved by more than 50% and the Court’s involvement in the scheme process will be the same by number and 75% by value of those attending and voting in each irrespective of whether the company is in provisional liquidation. class, and is subsequently sanctioned by the Grand Court, it will bind all scheme participants (including any dissentient minority) and compromise their rights in accordance with the scheme terms. 3.5 How are creditors and/or shareholders able to influence each restructuring process? Are there any Schemes can be promoted by the management outside of any restrictions on the action that they can take (including insolvency process, but they are commonly combined with the the enforcement of security)? Can they be crammed presentation of a winding up petition and the appointment of down? provisional liquidators, in order to obtain the benefit of an automatic stay of actions against the company while the scheme process is A scheme creditor or shareholder may be able to influence the undertaken. A scheme implemented during a provisional liquidation scheme terms through holding sufficient votes to block the scheme may still be promoted by the directors with the provisional liquidators at the meeting stage, and/or through membership of an ad hoc group merely having a supervisory role (in what are known as “light or provisional liquidation committee. A dissentient creditor or touch” provisional liquidations), or the provisional liquidators can shareholder also has the right to oppose the scheme at the sanction temporarily displace the directors in order to promote the scheme. stage, although its options will generally be more limited at that point. If the scheme is sanctioned by the Grand Court, then typically the If a scheme takes place outside of a provisional liquidation process winding up petition would be dismissed, the provisional liquidators then there is no statutory bar preventing a creditor or shareholder from would be discharged, and the restructured company would be enforcing its rights prior to the scheme becoming effective, although returned to the full control of its management.

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the Grand Court might be persuaded to exercise its discretion to stay winding up petition. A creditor, shareholder, the company itself or or adjourn proceedings brought against the company by a scheme (in respect of regulated businesses) the Cayman Islands Monetary creditor or shareholder pending the completion of the scheme Authority (“CIMA”) can apply for the appointment of provisional process. The appointment of provisional liquidators results in an liquidators between the presentation and the hearing of the winding automatic stay on actions against the company in Cayman, but up petition. this may not be effective to prevent actions being commenced or Applications by creditors, shareholders or CIMA are made for the pursued against the company overseas. purpose of preserving and protecting the company’s assets until the In principle, secured creditors are capable of being bound by a hearing of a winding up petition and the appointment of official scheme as it is the underlying debt rather than the security interest liquidators. which is compromised by the scheme. In reality, secured creditors A company can also petition for its own winding up and apply for will be left out of a scheme or will have a significant influence on its the appointment of provisional liquidators in order to present a terms, either because of their ability to enforce their security prior compromise or arrangement to creditors with the protection of an Cayman Islands to the scheme becoming effective or because their security interest automatic stay. The purpose of appointing a provisional liquidator puts them into their own scheme class and therefore gives them a in this situation is similar to the UK administration process or blocking position. US Chapter 11 procedure, albeit there are significant legal and Dissentient creditors and shareholders who are included in a scheme procedural differences. are crammed down in accordance with the scheme terms upon the Official liquidation scheme becoming effective. The purpose of official liquidation is to wind up the company and distribute its assets to its creditors and shareholders in accordance 3.6 What impact does each restructuring procedure have with the statutory order of priorities. on existing contracts? Are the parties obliged to Official liquidation is available to: perform outstanding obligations? Will termination and set-off provisions be upheld? ■ companies incorporated and registered under the Companies Law; The impact of a scheme on existing contracts, and whether the ■ bodies incorporated under any other law; and parties will be obliged to perform outstanding obligations under ■ foreign companies which: those contracts or whether they will be terminated, will depend on ■ carry on business or have property located in the Cayman the terms of the scheme (in particular the extent to which it purports Islands; to compromise rights under those contracts) and the terms of the ■ are the general partner of a limited partnership registered contracts. If the scheme takes place in the context of a provisional in the Cayman Islands; or liquidation then the appointment of provisional liquidators will not in ■ are registered as foreign companies under the Companies and of itself affect existing contracts, other than as might be provided Law. within the contracts themselves. Contractual rights of set-off would usually be relevant for the purpose of valuing a scheme claim. Winding up petitions may be presented by the company or (subject to the restrictions identified in question 2.2 above) by any creditor (including a contingent or prospective creditor) or shareholder of 3.7 How is each restructuring process funded? Is any the company. CIMA may also present a petition in relation to a protection given to rescue financing? company which is carrying on a regulated business in the Cayman Islands. The process is funded from the scheme company’s assets and/or Voluntary liquidation from new money invested by way of debt or equity. In practice, new money comes from a wide variety of sources. Security can Voluntary liquidation can be used by companies incorporated be granted in respect of rescue financing, but there is no statutory and registered under the Companies Law. It is commenced by protection (or priority) afforded to rescue financing in the context of shareholder resolution or on the expiry of a period or the occurrence a scheme taking place outside of a provisional liquidation process. of an event (see below). However, an application must be made Similarly, rescue financing provided during a provisional liquidation to bring a voluntary liquidation under the supervision of the Court will have no statutory protection (or priority) in the event that the (at which point it proceeds as an official liquidation) if any of the company emerges from the provisional liquidation but subsequently directors is unable or unwilling to swear the requisite statutory fails. However, if rescue financing is provided during a provisional declaration of solvency or in certain other circumstances. liquidation and the company is subsequently wound up without having emerged from the provisional liquidation process, i.e. 4.2 On what grounds can a company be placed into each because no restructuring was approved, then the financing is likely winding up procedure? to constitute an expense of the provisional liquidation. As such it would have priority over the majority of official liquidation expenses Provisional liquidation and all unsecured creditors’ claims in the official liquidation. A creditor or shareholder can apply on the grounds that there is a prima facie case for making a winding up order and the appointment 4 Insolvency Procedures of provisional liquidators is necessary to prevent: ■ dissipation or misuse of the company’s assets; 4.1 What is/are the key insolvency procedure(s) available ■ oppression of minority shareholders; or to wind up a company? ■ mismanagement or misconduct by the directors. As mentioned above, the company, if properly authorised, can apply Provisional liquidation for the appointment of provisional liquidators on the grounds that Provisional liquidation is available to companies liable to be wound the company is or is likely to become unable to pay its debts and up under the Companies Law, following the presentation of a intends to present a compromise or arrangement to its creditors.

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An application to appoint provisional liquidators can only be made management can be allowed to remain in control of the company following the presentation of a winding up petition. subject to the supervision of the Court and provisional liquidators, Official liquidation although in other cases the management will be displaced entirely by the provisional liquidators. The Court may (or may not) direct A company may be wound up by the Grand Court if any of the that a provisional liquidation committee be established. following apply: Official liquidation ■ The company passes a special resolution requiring it to be wound up by the Court. Official liquidators are also appointed by the Grand Court and their ■ The company does not commence business within a year of authority always displaces that of the company’s directors. The incorporation. official liquidators control the company’s affairs, subject tothe ■ The company suspends its business for a whole year. Court’s supervision. Certain of their powers are exercisable without the sanction of the Court, whereas others cannot be exercised ■ The period (if any) fixed by the company’s articles for the

without Court sanction. A liquidation committee is required to be Cayman Islands company’s duration expires, or an event occurs which under the articles triggers the company’s winding up. established in every official liquidation. ■ The company is unable to pay its debts (see below). Voluntary liquidation ■ The Court decides that it is just and equitable for the company On appointing a voluntary liquidator, the directors’ powers cease, to be wound up. except to the extent the company (through a general meeting) or ■ The company is carrying on a regulated business in the the liquidator sanctions the continuance of those powers. The Cayman Islands and is not duly licensed or registered to do Grand Court will not be involved in a voluntary winding up unless so. a petition is presented to bring it under the Court’s supervision or ■ Certain other grounds specified in regulatory and other laws. the voluntary liquidator or any contributory applies to the Court to determine any question arising in the voluntary liquidation or with The test of inability to pay debts for this purpose is a cash-flow test. regard to the exercise of powers which the Court might exercise in a The company’s balance sheet is irrelevant in this context. Based Court-supervised liquidation. on earlier authorities, the cash-flow test in the Cayman Islands was generally regarded as being confined to debts which were presently due and payable. However, in Conway and Walker (as joint official 4.4 How are the creditors and/or shareholders able to liquidators of Weavering Macro Fixed Income Fund Limited) v influence each winding up process? Are there any SEB (18 November 2016, unreported), the Court of Appeal stated restrictions on the action that they can take (including that “the cash flow test in the Cayman Islands is not confined to the enforcement of security)? consideration of debts that are immediately due and payable. It permits consideration also of debts that will become due in the Provisional liquidation reasonably near future”. Although the Court’s comments were Creditors or contributories of the company may apply to the Court technically obiter, they are very likely to be followed by the Grand for orders and directions with regard to the exercise or proposed Court, such that a Cayman company may be liable to be wound up exercise of the provisional liquidators’ powers (these are known as if it is presently unable to pay its debts, or if it will become so in the “sanction applications”). reasonably near future. What will constitute the “reasonably near A provisional liquidation committee comprising of creditors and/ future” for the purposes of the test will be fact specific in each case. or shareholders may (but will not always) be established in a The same cash-flow test is also used in relation to preference claims provisional liquidation. The composition and function of liquidation under section 145 of the Companies Law (see question 2.3 above). committees are addressed in more detail below in the context of If the debt claimed in the demand is disputed by the company in official liquidations. good faith and on substantial grounds then it cannot form the basis There is no restriction on the enforcement of security during of a winding up petition. a provisional liquidation, but the appointment of provisional Voluntary liquidation liquidators triggers an automatic stay on the commencement or A company can be wound up voluntarily in the following cases: continuance of proceedings against the company without the leave of the Court. ■ When the fixed period, if any, for the duration of the company in its memorandum or articles expires. Official liquidation ■ If an event occurs which the memorandum or articles provide Creditors or contributories of the company may also make sanction is to trigger the company’s winding up. applications with regard to the exercise or proposed exercise of the ■ If the company resolves by special resolution that it be wound official liquidators’ powers. up voluntarily. In addition, a liquidation committee must be appointed unless the If the company resolves by ordinary resolution that it be wound up Court orders otherwise. The principal purposes of a liquidation voluntarily because it is unable to pay its debts as they fall due. committee are to act as a “sounding board” for the liquidators and to consider the basis and amount of their remuneration. The committee comprises three to five creditors (if the liquidator has 4.3 Who manages each winding up process? Is there any court involvement? determined that the company is insolvent) or shareholders (if the liquidator has determined that the company is solvent). If the liquidator determines that the company is of doubtful solvency Provisional liquidation then the committee must comprise three to six members of whom Provisional liquidators are appointed by the Grand Court. They are a majority must be creditors and at least one of whom must be a subject to the Court’s supervision and only carry out the functions shareholder. Members are elected at meetings of creditors and/or which the Court confers on them. Their powers are prescribed by the shareholders (as appropriate). Liquidation committees also have order appointing them and the scope will depend on the reason for standing to make sanction applications. their appointment. If a company restructuring is proposed, existing

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There are no prohibitions or restrictions on the rights of secured Any surplus remaining after payment of the above amounts is creditors to enforce their security during an official liquidation but, returned to the shareholders of the company in accordance with its as in provisional liquidations, no proceedings can be commenced or articles or any shareholders’ agreement. continued against the company without the leave of the Court.

Voluntary liquidation 4.7 Is it possible for the company to be revived in the Voluntary liquidators are required to pay debts owed to creditors as future? they fall due. If they fail to do so there is nothing to stop a secured creditor from enforcing its security or to prevent any creditor from Liquidation is intended to be a terminal procedure and ordinarily commencing ordinary litigation or winding up proceedings against results in the dissolution of the company. Once a company has been the company. dissolved following a voluntary or official liquidation, it cannot be A contributory may apply to the Grand Court to determine any revived.

Cayman Islands question arising in the voluntary winding up or with regard to the In certain circumstances, a voluntary liquidation can be recalled exercise of all or any of the powers which the Court might exercise by the Court prior to dissolution and the company placed back into if the company were being wound up under the Court’s supervision. active status. In an official liquidation the liquidator or any creditor or shareholder 4.5 What impact does each winding up procedure have on has the right to apply for the liquidation to be stayed prior to existing contracts? Are the parties obliged to perform dissolution, and the Grand Court may make an order staying the outstanding obligations? Will termination and set-off proceedings, either permanently or for a limited time, on such terms provisions be upheld? and conditions as it thinks fit.

Other than contracts of employment (in respect of which see below), 5 Tax the winding up process per se will not have any effect on contracts unless there is a specific contractual provision to that effect. Further, liquidators have no statutory power to disclaim onerous contracts 5.1 Does a restructuring or insolvency procedure give under Cayman law. The parties are therefore obliged to perform rise to tax liabilities? their outstanding obligations, although in practice a liquidator might elect not to do so and instead to adjudicate whatever claim Not in the Cayman Islands. the contractual counterparty seeks to prove in the liquidation as a result of the breach. Liquidators are required to give effect to any contractual rights of set-off or netting of claims between the 6 Employees company and any persons, subject to any agreement to waive or limit such rights. In the absence of any set-off provision, account 6.1 What is the effect of each restructuring or insolvency must be taken of what is due from each party to the other in respect procedure on employees? of their mutual dealings, and set-off is applied in relation to those amounts. Employees’ rights would only be affected by a scheme of arrangement if and to the extent that it purported to compromise 4.6 What is the ranking of claims in each procedure, their rights as creditors under their employment agreements. This including the costs of the procedure? would be unusual in practice. A voluntary or provisional liquidation would have no legal effect on employees save to the extent, if ■ Liquidation expenses, including liquidators’ fees and any, provided for in their employment agreement. Under the disbursements. common law, a winding up order serves to terminate all contracts of ■ Preferential debts, which are: employment of the company in official liquidation. ■ certain sums due to employees; ■ certain taxes due to the Cayman Islands government; and 7 Cross-Border Issues ■ for certain Cayman Islands banks, certain sums due to depositors. 7.1 Can companies incorporated elsewhere restructure ■ Ordinary debts which are not otherwise secured, and not or enter into insolvency proceedings in your subject to subordination or deferral agreements, including jurisdiction? debts incurred by the company in respect of the redemption or purchase of its own shares, provided the redemption or purchase took place before the liquidation commenced. Yes. A foreign company can be the subject of a Cayman Islands ■ Ordinary debts that are subject to subordination or deferral scheme of arrangement or be wound up here provided that it has agreements. property located, or is carrying on business, in the Islands, is the general partner of an ordinary or exempted Cayman Islands ■ In an official liquidation lasting more than six months, interest accruing on the company’s debts since commencement of the limited partnership, or is registered as a foreign company under the liquidation. Companies Law. ■ Amounts due to preferred shareholders (under the company’s articles of association). 7.2 Is there scope for a restructuring or insolvency ■ Debts due to the holders of redeemable shares in the company process commenced elsewhere to be recognised in whose shares were due to be redeemed before the liquidation your jurisdiction? commenced but were not redeemed due to the company’s default. Yes. On application by a foreign representative (defined as a trustee, liquidator or other official appointed for the purposes of a foreign

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bankruptcy proceeding), the Grand Court can make orders ancillary to the foreign bankruptcy proceedings to: 8 Groups ■ Recognise the foreign representative’s right to act in the Cayman Islands on behalf, or in the name, of the debtor. 8.1 How are groups of companies treated on the ■ Grant a stay of proceedings or the enforcement of a judgment insolvency of one or more members? Is there scope against the debtor. for co-operation between officeholders? ■ Require certain persons with information concerning the debtor’s business or affairs to be examined by, and produce It depends on where the insolvent company sits within the group. documents to, the foreign representative. Liquidators of the holding company will, generally speaking (and ■ Order the turnover of the debtor’s property to the foreign subject to applicable local laws), have the ability to take control representative. of and/or sell the company’s subsidiaries. If multiple Cayman companies within the group enter into insolvency proceedings then the Grand Court will, where appropriate, appoint the same or Cayman Islands 7.3 Do companies incorporated in your jurisdiction common liquidators. Although there are no formal provisions for restructure or enter into insolvency proceedings in cooperation between liquidators of different companies within a other jurisdictions? Is this common practice? group, this may occur informally in practice to the extent it is in the interests of both estates. In certain limited circumstances the Grand Yes, Cayman companies with extra-territorial assets will regularly Court may be willing to make an order by which the assets and enter into concurrent insolvency regimes in other jurisdictions; for liabilities of different companies within a group are pooled. example, under Chapter 11 or Chapter 15 of the US Bankruptcy Code. In such circumstances, Cayman liquidators must consider whether or not it is appropriate to enter into an international protocol 9 Reform with any foreign officeholder in order to promote the orderly administration of the estate and avoid duplication of work and 9.1 Are there any proposals for reform of the corporate conflict. rescue and insolvency regime in your jurisdiction?

There are no formal proposals for reform of the insolvency regime in place at this point in time.

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Guy Manning Guy Cowan Campbells Campbells Floor 4, Willow House, Cricket Square Floor 4, Willow House, Cricket Square Grand Cayman KY1-9010 Grand Cayman KY1-9010 Cayman Islands Cayman Islands

Tel: +1 345 949 2648 Tel: +1 345 949 2648 Email: [email protected] Email: [email protected] URL: www.campbellslegal.com URL: www.campbellslegal.com

Guy is a partner and head of Campbells’ Litigation, Insolvency & Guy is a senior associate in Campbells’ Litigation, Insolvency & Restructuring Group. He has acted in litigation involving widely Restructuring Group and specialises in contentious insolvency matters Cayman Islands varying commercial contexts and structures, but his practice is and also deals with more general commercial disputes. Guy advises principally focused on restructurings and contentious insolvencies. and appears in the Cayman Islands Courts on behalf of provisional Guy regularly advises and appears in the Cayman Islands Courts and official liquidators, creditors, shareholders, directors, managers on behalf of provisional and official liquidators, financial institutions, and other professional service providers in relation to a broad range of creditors, shareholders, directors, managers and other professional pre- and post-liquidation disputes. service providers. He has given expert evidence of Cayman Islands law to various foreign courts and is a regular speaker at international conferences. Chambers and Partners report that Guy is “a very bright man who gives useful, fit-for-purpose advice that’s commercially focused” (2017), is “someone who thinks carefully about the case and offers practical, commercial advice to help us get the best outcome” (2016), and is “a very considered and technical lawyer; he accommodates innovative thinking and applies the law commercially” (2015).

Campbells has been established for over 45 years and advises on both Cayman Islands and British Virgin Islands law. Campbells provides comprehensive corporate and litigation services to clients worldwide from our offices in the Cayman Islands, the British Virgin Islands and Hong Kong. We are regularly trusted to advise some of the most prominent names in finance, investment and insurance and are frequently involved in the largest and most complex insolvencies, restructurings, disputes and transactions in both jurisdictions.

Our legal team is internationally recognised for their expertise by leading directories and trade publications and we are also proud to be actively involved in the development of legislation, sitting on critical government legislative committees.

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Cyprus Soteris Flourentzos

Soteris Flourentzos & Associates LLC Evita Lambrou

The effectiveness of the aforesaid two main amendments is to be 1 Overview seen when tested.

1.1 Where would you place your jurisdiction on the 1.2 Does the legislative framework in your jurisdiction spectrum of debtor to creditor-friendly jurisdictions? allow for informal work-outs, as well as formal restructuring and insolvency proceedings, and are The collapse of the financial sector in Cyprus in 2013 triggered a each of these used in practice? significant increase in the number of corporate entities incorporated in Cyprus which are being deemed “insolvent” and which are no The primary legislation governing the law of corporate restructuring longer in a position to continue operating as viable going concerns. and insolvency is contained in the Companies Law, Cap. 113 This has of course necessitated directors, creditors and shareholders (the “Companies Law”), containing the principal, alternatives to of such companies together with their professional advisors turning liquidation and mechanisms for dealing with companies in financial their attention to the mechanisms available under Cyprus law to deal distress, those being: (a) examinership; (b) schemes of arrangement; with those entities. and (c) receivership. The Companies Law does not provide for The principal mechanisms for dealing with insolvent companies are informal work-outs and these are not used in practice. as follows: (a) liquidation; (b) examinership; and (c) receivership. Examinership On 18 April 2015, the Cyprus parliament approved a new package The examinership procedure was introduced into the Companies of insolvency laws, aimed at streamlining and modernising the Law in April 2015. In short, examinership provides a maximum existing system and promoting a rescue culture. The new insolvency four-month period in which a court-appointed official, i.e. the framework forms part of the economic adjustment programme examiner, seeks to take control of the company and manage it so agreed between the Cyprus Government and international providers that the company may continue to trade. of financial support at the time of the 2013 banking crisis. The examinership procedure may be initiated by the company, the The Companies Law has been amended to introduce a process called directors of the company, by a creditor or a prospective creditor, “examinership”, which is akin to the United Kingdom and Ireland or by members of the company holding not less than one-tenth administration process. These provide for the appointment of an of the paid-up capital of the company having voting rights. The insolvency practitioner as “examiner”, whose role is to develop basis for the petition must be that the company is or is likely to be restructuring proposals and agree them with stakeholders during unable to pay its debts (within the meaning of Section 212 of the a four-month moratorium in which the company is protected from Companies Law), that no order has been made up for the winding creditor action. up of the company and no resolution subsists for the winding up of the company. The Companies Law has also been amended to make the following changes regarding liquidation: A petition to appoint an examiner to a company must be ■ for a company to be deemed to be unable to pay its debts, the accompanied by a report in relation to the company of an court must be satisfied that the net asset value is negative, “independent expert” (meaning an independent accountant). In taking into account potential and future liabilities; order for the petition to be successful, the report must confirm ■ a liquidator can be appointed by the court as well as by that, inter alia, the independent expert believes that there is a existing procedures; “reasonable prospect of the survival of the company on the whole or any part of its undertaking as a going concern” and the court ■ when a winding up order is made, the Official Receiver will only make an order appointing an examiner if it is satisfied can be appointed as the permanent liquidator and merely on a provisional basis pending the appointment of another that this is the case. liquidator, as had previously been the case; Effect of Examinership ■ a liquidator must be a licensed and regulated professional Once the examiner has been appointed and during the four-month insolvency practitioner; examinership period, the following are prevented from taking place: ■ a court can make an order authorising the liquidator to (a) the appointment of a receiver over the assets of the company; (b) the dispose of assets subject to a charge if it is satisfied that this winding up of the company; (c) the disposal of charged assets without would be advantageous; and consent from the examiner; and (d) any action against the company. ■ net proceeds from the sale of secured assets are first used to As noted above, the examiner’s function is to examine the affairs of repay the secured debt, and any surplus goes to unsecured the company and to formulate proposals for its survival. The control creditors.

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and management of the company does not automatically vest in the Receivership has a dual function in respect of companies in financial examiner, but the examiner does exercise a supervisory role in the distress: (a) to realise the assets of the company so that the secured conduct of the business by its management. Where an examiner creditor’s debt is repaid; and (b) the other and less frequently deems it necessary to do so, (s)he may apply to the court to assume exercised function is to manage the company in such a way so as such management functions where the examiner is of the opinion to recover the company (or any part thereof) which will be to the that the company is being mismanaged. ultimate benefit of both the company and the debenture holder. As soon as practical, after his/her appointment, the examiner must It should be noted, however, that where a receiver has been appointed formulate proposals for a compromise or scheme of arrangement to to a company to which a liquidator has been or is subsequently facilitate the survival of the relevant company as a going concern. appointed, the liquidator of that company may apply to the court to

Cyprus Such proposals must be accepted by each class of creditors to order that the receiver cease to act or act only subject to the control which they relate and must be confirmed by the court. The court of the court. can confirm the proposals only to the extent that they have been accepted by at least one class of creditors who are affected by the same, that they are fair and equitable having regard to the rights of 2 Key Issues to Consider When the all classes of creditor and they are not contrary to the interests of Company is in Financial Difficulties any interested party.

Once confirmed by the court, the proposals become binding on 2.1 What duties and potential liabilities should the all creditors whether secured or unsecured and their rights are directors/managers have regard to when managing a accordingly modified. company in financial difficulties? Is there a specific Effect of Examinership on Secured Creditors point at which a company must enter a restructuring or insolvency process? No secured creditor can act in respect of the property of the company which is secured in its favour for the duration of the examinership Although the Companies Law does not contain any express wrongful period without the consent of the examiner. Furthermore, the trading provisions requiring directors to commence insolvency examiner has certain powers to dispose of assets subject to a fixed proceedings as soon as they knew or ought to have known that the and/or floating charge with the leave of the court. While for a fixed company would be unable to pay its debts, they may still be held charge holder this means that it will receive the net proceeds of any liable for wrongful trading. such disposal (though less the remuneration, costs and expenses If in the course of the winding up of a company it appears that any incurred by the receiver if the court so determines), a floating charge business of the company has been carried on with intent to defraud holder may not receive the proceeds of disposal of any of the assets creditors of the company or creditors of any other person or for discharged in its favour. any fraudulent purpose, the court, on the application of the official Powers of the Examiner receiver, or the liquidator or any creditor or contributory of the An examiner has broad powers to prevent the company from acting company, may, if it thinks it proper so to do, declare that any persons in a manner in relation to its assets where (s)he is of the opinion that who were knowingly parties to the carrying on of the business in such conduct will be or is likely to be detrimental to the company. the manner aforesaid shall be personally responsible, without any However, an examiner may not repudiate a contract that has been limitation of liability, for all or any of the debts or other liabilities of entered into by the company prior to the period during which such the company as the court may direct (Section 311 of the Companies company is under the protection of the court, save for agreements Law). constituting negative pledges where (s)he is of the view that the Thus, a director of a company that is wound up because it is enforcement of such a negative pledge would be detrimental to the insolvent can be made personally liable for its debts as the court sees company’s prospects of survival. fit, if there has been “wrongful trading”. In other words, if a director Receivership knew that there was no reasonable prospect of avoiding the winding up of the insolvent company, but did not take steps to minimise the Receivership arises in the context of secured creditors and provides potential loss to the company’s creditors, (s)he might be personally a framework in which they may act so as to enforce their security liable for the loss of the company’s creditors. interest. A receiver is typically appointed to a company by either a debenture holder or the court to take control of the assets of a Therefore, a director has a duty when a company becomes insolvent, company with a view to ensuring the repayment of the debt to take all necessary steps either to procure that the company is owed to the debenture holder, either through receiving income or placed under examinership or under liquidation. realising the value of the charged asset. The most common form of receivership is that of a receiver-manager appointed by a debenture 2.2 Which other stakeholders may influence the holder, pursuant to a debenture document that creates a floating company’s situation? Are there any restrictions on the charge over all of the company’s assets. action that they can take against the company? It should be noted that, while it is often the commencement of insolvency proceedings or the imminent threat thereof which The shareholders of a company in financial distress have the right triggers the appointment of a receiver, this is not always the case to apply for the appointment of an examiner in accordance with and, in many circumstances, there will be provision made for the Section 202A of the Companies Law. appointment of a receiver even where the company may not be Other stakeholders are able to take security over the company’s deemed to be insolvent, either for the purpose of the liquidation assets through: or examinership process. In the case of a receiver to be appointed ■ a mortgage (legal or equitable) over the company’s pursuant to the terms of a debenture, this will of course depend on immovable property; the terms of the contract and the events of default which may give ■ a charge (floating or fixed); rise to the appointment of a receiver. In the alternative, the court has ■ a pledge; or inherent equitable jurisdiction to make this appointment. ■ a lien.

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In particular, in the case of charge, a secured creditor can appoint a there are some disadvantages of schemes of arrangement to the receiver under the terms of a relevant charge against the company. examinership, namely: (a) a secured creditor may still appoint a receiver; and (b) the voting thresholds for a scheme of arrangement are higher at 75%, as opposed to 51% in an examinership. 2.3 In what circumstances are transactions entered into by a company in financial difficulties at risk of Examinership challenge? What remedies are available? Examinership is a debt restructuring and corporate rescue procedure for insolvent companies or companies that are likely to be insolvent, According to Section 301 of the Companies Law, any conveyance, and was recently introduced in the Companies Law (April 2015). mortgage, delivery of goods, payment, execution, or other act The purpose of examinership is to give a company facing insolvency

relating to property made or done by or against a company within Cyprus a period of protection from its creditors, in order to facilitate its six months before the commencement of its winding up will, in the survival as a going concern and to save viable businesses and event of the company being wound up, be deemed a “fraudulent jobs. It must be noted that examinership “is not designed to help preference” of its creditors, and be invalidated accordingly. shareholders whose investment has proved to be unsuccessful”. In addition, if in the course of the winding up of a company it appears The protection period has been described as a “temporary breathing that any business of the company has been carried on with the intent space”. to defraud creditors of the company or creditors of any other person In order for a company to be placed under a scheme of examinership, or for any fraudulent purpose, the court, on the application of the the company must be unable or likely to be unable to pay its debts. official receiver, or the liquidator or any creditor or contributory In deciding, the court may also take into consideration whether of the company, may, if it thinks it proper so to do, declare that the company has requested significant extensions on the payment any persons who were knowingly parties to the carrying on of the of its debts, or whether the value of the company’s assets is less business in the aforesaid manner shall be personally responsible, than its liabilities, or has a creditor demanding in writing an amount without any limitation of liability, for all or any of the debts or other exceeding €5,000 and the company has neglected to satisfy the liabilities of the company as the court may direct (Section 311 of the creditor, or whether there has been a court order in favour of a Companies Law). creditor which remains unsatisfied. The “Protection Period” 3 Restructuring Options The company may be placed under the protection of the court for four calendar months from the date of the presentation of the petition; the examiner may, however, request an extension of the 3.1 Is it possible to implement an informal work-out in your jurisdiction? protection period for another 60 days. Therefore, the maximum period shall be six calendar months. During this period, if granted, the examiner shall prepare and present to the court proposals for The Companies Law does not provide for informal work-outs and a scheme of arrangement. Upon presentation of the report of the these are not used in practice. examiner, the court may extend the protection period further until it can decide whether to approve a scheme of arrangement or not. 3.2 What formal rescue procedures are available in your The Appointment of the Examiner jurisdiction to restructure the liabilities of distressed companies? Are debt-for-equity swaps and pre- The examiner may be appointed by the court only where there packaged sales possible? is a reasonable prospect of survival of both the company and the whole or part of the company’s undertakings as a going concern. There are two legal procedures that can be used for the restructure The whole or part of the company’s undertakings shall remain of liabilities of companies in financial distressed: (a) schemes of with the company; therefore, disposing of its assets or business is arrangement; and (b) examinerships. not accepted. The interests of employees may also be relevant to Scheme of Arrangement the court’s decision to appoint the examiner, though the court will practice its discretionary power considering whether any creditor A scheme of arrangement is a procedure which can be used by a will be prejudiced as a result. financially troubled company to reach a binding agreement with its creditors about payment of all, or part of, its debts over an agreed Proposals period of time. A scheme of arrangement can be proposed by the The examiner can propose debt settlement/restructuring plans to directors of the company, or the liquidator of the company. creditors and shareholders of the company concerned, which will The meeting decides whether to approve the scheme of arrangement. require judicial ratification where the court is satisfied that there is If 75% of the creditors agree to the proposal, it is then binding on all a reasonable viability prospect for the company on the basis of an creditors who had notice of the meeting and were entitled to vote. independent expert report. Such proposals for arrangement may include swap arrangements. The procedure for arrangements and reconstructions sets out a very flexible framework under which any type or reorganisation is possible. It is possible to convert debt into equity on any terms that 3.3 What are the criteria for entry into each restructuring are agreed between the various stakeholders. procedure? Unlike examinerships, the business need not be viable. Schemes of The court petition for an Examinership Order may be filed by: arrangement may be used also to wind up a company’s affairs and pay a greater dividend to creditors. In such “wind up” schemes, ■ the company; monies could be set aside for voluntary strike off. In addition, ■ a creditor of the company; there is no need for an Independent Expert’s Report to commence ■ a member of the company holding not less than 10% of the the process, and there is no need to prove to the court that there paid-up voting share capital; and/or is a “reasonable prospect” of the company surviving. However, ■ a guarantor of the company’s obligations/liabilities.

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In addition, examinership is available if: the effect of the proposals on those interests. If a majority of the ■ no resolution is passed for the voluntary winding up of the creditors or class of creditors, or a majority in number of votes of company; the members or class of members, as the case may be, present and ■ no order is made for the winding up of the company by the vote either in person or by proxy at the meeting for any compromise court; and or arrangement, the compromise or arrangement shall, if sanctioned ■ no receiver is appointed for more than 30 days. by the court, be binding on all the creditors or the class of creditors, or on the members or class of members, as the case may be, and also Schemes of arrangement are instituted by an application to the on the company or, in the case of a company in the course of being court for an order for a meeting of the creditors or members of wound up, on the liquidator and contributories of the company. the company to be convened, in whatever way the court directs,

Cyprus to consider proposals for a compromise or reconstruction. The application may be made by the company, a creditor, a member or, 3.6 What impact does each restructuring procedure have in the case of a company being wound up, the liquidator. on existing contracts? Are the parties obliged to perform outstanding obligations? Will termination and The procedure of schemes of arrangement can be used to achieve a set-off provisions be upheld? compromise or arrangement between a company and its creditors, or between a company and its members or any class of them. When a company is placed under the protection of examinership, no creditor can act in respect of the property of the company which 3.4 Who manages each process? Is there any court is secured in its favour for the duration of the examinership period involvement? without the consent of the examiner. Furthermore, the examiner has certain powers to dispose of assets subject to a fixed and/or floating For an Examinership Order to be granted, the court must be charge with the leave of the court. While for a fixed charge holder convinced that the company has a “reasonable prospect of survival”. this means that it will receive the net proceeds of any such disposal If such a prospect exists, it is determined by the court on the basis (though less the remuneration, costs and expenses incurred by the of a petition that is filed before it; this petition is accompanied by receiver if the court so determines), a floating charge holder may an independent report. Should an Examinership Order be granted, not receive the proceeds of disposal of any of the assets discharged the company remains under the protection of the court for a time in its favour. period of four months, starting from the day that the application It is possible that before the scheme of arrangement proposal is for the appointment of an examiner was filed. This period may be made, an application can be made to the court for a moratorium extended for an additional 60 days if the court is satisfied that such which prevents creditors from taking action against the company an extension is necessary for the filing of the examiner’s report. or its property. In schemes of arrangement, as provided under Section 198 of the Companies Law, the various classes of creditors and shareholders 3.7 How is each restructuring process funded? Is any must approve the proposals made by the directors of the company, protection given to rescue financing? which must be confirmed by the court before becoming effective and binding. The costs of both Schemes of Arrangements and Examinership are financed from the company’s normal cash flows or are paid out of its 3.5 How are creditors and/or shareholders able to assets, unless the court directs otherwise. influence each restructuring process? Are there any According to Section 202B of the Companies Law, the Court has the restrictions on the action that they can take (including discretionary power not to hear a request for the appointment of an the enforcement of security)? Can they be crammed down? examiner which is submitted by a potential or future creditor until a security is paid for the costs which the Court deems reasonable. In examinership, as soon as practical, after his/her appointment, the examiner must formulate proposals for a compromise or scheme of 4 Insolvency Procedures arrangement in order to facilitate the survival of the relevant body as a going concern. Such proposals must be accepted by each class of creditors to which they relate and must be confirmed by the court. 4.1 What is/are the key insolvency procedure(s) available The court can confirm the proposals only to the extent that they have to wind up a company? been accepted by at least one class of creditors who are effected by the same, that they are fair and equitable having regard to the rights The winding up of a company under the Companies Law may be of all classes of creditor and they are not contrary to the interests of effected by one of the following: (i) court liquidation; (ii) creditors’ any interested party. Once confirmed by the court, the proposals voluntary liquidation (where the company is insolvent); or (iii) become binding on all creditors, whether secured or unsecured, and members’ voluntary liquidation (where the company is solvent). their rights are accordingly modified. In light of the focus of this article, we do not intend to address the In schemes of arrangement, as provided under Section 198 of the members’ voluntary liquidation process on the basis that this is Companies Law, the creditors will have the decisive role if they are applicable to solvent companies only. being asked to accept anything less than full, immediate settlement of their debts. Otherwise, the members will have the decisive role. 4.2 On what grounds can a company be placed into each An approved compromise or arrangement is binding on all creditors winding up procedure? or members, the company itself and, where the company is wound up, on the liquidator and contributories. Court Liquidation Notices of meetings sent to creditors and members must be A court or official liquidation occurs where a company, or, more accompanied by a statement explaining the effects of the proposals. usually, one of its creditors petitions (makes application to) the This statement must identify any interests of the directors and

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court for an order seeking the winding up of the company and which must be adhered to in the conduct of a creditors’ voluntary the appointment of a liquidator. The principal reason for a court winding up. In contrast to the court liquidation, it is in effect liquidation is the company’s inability to pay its debts. the creditors of the insolvent company who are in control of the Pursuant to the Companies Law, a company is deemed to be unable liquidation process. While the creditors’ meeting will be chaired to pay its debts if: by a director of the insolvent company, the purpose of the meeting is to enable the creditors to consider the director’s “statement of (a) a creditor, by assignment or otherwise, to whom the company is indebted in a sum exceeding five thousand euros (EUR affairs”. The Companies Law requires that the directors make 5,000), leaves at the registered office of the company a available a full statement of the position of the company’s affairs demand requiring the company to pay the sum so due, and the together with a list of the creditors of the company and the estimated company has for three weeks thereafter neglected to pay the amount of their claims. At the creditors’ meeting, the directors will Cyprus sum or to secure or compound it to the reasonable satisfaction be expected to inform the creditors as to the causes of the company’s of the creditor; insolvency. The creditors may also at this meeting appoint an (b) an execution or other process issued by a judgment, decree or alternative liquidator in place of the one which was appointed by the order of any court in favour of a creditor of the company is shareholders of the company in the general meeting. returned unsatisfied in whole or in part; (c) it is proven to the satisfaction of the court that the company 4.4 How are the creditors and/or shareholders able to is unable to pay its debts as they fall due, and, in determining influence each winding up process? Are there any whether a company is unable to pay its debts as they fall due, restrictions on the action that they can take (including the court takes into account the contingent and prospective the enforcement of security)? liabilities of the company; or (d) it is proven to the satisfaction of the court that the value of the An application to the court for the winding up of the company is assets of the company is less than the amount of its liabilities, made by a petition submitted by any one of the following persons: taking into account the contingent and prospective liabilities of the company. (a) the company; (b) a creditor; (c) a contributor; (d) a liquidator of another Member State, as determined by paragraph (b) of However, there are other grounds on which the court may exercise section 2 of Council Regulation (EC) No 1346/2000 on insolvency its jurisdiction to order the winding up of a company and appoint proceedings; (e) a temporary liquidator appointed by the court of a liquidator, including where it is of the view that it is just and another Member State according to section 38 of Council Regulation equitable that the company should be wound up. Accordingly, it (EC) No 1346/2000 on insolvency proceedings; (f) an examiner; or may be possible for a creditor to obtain an order for the winding (g) the official receiver, or all or any one of these persons, together up of a company in circumstances other than its inability to pay its or separately. debts in accordance with the Companies Law. It should be noted that in compulsory liquidations made under As is the case in most jurisdictions, the official liquidation process Section 215 of the Companies Law, at any time after the filing of a is one which is subject to very specific procedural steps as set out in winding up petition and before a winding up order has been issued, the Companies Law and the applicable rules of court. The primary the company or any creditor or contributor may, where any action or aim of these procedures is to ensure that all relevant parties are given proceeding against the company is pending in any district court or the adequate notice of the presentation of the petition and to provide Supreme Court, apply to the court in which the action or proceeding interested parties with the opportunity to have their concerns heard is pending for a stay of proceedings. Where any other action or by the court prior to the court granting any order for the winding up proceeding is pending against the company, the company or any or the appointment of the liquidator. creditor or contributor may apply to the court having jurisdiction. Creditors’ Voluntary Winding Up

In the case of a creditors’ voluntary winding up, the process is again 4.5 What impact does each winding up procedure have on usually initiated by a creditor who will take such steps as it believes existing contracts? Are the parties obliged to perform necessary to prompt the company and its directors to commence the outstanding obligations? Will termination and set-off winding up process on the basis that the company cannot by reason provisions be upheld? of its liabilities continue its business. It should be noted, however, that where a company is insolvent it is usually the directors of the In both a court liquidation and in a creditor’s voluntary liquidation, company who first become aware of the company’s insolvency, and the liquidator will advertise for creditors to prove their claims. Any in such circumstances the directors of the company have a duty to dispute of a creditor’s claim will be determined by the court. take such steps as are necessary to wind up the company (or seek the The benefit of being a secured creditor is of course that they may protection of the court under examinership). rely on their security in a liquidation rather than prove their claims to the liquidator. Where the security is a fixed charge, the assets 4.3 Who manages each winding up process? Is there any subject to such security are not available to meet any expenses or court involvement? claims in the liquidation. The holder of a fixed charge will generally appoint a receiver and the receiver will take control of the assets The creditors’ voluntary winding up will involve the directors subject to the fixed charge and dispose of the same with the view resolving to convene two meetings; namely, a meeting of the to satisfy either in whole or in part the secured creditor’s claim. members of the company, and one of the creditors. At the members’ Any surplus must be paid over the insolvent company. Where the meeting, ordinary resolutions are passed resolving (a) to wind up the security is a floating charge (such as the charge over book debts) company by reason of its insolvency and the inability to continue and a receiver has not been appointed by the holder of the security its business, and (b) to appoint a liquidator. This must be followed prior to the commencement of winding up procedure, the expenses almost immediately by a meeting of the company’s creditors and of a liquidator as well as any preferential creditors must be paid out again the Companies Law prescribes very specific procedural steps of the proceeds of realisation of the security. Any balance is then available to the secured creditor.

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or directorship). In schemes of arrangement and in examiners’ 4.6 What is the ranking of claims in each procedure, proposals, the court, before sanctioning the same, will consider all including the costs of the procedure? possible impacts that these might have on employees.

The order for distribution of the assets in a winding up is as follows: ■ the costs of the winding up (including the fees of the 7 Cross-Border Issues liquidator);

■ preferential debts; 7.1 Can companies incorporated elsewhere restructure ■ any amount secured by a floating charge; or enter into insolvency proceedings in your jurisdiction?

Cyprus ■ the unsecured ordinary creditors; and ■ any deferred debts, such as sums due to members in respect of dividends declared but not paid. Cyprus, as a Member State of the European Union, is bound by the Claims of each succeeding class rank equally among themselves Council Regulation (EC) No 1346/2000 on insolvency proceedings and abate in equal proportions if the assets are insufficient to satisfy (the “Insolvency Regulation”), and the same applies directly. them. Preferential claims comprise of: 7.2 Is there scope for a restructuring or insolvency process commenced elsewhere to be recognised in ■ all government and local taxes and duties due at the date your jurisdiction? of liquidation, having become due and payable within 12 months before that date and, in the case of assessed taxes, overall not exceeding one year’s assessment; and In accordance with the Insolvency Regulation, restructuring or ■ all sums due to employees including wages, accrued holiday insolvency processes commenced in other Member States will pay, deductions from wages and compensation for possible be recognised in Cyprus. It should be noted that the Insolvency personal injury claims. Regulation will be replaced by Regulation (EU) 2015/848 of the European Parliament and of the Council of 20 May 2015 on insolvency proceedings (recast) (Recast Insolvency Regulation). 4.7 Is it possible for the company to be revived in the The Recast Insolvency Regulation will apply to insolvency future? proceedings commencing on or after 26 June 2017. Section 326(1) of the Companies Law provides that where a company has been dissolved, the court may at any time within two 7.3 Do companies incorporated in your jurisdiction years of the date of the dissolution, on an application being made restructure or enter into insolvency proceedings in for that purpose by the liquidator of the company or by any other other jurisdictions? Is this common practice? person who appears to the court to be interested, issue an order, upon such terms as the court thinks fit, declaring the dissolution to In theory, it is possible for a Cypriot company to be restructured or have been void, and thereupon such proceedings may be taken as if enter into insolvency proceedings in other Member States in which the company had not been dissolved. they have their centre of main interests (Council Regulation (EC) No 1346/2000 on insolvency proceedings), but this is very rare. 5 Tax 8 Groups

5.1 Does a restructuring or insolvency procedure give rise to tax liabilities? 8.1 How are groups of companies treated on the insolvency of one or more members? Is there scope No taxation liabilities arise for companies under any of the for co-operation between officeholders? procedures, unless where profits are deemed to arise. Regarding schemes of arrangements in particular, the Income Tax Law Each company is considered a separate legal entity and is subject 118(I)/2002, as amended, provides (sections 26 to 30) that schemes to separate procedures. There is no provision in the Companies of arrangement can be afforded tax exemption upon approval by the Law providing for the consolidation of proceedings by the parent Tax Department. company and its subsidiaries for administrative purposes, nor for the aggregation of assets and liabilities. 6 Employees 9 Reform

6.1 What is the effect of each restructuring or insolvency procedure on employees? 9.1 Are there any proposals for reform of the corporate rescue and insolvency regime in your jurisdiction? In the winding up of a company, all the employees will become redundant. However, employees’ wages and other benefits are The new legislation adopted recently (April 2015) is based on considered as preferential creditors’ claims for the purposes of a the Reform Strategy adopted by the Government in July 2014, liquidation (save claims of employees who are also shareholders which aimed at modernising the insolvency framework to provide or directors of the company; their employment claims may not incentives for repayment and restructuring of debt, allows for a rank as preferential depending on the nature of the shareholding speedier and more efficient rescue and rehabilitation of debtors, and for the recovery of “going concern value”.

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The package consists of five pieces of legislation: (i) amendments the Bankruptcy (Amendment) Law of 2015, allowing for a “fresh to the Companies Law to allow for faster and more cost-effective start” for insolvent debtors; and (v) a Law on Personal Insolvency, liquidation of insolvent, nonviable companies; (ii) insertion of a by reforming the Insolvency Individuals (Personal Plans provision on Examinership in the Companies Law to facilitate the Repayment and Debt Waiver Order) Law of 2015, which allows restructuring and rehabilitation of viable companies; (iii) a Law on for the restructuring of secured and unsecured debts of insolvent Insolvency Practitioners, which establishes a framework for the individuals, implementing provisions for debt relief orders and qualification, licensing and regulation of insolvency practitioners; personal repayment plans for individuals with virtually no income (iv) amendments to modernise the Bankruptcy Law, implementing or assets. Cyprus

Soteris Flourentzos Evita Lambrou Soteris Flourentzos & Associates LLC Soteris Flourentzos & Associates LLC Spiridonos Lambrou, 10, Neapolis Spiridonos Lambrou, 10, Neapolis CY-3106, Limassol CY-3106, Limassol Cyprus Cyprus

Tel: +357 2510 7242 Tel: +357 2510 7242 Email: [email protected] Email: [email protected] URL: www.sflourentzos.com URL: www.sflourentzos.com

Soteris has 12+ years of broad corporate and financial law experience, Evita is a UK-educated lawyer (University of Surrey), and she regularly including nearly nine years at two prominent Cyprus law firms and three deals with all aspects of Cypriot corporate law, insolvency and years at a leading corporate services provider, where he represented investment law matters. and advised major multinational corporations, financial institutions and private equity firms in contentious and non-contentious corporate and financial law cases of great magnitude and scale. Before executing his vision of building his own law firm with a new, innovative business model to accommodate the needs of international equity firms, entrepreneurs and family offices, Soteris was a partner at Soteris Pittas & Co.

Soteris Flourentzos & Associates LLC was founded in January 2015 by Soteris Flourentzos, after having 12+ years of broad corporate and financial law experience at prominent Cyprus law firms, where he represented major multinational corporations, financial institutions and private equity firms in contentious and non-contentious corporate and financial law cases of great magnitude and scale. It is purely a corporate and financial law firm, dedicated and designed for international equity firms, entrepreneurs and family offices looking for an alternative to the big law firm template, avoiding needless overhead and overstaffing costs, but giving the best service.

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Denmark John Sommer Schmidt

Gorrissen Federspiel Morten L. Hans Jakobsen

companies that operate a business in financial difficulties. These 1 Overview rules are founded on ordinary principles of Danish law governing liability for damages. 1.1 Where would you place your jurisdiction on the A board of directors and/or executive officers that intently or spectrum of debtor to creditor-friendly jurisdictions? negligently causes financial injury to a company or its creditors may incur personal liability for damages. When a company becomes Denmark is generally a creditor-friendly jurisdiction. Both formal insolvent, the duties of the management changes from primarily restructuring and bankruptcy proceedings can be initiated by the looking out for the interests of the shareholders to looking out for creditors and both procedures – especially bankruptcy, which is the interests of the creditors. the main instrument when dealing with distressed companies in The directors and the executive officers may incur liability if they Denmark – and are often the final step in a creditor’s debt collection. continue to operate a business at a time where it should be evident that the company is insolvent and that its operations cannot possibly 1.2 Does the legislative framework in your jurisdiction be continued without (further) losses being suffered by the creditors. allow for informal work-outs, as well as formal However, the management is usually allowed certain latitude to test restructuring and insolvency proceedings, and are various solutions in its attempt to restructure the company. each of these used in practice? A debtor is regarded as insolvent if the debtor is unable to meet its obligations as they fall due, unless the inability to pay is considered A restructuring can be achieved either through a formal court-driven to be of a temporary nature. restructuring procedure (in Danish: “rekonstruktion”) or through a voluntary out-of-court restructuring/work-out, typically in the form of a debt composition and often with an equity-related upside 2.2 Which other stakeholders may influence the possibility. company’s situation? Are there any restrictions on the action that they can take against the company? In-court restructuring is regulated in the Danish Bankruptcy Act. It is aimed at supporting attempts to avoid bankruptcy by either a Other stakeholders cannot significantly influence a distressed compulsory composition of the debtor’s debts (restructuring of company’s situation. Most able to do so are the creditors, both the debtor) or a sale of the debtor’s business (restructuring of the secured and unsecured, including employees. business) or a combination of the two. The creditors of a company in financial difficulties may in certain Bankruptcy (in Danish: “konkurs”) – which is the main instrument situations levy execution on the company’s assets in order to collect when dealing with distressed companies in Denmark – is regulated overdue claims and secured creditors can enforce their security in the Danish Bankruptcy Act. In a bankruptcy procedure, an estate interest. However, the issue of a bankruptcy order will stay all is established by order of the Bankruptcy Court and the company is collection efforts including enforcement of securities unless the wound up. This means that all assets are liquidated and the proceeds security is in the form of a pledge which can be enforced without are distributed to the creditors pursuant to a priority ranking of claims. the involvement of the estate. All of the above are used in practice.

2.3 In what circumstances are transactions entered 2 Key Issues to Consider When the into by a company in financial difficulties at risk of Company is in Financial Difficulties challenge? What remedies are available?

Most rules governing avoidance are laid down in the Danish 2.1 What duties and potential liabilities should the Bankruptcy Act. During both bankruptcy and reconstruction directors/managers have regard to when managing a proceedings, transactions may be avoided if they impair the company in financial difficulties? Is there a specific creditors’ general position or result in some creditors obtaining a point at which a company must enter a restructuring or insolvency process? more favourable priority ranking to the detriment of other creditors. Most rules governing avoidance are objective in that transactions may be avoided regardless of whether the debtor was insolvent and The Danish Companies Act contains provisions concerning the regardless of whether the creditors may have had any knowledge liability of the board of directors and the executive officers in

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thereof. However, a subjective rule governing avoidance also exists A “pre-packaged” sale is, in principle, possible under a formal to the effect that transactions may be avoided if the debtor, at the restructuring. However, a pre-packaged sale is, in practice, time of the transaction, was or became insolvent, and the favoured difficult using the restructuring procedure since it is a quite formal creditor had knowledge of both the debtor’s insolvency and the and lengthy procedure, which includes providing information to fraudulent preference. creditors, court hearings with given time intervals and presentation The giving of gifts, payment of unreasonably high salaries, of a plan and the final proposal, which is to be approved by the extraordinary repayments of unsecured debts, and provision of creditors and the court. security (including a floating charge) without a new credit being granted, may be avoided for objective reasons (regardless of whether 3.3 What are the criteria for entry into each restructuring the creditor had knowledge of the preferable nature of the action and procedure? the debtor’s insolvency). The transfer of assets that fraudulently Denmark gives preference to a creditor to the detriment of the other creditors The debtor must be insolvent to enter into a formal restructuring or actions that, in general, results in the other creditors’ positions procedure. A debtor is regarded as insolvent if the debtor is unable being impaired may be subjectively avoidable (if the creditor knew to meet its obligations as they fall due, unless the inability to pay is or should have known about the preferable nature of the action and considered to be of a temporary nature. The final decision, which the debtor’s insolvency). is made by the court, is based on an assessment of the debtor’s The ordinary limitation period for avoidance is three months. liquidity (a cash flow test). Whether the debtor’s liabilities exceed However, as regards transactions carried out with connected its assets is not generally of importance. persons, the limitation period is six to 24 months. For avoidance under the subjective rule, in principle, no time limit applies. 3.4 Who manages each process? Is there any court involvement? 3 Restructuring Options A restructuring does not, as such, establish an estate to be administered and the debtor remains in possession. However, an 3.1 Is it possible to implement an informal work-out in administrator (in Danish “rekonstruktør”), typically a lawyer, is your jurisdiction? appointed by the Bankruptcy Court with the task of running the restructuring process and supervising the management during Informal out-of-court restructurings are possible in Denmark and the process. In addition, an accountant (in Danish “tillidsmand”) are typically done in the form of a debt composition and often with is appointed by the Bankruptcy Court with the task of preparing an equity-related upside possibility. and approving the economic/financial material required for and A restructuring that includes the shareholders can only be effected supporting the restructuring procedure. voluntarily by the use of corporate rules. During a restructuring, the shareholders, the board of directors and the executive officers retain their rights and usual duties and responsibilities for running the company, respectively. However, 3.2 What formal rescue procedures are available in your jurisdiction to restructure the liabilities of distressed as the debtor is presumed insolvent, the management has a duty companies? Are debt-for-equity swaps and pre- to also safeguard the creditors’ interests and the court-appointed packaged sales possible? administrator must, among other things, supervise the management and make sure it acts accordingly. Also, the management is not A formal restructuring procedure regulated under the Danish entitled to carry out material transactions without the approval of Bankruptcy Act is available in Denmark. the administrator. In a formal restructuring, focus is on restructuring the economic If deemed necessary by the administrator or the creditors, the activity, i.e. production, jobs, etc. That can be done either through Bankruptcy Court can decide to replace the board of directors and a compulsory composition of the debts (restructuring of the debtor), executive officers of the debtor (it must be a legal entity and not a after which the debtor becomes solvent and resumes ordinary personal debtor/business) with the administrator. This means that operations, or through a sale of the debtor’s activities and assets the administrator takes control of the company and assumes the (restructuring of the business), after which the debtor (the legal duties of the management. entity) is liquidated through a formal bankruptcy procedure. This A restructuring procedure is court-sanctioned, and the final also means that an initiated restructuring procedure cannot be restructuring proposal must be approved by the court, which, withdrawn, and it will, accordingly, end up in either a successful however, will always happen if the process has been following the compulsory composition (with or without a prior transfer of the rules laid down in the Bankruptcy Act and the outcome is equitable. business) or in liquidation bankruptcy proceedings. The process, as such, is not supervised by the court, but is in all It is not possible under a formal restructuring – or any other formal aspects run and controlled by the debtor and/or the appointed Danish insolvency procedure – to include the shareholders, e.g. make administrator. a debt-for-equity swap or the like. Either the shareholders remain in possession of their shares in the company after restructuring of 3.5 How are creditors and/or shareholders able to the debts or the share value is lost when the company, after a sale influence each restructuring process? Are there any of the business, enters into liquidation bankruptcy. Therefore, it is restrictions on the action that they can take (including only possible to make a restructuring that includes the shareholders the enforcement of security)? Can they be crammed on a voluntary basis by the use of corporate rules, e.g. by entering down? into an agreement involving debt-for-equity swaps or the dilution of existing shareholders along with a new injection of funds as part of The administrator must present a proposal to the creditors on how to an out-of-court voluntary restructuring. restructure the debtor/the business (compulsory composition of the debtor’s liabilities or a sale of the debtor’s business, or a combination

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of the two) and the creditors will, at a meeting in the Bankruptcy (counter)claim at a time where the insolvency was imminent and in Court, vote to approve or reject the proposal. The creditors – one instances where a corresponding payment would be voidable. class of all unsecured creditors – will vote on amounts only and the proposal is considered adopted unless rejected by a majority of the 3.7 How is each restructuring process funded? Is any creditors (as per a claim amount tally). To reject the proposal, more protection given to rescue financing? than 50 per cent of creditors (as per a claim amount tally) present and participating in the vote must vote against the proposal. If the Under a formal restructuring, the debtor may use unencumbered proposal is approved, it will be binding on all creditors regardless assets, cash and proceeds from operating its business to pay the of whether they have voted against or participated in the process at costs of the procedure. The debtor is also allowed to take out loans all. Since (i) all privileged debts must be paid in full, (ii) all secured against security in the assets.

Denmark debts are left unaltered, (iii) all subordinated debts are lost (only debt which is subordinated to all other creditors of the debtor), and Further, it is possible for the debtor to obtain a loan from the Danish (iv) the shares are not involved, consent is needed from the general Employees’ Guarantee Fund of up to DKK 80,000 net per employee unsecured creditors only. specifically for the payment of net wages and salaries. During formal restructuring, it is generally not possible for Finally, a filing creditor must put up DKK 30,000 as security to mortgagees to enforce their security. This ban is linked to an cover the costs of the restructuring procedure if the assets of the obligation for the debtor to pay current mortgage instalments and debtor cannot cover the costs. interests. However, the debtor can ask the Bankruptcy Court to Rescue financing is not specifically regulated in Danish insolvency make a final and binding evaluation of some mortgaged assets – law. However, all obligations – trade and financial, including rescue however, an important exception is real estate – and based on financing – taken on by a company under formal restructuring this evaluation to divide the mortgaged claim into a secured and with the acceptance of the court-appointed administrator gets a an unsecured claim. Based on this evaluation/division, the debtor preferential priority in the ranking of creditors and thereby some is only obligated to pay mortgage instalments and interests on the protection in a possible following bankruptcy proceeding. secured part (the part of the debt not covered by the security is hereafter ranked and dealt with as an unsecured claim). 4 Insolvency Procedures During a restructuring procedure, unsecured creditors cannot levy execution on the company’s assets to satisfy their claims. This applies to all unsecured claims, irrespective of whether the claim 4.1 What is/are the key insolvency procedure(s) available has arisen before or during the procedure. to wind up a company? Since the debtor must be insolvent to enter into the restructuring procedure, the shareholders have no vote and cannot influence the Bankruptcy is the main instrument within the insolvency process. proceedings system in Denmark. In a bankruptcy procedure, the debtors’ assets are liquidated and the proceeds are distributed to the creditors pursuant to a priority ranking of claims. 3.6 What impact does each restructuring procedure have on existing contracts? Are the parties obliged to perform outstanding obligations? Will termination and 4.2 On what grounds can a company be placed into each set-off provisions be upheld? winding up procedure?

A debtor under formal restructuring is entitled to affirm or to reject The debtor must be insolvent to enter into a bankruptcy procedure. executory contracts. In the event an agreement is rejected, the other A debtor is regarded as insolvent if the debtor is unable to meet its party to the contract may terminate the contract and file a claim for obligations as they fall due, unless the inability to pay is considered consideration or damages as an ordinary unsecured claim. to be of a temporary nature. The final decision, which is made by If the debtor decides to affirm a contract, the debtor will be bound the court, is based on an assessment of the debtor’s liquidity (a cash by its terms, and claims held/filed by the other party in respect flow test). Whether the debtor’s liabilities exceed its assets is not to the affirmed agreement rank as a pre-preferential claim in the generally of importance. restructuring (compulsory composition). However, the debtor has a right to terminate the affirmation of the agreement with one month’s 4.3 Who manages each winding up process? Is there any notice. This means that only claims made up to, and including, the court involvement? one-month period ranks as a pre-preferential claim, while the rest of the notice period will rank as unsecured. Bankruptcy is a court-driven procedure. An estate is established by If the debtor has entered into contracts of a continuing nature with order of the Bankruptcy Court and the Bankruptcy Court appoints unusually long notice periods, the debtor and the other contracting a trustee: typically a lawyer that replaces the board of directors and party may terminate the agreement with an ordinary or reasonable the executive officers. The court-appointed trustee gains full control notice, thereby reducing the unsecured claims. of the debtor and is fully responsible for running the bankruptcy A creditor’s due claims incurred prior to the restructuring may be set procedure. off against the debtors claims also incurred prior to the restructuring. Similarly, due claims incurred after the restructuring may be set off 4.4 How are the creditors and/or shareholders able to against claims also incurred after the restructuring. In contrast, a influence each winding up process? Are there any creditor cannot set off claims incurred prior to restructuring against restrictions on the action that they can take (including the debtor’s claims incurred after the restructuring. However, there the enforcement of security)? is a general access to effect set off against connected claims. The Bankruptcy Act contains provisions restricting the access to During a bankruptcy procedure, it is in principle possible for set off claims, e.g. where one of the debtor’s debtors acquires a mortgagees and other secured creditors with a non-avoidable

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mortgage to enforce their security interest. If the claims are and related income tax claims, etc., will be met as preferential ordinary mortgage claims, realisation of the mortgaged assets must claims. After the employee claims, certain supplier claims, i.e. be done in cooperation with the estate. However, if the estate within supplier claims for duties on dutiable goods that must be settled by six months after the issue of the bankruptcy order has not sold the the supplier regardless of the fact that the buyer is bankrupt, will property or submitted a petition for a forced sale, any mortgagee also be met as preferential claims. After the preferential claims with an overdue claim can demand that the estate effects a forced listed above, all other claims, the so-called unsecured claims, are sale without undue delay. met. Finally, after the unsecured claims, deferred claims such as Pledged assets, to the contrary, can be realised directly by the interest on unsecured claims and fines, etc. will be satisfied in an secured creditor without the involvement of the estate. order of priority. After the issue of a bankruptcy order, unsecured creditors cannot Each claim of each group shares in equal proportions and each levy execution on the debtor’s assets to satisfy their claims. This claim of a group must be paid in full before any claims in the next Denmark applies to all claims, irrespective of whether the claim has arisen group receives any dividend. Therefore, only in very rare cases will before or during the relevant procedure. deferred claims receive dividends. The shareholders have no influence on the procedure as their shares Claims secured by mortgage, or in other ways, will be covered to the are of no value. extent that the security provided suffices. If the security provided does not fully cover the secured claim, the uncovered part of the claim will be an unsecured claim. 4.5 What impact does each winding up procedure have on existing contracts? Are the parties obliged to perform outstanding obligations? Will termination and set-off 4.7 Is it possible for the company to be revived in the provisions be upheld? future?

The bankruptcy estate is entitled to affirm or to reject executory After two weeks, a bankruptcy order is final and cannot be appealed contracts. In the event an agreement is rejected, the other party or withdrawn. The debtor can hereafter only be revived if all to the contract may terminate the contract and file a claim for creditors as well as the costs of the bankruptcy procedure are paid consideration or damages as an ordinary unsecured claim in the in full. bankruptcy estate. If the estate decides to affirm a contract, the estate will be bound by 5 Tax its terms, and claims held/filed by the other party in respect to the affirmed agreement rank as a pre-preferential claim in the estate. However, the bankruptcy estate or a company in restructuring has a 5.1 Does a restructuring or insolvency procedure give right to terminate the affirmation of the agreement with one month’s rise to tax liabilities? notice. This means that only claims related to the period up to, and including, the one-month notice period ranks as a pre-preferential Companies in bankruptcy are taxed according to the Danish claim, while the rest of a notice period will rank as unsecured. Bankruptcy Tax Act. The taxable income is computed in compliance If the debtor has entered contracts of a continuing nature with with the ordinary tax rules. The tax authorities will determine to unusually long notice periods, the estate and the other contracting what extent a positive income in the bankruptcy estate is subject party may terminate the agreement with an ordinary or reasonable to tax. Often bankrupt companies will have suffered significant notice, thereby reducing the unsecured claims. losses during the years preceding the bankruptcy that can be set off against a positive income during the bankruptcy procedure, and A creditor’s claims incurred prior to the bankruptcy order may be set they therefore rarely have a net positive income. Commonly, the off against the debtors’ claims also incurred prior to the bankruptcy tax authorities will therefore decide that a bankruptcy estate is not order. Similarly, claims incurred after the bankruptcy order may liable to tax. be set off against claims also incurred after the bankruptcy order. In contrast, a creditor cannot set off claims incurred prior to the A debtor under restructuring is subject to the ordinary tax rules. bankruptcy order against the debtors’ claims incurred after the bankruptcy order. However, there is a general access to effect set off against connected claims. 6 Employees The Bankruptcy Act contains provisions restricting the access to set off claims, e.g. where one of the debtor’s creditors acquires a 6.1 What is the effect of each restructuring or insolvency (counter)claim at a time where the insolvency was imminent and in procedure on employees? instances where a corresponding payment would be voidable. During both bankruptcy and restructuring, the trustee/administrator must, within two weeks, decide whether employment agreements 4.6 What is the ranking of claims in each procedure, will be affirmed or rejected. If the bankruptcy estate or the debtor including the costs of the procedure? under restructuring affirms an employment agreement, it will be bound by the terms of the agreement, including the provisions The Danish Bankruptcy Act governs the ranking of claims. Pre- concerning notice, etc. However, particular provisions allow the preferential claims, i.e. claims arising during, or in connection with, estate or the debtor to adjust very long periods of notice to an the administration of the bankruptcy estate (costs of the procedure), ordinary or reasonable period of notice. If the bankruptcy estate or will be met before all other claims according to an order of priority. the debtor under restructuring decides not to affirm an employment Next, the secondary pre-preferential claims concerning costs agreement, the employee is entitled to cancel the employment incurred in an attempt to restructure the company and obligations immediately and file a claim with the estate for any unpaid salaries undertaken with the approval of the administrator during a formal – both already earned and in the notice period – as well as other restructuring procedure will be met. Thereafter, all employee claims benefits, e.g. holiday allowance, etc.

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During both bankruptcy and restructuring, employees whose salaries are paid in arrears are entitled to demand that the company 7.3 Do companies incorporated in your jurisdiction provides security for the first remuneration due from time to time. restructure or enter into insolvency proceedings in other jurisdictions? Is this common practice?

7 Cross-Border Issues In principle, nothing prevents a Danish company from seeking a restructuring or entering into insolvency proceedings in another jurisdiction. However, as mentioned under question 7.2 above, 7.1 Can companies incorporated elsewhere restructure Denmark is not party to any international agreements/regulation on or enter into insolvency proceedings in your insolvency matters and Danish courts will generally not recognise jurisdiction? foreign proceedings. Consequently, Danish incorporated companies Denmark typically do not seek a restructuring or enter into insolvency A company must either be incorporated in Denmark or be engaged proceedings in other jurisdictions. However, during the last few in commercial activities primarily in Denmark (test equalling years, Danish companies have used UK Schemes of Arrangement. the COMI test of the EIR) in order to enter into bankruptcy or restructuring proceedings in Denmark. 8 Groups

7.2 Is there scope for a restructuring or insolvency process commenced elsewhere to be recognised in 8.1 How are groups of companies treated on the your jurisdiction? insolvency of one or more members? Is there scope for co-operation between officeholders? The EC Insolvency Regulation (EIR) that came into effect on 31 May 2002 has not been implemented in Denmark. Moreover, There is no regulation or the like on how to deal with group Denmark has not imported the rules in the UNCITRAL Model Law insolvencies under Danish law. Therefore, each member of an on Cross-Border Insolvency. Consequently, the national Danish insolvent group is in principle dealt with separately; however, rules will apply to a foreign process. In principle, bankruptcy normally – provided that all group companies are incorporated in proceedings initiated in another jurisdiction will not exclude a Denmark – the same trustee will be appointed for all group companies. creditor from levying execution on the debtor’s assets in Denmark. With respect to multijurisdictional group insolvencies, there This also applies to foreign insolvency procedures similar to the is generally no scope for co-operation with other (foreign) Danish restructuring procedure. Also, provided that the Danish officeholders since Denmark is not party to any international rules on venue are met, cf. question 7.1 above, there should be agreements/regulation on insolvency matters and since Danish nothing preventing independent Danish bankruptcy proceedings courts, therefore, generally will not recognise foreign proceedings. over a debtor’s assets in Denmark, regardless of whether bankruptcy proceedings are already initiated in another jurisdiction. 9 Reform However, as regards the Nordic countries, i.e. Denmark, Norway, Sweden, Finland and Iceland, Denmark has acceded to the Nordic Bankruptcy Convention. According to the Convention, a bankruptcy 9.1 Are there any proposals for reform of the corporate opened in one Nordic country comprises all assets and liabilities rescue and insolvency regime in your jurisdiction? belonging to the debtor in the other Nordic countries. The restructuring rules in the Danish Bankruptcy Act are subject to a law surveillance programme conducted by the Danish Ministry of Justice. The programme entails the monitoring of various pieces of legislation with the purpose of evaluating the effectiveness and adequacy of the legislation in question. Work to this effect is under way; however, for the time being, no suggestions for the amendment of the restructuring rules in the Bankruptcy Act have been put forward.

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John Sommer Schmidt Morten L. Hans Jakobsen Gorrissen Federspiel Gorrissen Federspiel Silkeborgvej 2 Axeltorv 2 DK-8000 Aarhus C DK-1609 Copenhagen V Denmark Denmark

Tel: +45 24 28 69 10 Tel: +45 33 41 41 71 Email: [email protected] Email: [email protected] URL: www.gorrissenfederspiel.com URL: www.gorrissenfederspiel.com

John Sommer Schmidt is a partner and is overall head of Gorrissen Morten L. Hans Jakobsen is a partner in Gorrissen Federspiel’s Denmark Federspiel’s Insolvency group. He has extensive experience in all Insolvency and Transport Finance practices and heads the aspects of Danish bankruptcy and restructuring law, and he acts as Copenhagen Restructuring and Insolvency department and the insolvency administrator, bankruptcy trustee and liquidator. John Aviation Practice Group. Morten concentrates on the handling of Sommer Schmidt is official liquidator/trustee with the Bankruptcy Court distressed companies and on advising the transport sector with in Aarhus. He also advises clients on the establishment, securing and special focus on aviation, aircraft financing and ship financing but enforcement of all kinds of creditors’ rights. John Sommer Schmidt also financing in general. Morten’s insolvency practice derives from is a 2001 graduate from Aarhus University. He was admitted to the his finance background and is particularly centred on restructuring Danish Bar in 2004 and obtained right of audience before the Danish and work-outs, but also includes all other aspects of bankruptcy and High Court in 2007. John Sommer Schmidt is a 2009 LL.M. graduate insolvency law, including dispute resolution and litigation. As regards of University of California, Los Angeles, and holds a B.Sc. in Business transport finance, Morten renders advice to airlines, aircraft lessors, Administration and Law from Aarhus School of Business. large shipping companies and banks. Morten is a 1997 graduate from Aarhus University, qualified as a lawyer in 2000, was seconded to Sinclaire Roche Temperley and Holland & Knight in New York and has been a partner of the firm since 2007.

Gorrissen Federspiel is among the leading Danish law firms and has strong international relations. We represent major Danish and foreign businesses and financial institutions. Our aim is to provide advice at the highest professional and ethical level, tailored to the client’s individual situation and requirements. Our practice areas cover all branches of Danish and EU commercial law. We maintain close relations with leading lawyers worldwide and we are, at short notice, able to provide our clients with professional assistance wherever they need it. We are a fully integrated law firm that works internationally. We have offices in Copenhagen and Aarhus. More than half of our more than 400 employees are lawyers who possess both broad educations and exactly the competencies relevant to our clients.

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England & Wales Tom Vickers

Slaughter and May Nicky Ellis

1 Overview 2 Key Issues to Consider When the Company is in Financial Difficulties 1.1 Where would you place your jurisdiction on the spectrum of debtor to creditor-friendly jurisdictions? 2.1 What duties and potential liabilities should the directors/managers have regard to when managing a The restructuring and insolvency regime in England & Wales is company in financial difficulties? Is there a specific perceived as extremely effective, by both creditors and debtors. point at which a company must enter a restructuring or insolvency process? English law has historically been senior secured creditor-friendly, and despite some slight erosion of the position, this remains the When a company’s financial situation deteriorates, the focus of case. There is no prohibition on enforcing security or terminating the directors’ duties shifts away from shareholders and towards contracts when a debtor is in distress. The holder of a comprehensive creditors. There is no bright line test to determine the precise point security package has various enforcement options which give them at which the interests of creditors take precedence. However, it is significant leverage in restructuring negotiations, as does their clear that once the company is of doubtful solvency, the directors position at the top of the waterfall of payments that applies in a have a duty to consider the interests of creditors as a whole. formal insolvency process. This does not necessarily equate to a decision to cease trading: The procedures available are extremely flexible. Consequently, English law does not fix a specific point at which that must happen. England & Wales is also an attractive restructuring and insolvency The timing of the decision will largely be driven by the “wrongful jurisdiction for debtors. So much so, that it has become common trading test”, which applies when the directors know, or ought practice for companies incorporated elsewhere to seek to restructure reasonably to have concluded, that there is no reasonable prospect here. that the company will avoid going into insolvent liquidation or administration. At that point, a director must take every step with 1.2 Does the legislative framework in your jurisdiction a view to minimising the potential loss to the company’s creditors. allow for informal work-outs, as well as formal What these steps will be will depend on the particular circumstances. restructuring and insolvency proceedings, and are In some cases, the directors may conclude that continuing to trade each of these used in practice? is the best way to minimise losses, even though the company is insolvent. Informal workouts are often achieved in England & Wales on a Prudent directors will seek advice on these and other potential consensual basis. Inevitably there are situations in which this will types of liability (such as claims for fraudulent trading, or breach not be possible, for example in the face of significant opposition, of other duties) at the earliest possible opportunity. Breach by a or where one or more creditors cannot be identified. In such cases, director of their duties can lead to personal liability and possible a number of formal procedures may be used, either to rescue the disqualification from being able to act as a director. company/its business or to wind up its affairs. Successful claims against directors are rare, but delinquent directors There is no specific restructuring procedure in England & Wales. are currently in the spotlight. The regime has been bolstered However, schemes of arrangement (“schemes”) and pre-packaged recently, including by expanding the grounds for disqualification administration sales (“pre-packs”) have proved effective tools to and allowing for wrongful and fraudulent trading claims to be restructure viable distressed companies in recent years. assigned to third parties. It has yet to be seen whether a market in When rescue is not possible, liquidation and administration are the claims against directors will develop, and what effect this will have procedures used to wind up a company. on their behaviour.

2.2 Which other stakeholders may influence the company’s situation? Are there any restrictions on the action that they can take against the company?

Preserving security rights and freedom of contract are central to the legal framework in England & Wales. There is currently no

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moratorium preventing counterparties from seeking to recover The same undervalue definition applies in respect of transactions debts, enforce security or terminate contracts before a company defrauding creditors, but there is no prescribed period within which enters an insolvency process. Contractual arrangements often a challenge must be mounted and the company does not have to be provide for such rights to be exercisable well before entry into a subject to an insolvency process. However, such a claim is harder formal process and this allows creditors to use the threat of action to to establish because the transaction must have been entered into exert pressure on the directors to take a particular course. to put the assets beyond the reach of the claimant, or of otherwise Secured creditors are in a particularly strong position because they prejudicing their interests. are able to exercise (or threaten to exercise) significant rights once their charge has become enforceable, which could be well before 3 Restructuring Options the company is insolvent. Where a creditor has a fixed charge over certain assets it should be possible to appoint a receiver to sell those assets. Creditors with a comprehensive security package, including 3.1 Is it possible to implement an informal work-out in a floating charge over substantially all of the debtor’s assets, have your jurisdiction? England & Wales the right to place the company into a formal procedure (typically administration). Informal workouts in England & Wales usually take the form of If a distressed company operates a defined benefit pension scheme entirely consensual deals. It is possible for senior secured creditors that is in deficit, the occurrence of certain insolvency-related events to exercise their rights under increasingly sophisticated intercreditor can have a profound effect: a debt will be created from the company agreements to implement a restructuring, but in practice this usually to the scheme; employees may be entitled to claim from the Pensions happens as part of a pre-pack. Protection Fund (the “PPF”); and the Pensions Regulator (“tPR”) Even when it is not necessary to resort to a formal procedure, the may exercise wide powers to seek financial support for the scheme possibility of doing so will likely have been considered as part of from companies and individuals connected with the company. the contingency planning process and is often used as a stick to Consequently, the trustees of that scheme and the PPF and tPR will encourage agreement to be reached. expect to be involved in any restructuring negotiations. Informal arrangements such as lock-up and standstill agreements are often used to provide breathing space while the restructuring is 2.3 In what circumstances are transactions entered negotiated. into by a company in financial difficulties at risk of challenge? What remedies are available? 3.2 What formal rescue procedures are available in your jurisdiction to restructure the liabilities of distressed When a company is in distress, the directors will likely come companies? Are debt-for-equity swaps and pre- under pressure to dispose of non-core assets, adjust payment terms, packaged sales possible? repay loans and/or renegotiate contractual arrangements. Such transactions may be vulnerable to challenge. For example, an A number of restructuring tools are available in the UK, but the two administrator or liquidator may be able to apply to the court for an that have been used most effectively in recent years are schemes order to effectively unwind certain types of transaction, or require and pre-packs. some other appropriate remedy if: Schemes. A scheme is an extremely flexible tool, which can be used ■ the transaction occurred within specified periods before the to implement a variety of arrangements between a company and its company entered administration or liquidation (between six creditors or its shareholders. In essence, all that is required is some months and two years, depending on the type of transaction); element of give and take. This means that schemes can be used to and simply amend and extend debt facilities while a wider restructuring ■ the company was insolvent (on a cash flow or balance sheet is agreed, or to implement a complex restructuring, involving debt basis) at the time, or became insolvent as a result of the transfers and debt for debt/equity swaps. transaction. Pre-packs. Where a pre-pack is proposed, the sale of a distressed This will be a matter for counterparties to consider. It will also be company’s business is negotiated before it enters administration, and relevant to the directors because entry into such a transaction could executed shortly after an administrator is appointed. The aim is to be treated as a breach of duty, in particular if the transaction is at an minimise the delay, costs and destruction of value often associated undervalue or is a preference. with entry into an insolvency process. The other key advantage is Preferences. A preference is given if the company does anything, that debts owing to out-of-the-money junior creditors can be left or allows anything to be done, that has the effect of putting a creditor behind in the insolvent company, as long as provision was made for or a guarantor of the company’s debts in a better position than they the release of guarantees and/or security. would otherwise have been in if the company went into insolvent Company voluntary arrangements. Company voluntary liquidation. The repayment of an unsecured debt at maturity could arrangements are another way of implementing an arrangement fall within this wide definition. However, the company must also between a company and its creditors and shareholders. They have have been influenced by a desire to produce the preferential effect in enjoyed some success, particularly in the retail sector. However, order for the transaction to be vulnerable. This is presumed to be the they have been less popular than schemes and pre-packs in practice, case if the transaction was with a connected person. largely because they cannot be used to bind secured creditors Transactions at an undervalue. If a company enters into a without their consent. transaction where it receives no consideration, or consideration that is of significantly less value than the consideration that it provides, 3.3 What are the criteria for entry into each restructuring this is a transaction at an undervalue. A useful defence is available procedure? where the transaction was entered into in good faith, to carry on the company’s business and there were reasonable grounds for Schemes. Schemes are a feature of company law. Insolvency is believing that it would benefit the company. not a pre-requisite for their use, which allows for restructuring at an

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earlier stage. The state of the company’s finances may nonetheless legal rights. A majority in number, representing 75% in value of be relevant, for example when considering the classes in which those present and voting in each class, must vote in favour of the creditors should vote. scheme. This is lower than the threshold for consent prescribed in Pre-packs. The rules governing the commencement of many financing documents (which often require unanimous or near administration (whether for a pre-pack or otherwise) are more unanimous consent for modifications to the most fundamental terms prescriptive. An administrator may be appointed: of the contract, such as pricing, maturity and amount), which is one of the reasons why schemes are used in practice. It is not possible ■ by a qualifying floating charge holder when the charge has become enforceable (which could be well before the to cram down an entire class (unless a scheme is combined with a company is insolvent); or pre-pack), which may be a limitation in some cases. Although a scheme is not an insolvency process, it will often trigger termination ■ by the company, the directors or a creditor, when the company is, or is likely to become, insolvent (on a cash flow or balance or enforcement rights. This can give dissentient creditors leverage sheet basis). because there is no moratorium, although a court may be prepared

England & Wales to stay specific hostile action where a scheme is well advanced and In either case, the administrator-in-waiting must be satisfied that one has reasonable prospects of success. of three statutory objectives is achievable. The primary objective is the rescue of the company as a going concern. In practice, it Pre-packs. In the case of a pre-pack it will usually be necessary is far more common for the administrator to sell the company’s to obtain the support of secured creditors in order for the business or assets, whether by way of pre-pack or otherwise, than administrator to be able to deal with any secured assets. However, to see “trading” administrations in which the primary objective of the administrator is not otherwise required to notify creditors in company rescue is being pursued. advance, and unsecured creditors are unlikely to have been informed of the transaction before it takes place. Their only opportunity to influence the restructuring will be to challenge the administrator’s 3.4 Who manages each process? Is there any court decision after the sale. Industry standards encourage administrators involvement? to market the business, to obtain robust valuations where possible, and to furnish creditors with details after the event. However, Schemes. A scheme is usually proposed by the company itself. successful challenges are rare. This happens after a number of weeks, or months, have been spent Combination. When used in combination, the scheme and pre- negotiating with key creditors, and confirming their support in the pack become an even more powerful restructuring tool, which form of lock-up agreements. Two court hearings are required. At the first hearing, the judge will consider whether to grant permission for can be used to cram down a class of dissentient junior creditors by meetings of creditors to be convened to vote on the scheme. After stranding them in an insolvent company and transferring its business those meetings have taken place, the judge will consider whether to to a newco, usually owned by the senior lenders. sanction the scheme, having taken account of a number of factors, including fairness. Once sanctioned and delivered to the Registrar of 3.6 What impact does each restructuring procedure have Companies, the scheme is binding on all scheme creditors, with limited on existing contracts? Are the parties obliged to scope for appeal. A sophisticated judiciary and growing body of case perform outstanding obligations? Will termination and law allow for a relatively fast and predictable process in many cases. set-off provisions be upheld? Pre-packs. In the case of a pre-pack it will also be necessary to secure the support of secured creditors in advance. The Contractual provisions allowing a party to terminate if the other administrator-in-waiting will also be involved in negotiations. party enters into a restructuring or insolvency process will be upheld He/she is subject to a number of duties (most notably to act in in all but exceptional cases (such as contracts relating to essential the interests of creditors as a whole) and will therefore need to be supplies). Set-off provisions also usually remain enforceable until entirely comfortable with the proposal. Additionally, if the pre-pack a company has entered into a winding up process (see question 4.5 involves connected parties, the prospective purchaser may choose below). to make an application to the ‘pre-pack pool’, an independent Where a scheme is proposed, there is no effect on existing contracts body of experienced business people, who will consider whether until it has been sanctioned and delivered to the Registrar of the proposed transaction is reasonable. The pool was introduced to Companies. At that point, it is binding on all scheme creditors address concerns about fairness and transparency in connected party and operates to amend their contracts according to the terms of the pre-packs, but applications are not compulsory and uptake has not scheme. been particularly high. The administration appointment itself can In contrast, the appointment of an administrator gives rise to a either be made on application to the court or by filing the relevant moratorium, which broadly prohibits the commencement of legal appointment papers with the court to document an out-of-court action or the enforcement of security against the company (but not appointment. In complex cases and/or those with a cross-border the exercise of contractual termination or set-off rights; see question element, it may be preferable to seek a court appointment. Once 4.5 below). This gives an administrator time to get to grips with the appointed, the administrator has wide-reaching powers to manage business and provides breathing space to try to trade the company the administration process, but may seek directions from the court. out of difficulties, but is of less importance in a pre-pack, given that the company’s assets are sold immediately. 3.5 How are creditors and/or shareholders able to influence each restructuring process? Are there any 3.7 How is each restructuring process funded? Is any restrictions on the action that they can take (including protection given to rescue financing? the enforcement of security)? Can they be crammed down? A restructuring will inevitably give rise to significant costs. Where Schemes. For a scheme to succeed, it needs the support of the possible these will be met out of the company’s existing funds, but requisite number of affected creditors. Those creditors vote on there will often be a need for new financing. There is no specific the scheme in classes defined by reference to the similarity of their provision which gives new financing super priority status in

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England & Wales. In the case of informal workouts or schemes, it appointment and may be able to influence the liquidator’s actions (see may be possible to achieve this contractually. If a company enters question 4.4 below). administration, new funding may be afforded priority over other claims as an expense of the administration. However, if the lender 4.4 How are the creditors and/or shareholders able to is to have priority over existing fixed charge holders, the consent of influence each winding up process? Are there any any other lenders with comprehensive security packages is required. restrictions on the action that they can take (including the enforcement of security)? 4 Insolvency Procedures Secured creditors. Unlike in an administration (see question 3.5 above), the rights of secured creditors are largely unaffected by any 4.1 What is/are the key insolvency procedure(s) available liquidation process. They are free to enforce their security, including to wind up a company? by appointing a receiver. They also have the option to vote on and

prove in the winding up if they choose to do so (for example, if England & Wales Liquidation. Liquidation is the primary procedure used to wind up they are undersecured). In terms of priority on insolvency, there is companies in England & Wales. It can take a number of forms, but an important distinction between the holders of fixed charges, who in each case the liquidator is under a duty to collect in and realise the sit at the top of the waterfall, and the holders of floating charges, assets of the company for distribution to its creditors, and once this whose claims are postponed to a number of prior ranking claims has been done, the company will be dissolved. (see question 4.6 below). Administration. Administration is also frequently used as a type of Unsecured creditors. There is a stay on bringing or continuing winding up procedure. It is possible for an administrator to make legal proceedings against a company that is in liquidation. In a distributions to creditors, in broadly the same way as a liquidator compulsory liquidation this is automatic, but the liquidator in would do. Where there are no assets available for distribution, a a creditors’ voluntary liquidation must apply to the court for company may move straight from administration to dissolution. protection. This is likely to have the greatest effect on creditors who do not have recourse to secured assets. The options open to such unsecured creditors are relatively limited. Once appointed, 4.2 On what grounds can a company be placed into each the liquidator is able to exercise his powers without their sanction. winding up procedure? The key role of unsecured creditors is to prove for their debts in the liquidation (if there are sufficient assets for a distribution Liquidation. A liquidator can be appointed where the company is, to be made). However, the liquidator may seek the views of or will become, unable to pay its debts, but is not restricted to cases creditors, particularly given that they have the right to challenge of insolvency. A solvent liquidation may be commenced to wind up his remuneration. a company’s affairs if the directors are able to make a declaration confirming the company’s solvency. It may also be possible for a 4.5 What impact does each winding up procedure have on solvent company to be wound up if it can be shown to the court that existing contracts? Are the parties obliged to perform it would be just and equitable to do so. outstanding obligations? Will termination and set-off Administration. In the case of administration, the entry criteria provisions be upheld? are the same, regardless of whether it is being used as a rescue or winding up procedure (see question 3.3 above). Parties generally remain free to exercise termination rights that are triggered by a counterparty’s entry into winding up proceedings, except in relation to certain essential supplies (such as IT, water, 4.3 Who manages each winding up process? Is there any gas, electricity and communications). However, there are a number court involvement? of ways in which the commencement of winding up proceedings may have an effect on contracts, including: In liquidation, one or more liquidators are appointed and take over the management of the company to realise its assets for Disclaimer. A liquidator has the power to unilaterally terminate, distribution. The powers of a liquidator are narrower than those of or disclaim, onerous contracts to avoid incurring future liabilities. an administrator (see question 3.4 above); for instance, a liquidator This has no effect on liabilities that have already accrued and if the can only trade the business in very limited circumstances because counterparty suffers loss as a result of a disclaimer, it may claim in rescue is not the objective. the winding up. Liquidation can take a number of forms. The level of court Non-performance. An administrator does not have a power of involvement varies, particularly in relation to the appointment disclaimer, but may delay, or decide not to perform a contract if process. performance would not be in the interests of the creditors and would impede him from achieving the objective of the administration. The Compulsory liquidation. A compulsory liquidation is commenced counterparty may seek an order for specific performance, but in by the court if it is satisfied that the company is unable to pay its many cases this will not be appropriate and they will simply have an debts, or that it would be just and equitable to do so. A petition to unsecured claim against the company for any loss incurred. court can be made by the company, the directors, any creditor or any person liable to contribute to the assets of the company in the event Set-off. In a liquidation, or in an administration in which the of a winding up. administrator has given notice that distributions are to be made to creditors, mandatory insolvency set-off applies if there have been Voluntary liquidation. In contrast, a voluntary liquidation is mutual dealings between the company and a creditor. Amounts due commenced out of court, by resolution of the company’s shareholders. from each party are set off against each other and the creditor can However, the process will only be controlled by the shareholders if only prove for the balance (if any). In certain circumstances the the company is solvent and this is confirmed by the directors in a creditor will lose the ability to take sums into account in this way; declaration. If no such declaration can be made, it will become a for example, if he had notice that particular steps had been taken to creditors’ voluntary liquidation in which the creditors confirm the commence a liquidation or administration.

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of the accounting period may also adversely affect the company’s 4.6 What is the ranking of claims in each procedure, ability to use or surrender losses incurred in the previous accounting including the costs of the procedure? period. In some circumstances, tax grouping arrangements may be adversely affected. Consequently, when a company is in distress, a The key principle underlying insolvency law in England & Wales is tax analysis of the various options should be considered carefully. that debts should rank pari passu – or equally among themselves, according to their priority. Inevitably, a number of policy decisions overlay this simple tenet, including the desire to preserve the pre- 6 Employees eminent position of secured creditors, and also to protect employees.

The order of priorities that applies in administration or liquidation 6.1 What is the effect of each restructuring or insolvency is broadly as follows: procedure on employees? (1) the liquidator’s/administrator’s costs and expenses of England & Wales realising fixed charge assets; The impact that a restructuring or insolvency has on employees of (2) fixed charge holders (to the extent of their security); the company will depend, to an extent, on which procedure is used. (3) obligations incurred under “new” contracts and the pay of An informal work-out amongst financial creditors may well have no employees whose contracts have been adopted (see section 6 direct impact on employees. By contrast, in the case of liquidation, below); redundancies are inevitable because the company is being wound (4) the general expenses and costs of administration; up. A compulsory liquidation automatically terminates employees’ (5) preferential debts (these relate almost exclusively to contracts of employment and, in a creditors’ voluntary liquidation, employees’ rights; see section 6 below); redundancies are likely to occur relatively early in the process. (6) the “prescribed part” (this is a certain amount of the proceeds Administration does not necessarily lead to the termination of of realising assets subject to any floating charge which all employment contracts. However, certain claims in relation to must be set aside to settle the claims of unsecured creditors; employees’ pay and pension contributions will be given priority currently set at 50% of the first £10,000, plus 20% of anything status as an expense of the administration unless their employment thereafter, subject to a cap of £600,000); is terminated within 14 days of an administrator’s appointment. (7) floating charge holders (to the extent of their security); Consequently, an administrator will likely consider whether to (8) claims of unsecured creditors (that remain after payment of make an initial round of redundancies. Neither administrators nor the prescribed part); liquidators are automatically exempt from the obligation to consult (9) interest accrued on unsecured debts since the commencement where collective redundancies are proposed. There is often tension of the process; and between the obligation to consult and their duties under insolvency law generally. (10) claims of shareholders. In all cases where a company enters liquidation or administration, employees will have certain (limited) preferential claims in relation 4.7 Is it possible for the company to be revived in the to accrued pay and pension contributions, and will be entitled to future? prove for the remainder as unsecured creditors. Certain of these debts may also be guaranteed by the National Insurance Fund. A company is automatically dissolved three months after its liquidation has been finalised, or three months after an administrator In any case where a transfer of the business is proposed, it will be has notified the Registrar of Companies that the company has no necessary to consider whether any employees and the employer’s property, which might permit a distribution to its creditors. liabilities in respect of those employees will be automatically transferred. The relevant legislation makes certain, limited, special After dissolution, the company ceases to exist. In certain provision for insolvency proceedings. There is some uncertainty as circumstances, it is possible for a company to be restored to the to the application of these provisions. However, the key exemption register; for example, so that an asset can be recovered by members from automatic transfer does not apply to sales by administrators or creditors or where a former employee wishes to bring a personal (including pre-packs) and so this will be a key concern for any injury claim. If the company is restored to the register, it is treated potential purchaser. as though it was never dissolved.

7 Cross-Border Issues 5 Tax

7.1 Can companies incorporated elsewhere restructure 5.1 Does a restructuring or insolvency procedure give or enter into insolvency proceedings in your rise to tax liabilities? jurisdiction?

A company subject to an insolvency or restructuring procedure It has become common practice for companies incorporated continues to be subject to tax on profits or gains. Tax liabilities elsewhere to seek to restructure in England & Wales, particularly are not given preferential status in England & Wales, although tax in order to use a scheme or pre-pack, because equivalent procedures liabilities arising during the appointment of an administrator or are not available in many other jurisdictions. liquidator will rank as expenses (see question 4.6 above). However, Administration and liquidation. Administration and liquidation different procedures may have different tax implications. The tax proceedings fall within the scope of the EU Insolvency Regulation, analysis is often complex and could have a significant impact on which imposes limits on the jurisdiction of the courts in each Member the amounts available for distribution to creditors. For example, the State. So-called “main” insolvency proceedings can only be opened commencement of administration or liquidation ends the company’s in a Member State where a debtor has its centre of main interests accounting period for tax purposes, which has an impact on the (“COMI”). This means that any company which has its COMI in timing of submission of tax returns and the payment of tax. The end

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England & Wales, even if it is incorporated elsewhere, will be able to enter liquidation or administration. A number of companies have 7.3 Do companies incorporated in your jurisdiction moved their COMI for this purpose, particularly to use the pre-pack restructure or enter into insolvency proceedings in other jurisdictions? Is this common practice? procedure. Companies whose COMI is not located within the EU will only be able to enter into administration if they are incorporated in an EEA state. Such companies may enter liquidation regardless In theory, it is possible for companies incorporated in England & of their place of incorporation, as long as they meet certain criteria, Wales to restructure or enter into insolvency proceedings elsewhere, most notably a “sufficient connection” to England & Wales (often for example by shifting their COMI to another jurisdiction. this is demonstrated by the presence of assets in the jurisdiction). However, this is much less common in practice than inbound COMI shifting by companies incorporated elsewhere. Schemes. Schemes are not within the scope of the EU Insolvency Regulation and so there is no COMI constraint. A modified version of the sufficient connection test provides the jurisdictional 8 Groups threshold in all cases where a foreign company seeks to use a England & Wales scheme of arrangement. In recent years, this has most commonly been achieved on the basis of the inclusion of an English governing 8.1 How are groups of companies treated on the insolvency of one or more members? Is there scope law and jurisdiction clause in the relevant finance documents, but for co-operation between officeholders? the presence of assets and/or operations may also suffice. There is an open question about whether the jurisdictional limits imposed Intra-group relationships will inevitably have a bearing on an by the EU Judgments Regulation apply to schemes. Thus far, the insolvency or restructuring process. Under English law, each company English courts have not yet needed to decide the point and foreign is treated as a separate legal entity. The directors of a company companies have continued to find ever more innovative ways to use are obliged to consider the interests of its creditors and insolvency schemes. proceedings are commenced in relation to that particular company When the UK exits the European Union, it is likely that the EU rather than the group. However, there is scope for co-operation and Insolvency Regulation and the Judgments Regulation will cease co-ordination between insolvency officeholders where a number of to apply. It is not yet clear whether alternative arrangements companies in a group have entered into an insolvency process. Thus concerning jurisdiction and recognition will be negotiated (at far, this has been done informally, through the use of agreed protocols, EU level or bilaterally), or whether changes will be made to UK but the recast EU Insolvency Regulation (which will apply from June domestic legislation. 2017) makes specific legislative provision to facilitate co-ordination between officeholders (albeit on a voluntary basis).

7.2 Is there scope for a restructuring or insolvency Where a scheme is contemplated, the release of any guarantees process commenced elsewhere to be recognised in and security provided by other group entities will be critical to its your jurisdiction? success. In many cases it will possible to provide for this as part of the principal debtor’s scheme, rather than commencing a parallel There are a number of ways in which insolvency procedures scheme for the guarantor. commenced elsewhere may be recognised (and/or other relief or assistance provided) in England & Wales. The key routes are: 9 Reform EU legislation. Proceedings to which the EU Insolvency Regulation applies (i.e. all collective insolvency proceedings and some restructuring proceedings relating to a company with its COMI in 9.1 Are there any proposals for reform of the corporate rescue and insolvency regime in your jurisdiction? the EU) will automatically be recognised in England & Wales. As mentioned in question 7.1, this may change when the UK leaves the European Union. In May 2016, the Government launched a consultation seeking views on proposals for reform of the corporate restructuring and UNCITRAL Model Law on Cross-Border Insolvency. Where insolvency regime in England & Wales. It outlined four proposals: proceedings are commenced outside the EU, it may be possible (i) the introduction of a stand-alone restructuring moratorium; (ii) for the insolvency officeholder to apply for recognition in England widening the scope of existing legislative provisions that prohibit the & Wales under the Cross Border Insolvency Regulations 2006, termination of essential contracts when a company enters a formal which give effect to the UNCITRAL Model Law on Cross-Border process; (iii) the introduction of a new restructuring procedure Insolvency, if the proceedings are main insolvency proceedings (with the ability to bind creditors to a restructuring plan, including (defined by reference to a concept of COMI, which is very similar provision for cross-class cram-down); and (iv) a number of options to that found in the EU Insolvency Regulation). to encourage the provision of rescue finance. The consultation Domestic legislation. Under the Insolvency Act 1986, it is possible closed in July 2016, and the Government has indicated that it is for insolvency officeholders in a limited number of designated considering the responses. jurisdictions (mainly Commonwealth countries) to apply to the The proposals in the consultation foreshadowed key aspects of the courts of England & Wales for certain relief and assistance. ‘preventative restructuring regime’ set out in the EU Commission’s Common law. In circumstances where the EU Regulation, the draft ‘harmonisation directive’ which came out in November 2016. Model Law and national legislation are not applicable, it may still It remains to be seen whether the Government will bring forth be possible for the insolvency officeholder to apply for relief in proposals based on the consultation, and how it will respond to England & Wales on the basis of common law principles developed the draft harmonisation directive in light of the UK’s decision to by the courts. leave the EU (which could happen before compliance with the directive becomes mandatory). It may be that there is insufficient parliamentary time to devote to these reforms in the near term.

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Tom Vickers Nicky Ellis Slaughter and May Slaughter and May One Bunhill Row One Bunhill Row London EC1Y 8YY London EC1Y 8YY United Kingdom United Kingdom

Tel: +44 20 7090 5311 Tel: +44 20 7090 4406 Fax: +44 20 7090 5000 Fax: +44 20 7090 5000 Email: [email protected] Email: [email protected] URL: www.slaughterandmay.com URL: www.slaughterandmay.com

England & Wales experience spans a broad range of contentious and non-contentious insolvency matters, bank resolution work for governments and central banks, complex capital and corporate restructurings, and advice to private equity and hedge fund clients on distressed acquisitions. For a full biography, please visit: http://www.slaughterandmay.com/who-we-are/partners/tom-vickers/.

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France Nicolas Laurent

Bredin Prat Olivier Puech

■ Recovery procedures (“redressement judiciaire”); and 1 Overview ■ Liquidation (“liquidation judiciaire”). Safeguard procedures, AS and AFS together represent only 2% of 1.1 Where would you place your jurisdiction on the formal proceedings opened every year. spectrum of debtor to creditor-friendly jurisdictions?

The founding law of the French bankruptcy regime of 1985 was 2 Key Issues to Consider When the considerably debtor-friendly. Company is in Financial Difficulties A shift in the balance began in 2005 with, in particular, the introduction of the committees and the strengthening of controllers’ 2.1 What duties and potential liabilities should the powers (see question 3.5). directors/managers have regard to when managing a This shift was further emphasised following Ordinance no. 2014- company in financial difficulties? Is there a specific 326 dated 12 March 2014, which gave to the creditors the right point at which a company must enter a restructuring to propose a restructuring plan (when committees are constituted) or insolvency process? and to the plan supervisor (“commissaire à l’exécution du plan”) the right to request a modification of the plan where the debtor’s Directors must file for Recovery or Liquidation proceedings with financial situation has improved. the clerk of the relevant court within 45 days of being in a situation of “cessation of payments” (“état de cessation des paiements”, i.e., The debt-for-equity swap mechanism and the legal provisions a situation where the company is unable to settle its liabilities as and authorising the sale or dilution of shares of dissenting shareholders when they fall due with its available assets). (see question 3.2) are additional recent examples of this shift in balance. A director (whether de jure or de facto) may be subject to: ■ liability for any shortfall in assets (“responsabilité pour insuffisance d’actif”): in the context of Liquidation, a 1.2 Does the legislative framework in your jurisdiction director may be ordered to bear all or part of the debtor’s allow for informal work-outs, as well as formal remaining debts, if his/her mismanagement (other than mere restructuring and insolvency proceedings, and are negligence) contributed to this shortfall in assets (for instance each of these used in practice? if he deferred filing for bankruptcy); ■ personal bankruptcy (“faillite personnelle”): in the context of Two informal, non-coercive and amicable procedures are frequently Recovery or Liquidation, a director may be prohibited from used to achieve a restructuring: managing or controlling a company (for up to 15 years) if he/ ■ the “Mandat ad hoc”; and she wrongfully continued to trade in his personal interests, ■ Conciliation. although trading could only result in the company being in a situation of “cessation of payments”; or The use of amicable proceedings tends to be encouraged by recent reforms, such as Law No. 2016-1547 dated 18th November 2016 ■ criminal bankruptcy (“banqueroute”): in the context of Recovery or Liquidation, a director may be sentenced to a (“modernising the justice of the 21st century” or “J21”) which maximum of five years’ imprisonment and a €75,000 fine, provides that, when the debtor does show difficulties that he cannot mainly if he/she purchased goods/services for resale at overcome, the Court will invite the debtor to request a Conciliation below market price or used ruinous means to procure funds, before deciding on the opening of a Safeguard procedure. in each case with the intention of avoiding or delaying the In addition, the French legal system provides for three main types of commencement of insolvency proceedings. court-supervised procedures for companies in financial difficulties: ■ Safeguard procedures (“sauvegarde”), which may take the 2.2 Which other stakeholders may influence the form of an Accelerated Safeguard procedure (“sauvegarde company’s situation? Are there any restrictions on the accélérée”) (“AS”) which cannot last more than three action that they can take against the company? months, or an Accelerated Financial Safeguard procedure (“sauvegarde financière accélérée”) (“AFS”) which cannot Where a company is threatened as a going concern, its shareholders last more than two months and only has effect against (representing at least 5% of the share capital), auditors and employee financial creditors; representative bodies as well as the president of the relevant court,

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may trigger a warning procedure (“procédure d’alerte”), the purpose of which is to direct the debtor towards the proceedings 3.2 What formal rescue procedures are available in your best suited to its situation, and hence avoid any potential liability for jurisdiction to restructure the liabilities of distressed companies? Are debt-for-equity swaps and pre- the directors (see question 2.1). packaged sales possible? Whilst amicable proceedings and Safeguard, AS and AFS proceedings can only be opened at the debtor’s request, Recovery Safeguard, AS, AFS and Recovery proceedings are designed to and Liquidation can also be opened further to notice of summons provide for settlement of debts as well as continuation of the served by a creditor, further to a request of the public prosecutor business and maintaining employment. or at the sole initiative of the relevant court (in very limited cases). Debt-for-equity swap: during Safeguard and Recovery proceedings, France proposals including a conversion of the claims into shares or other 2.3 In what circumstances are transactions entered securities giving rights in the share capital may be presented by the into by a company in financial difficulties at risk of debtor, the bankruptcy trustee (“administrateur judiciaire”) or the challenge? What remedies are available? members of a committee. Such debt-for-equity swap cannot be imposed on shareholders. The Certain transactions entered into during the “suspect period” (i.e. court may only appoint a trustee, under certain circumstances, in the period prior to the date of the judgment opening the bankruptcy order to vote for the approvals required to implement the safeguard/ proceedings calculated backwards in time to the date of “cessation continuation plan or, since August 2015 and only during Recovery of payments”) may be nullified. The date of cessation of payments proceedings, force the sale or dilution of dissenting shareholders’ is determined by the court when opening insolvency proceedings, shares of companies meeting certain criteria. but can be revised afterwards. It cannot exceed 18 months prior to the opening judgment. The “pre-pack sale” practice was recognised in French law in 2014: during Mandat ad hoc or Conciliation proceedings, the mandataire Vulnerable transactions include: ad hoc or conciliator may, at the request of the debtor and after ■ Automatically void transactions: transactions that may consultation of the creditors involved, be entrusted with the mission constitute voluntary preferences for the benefit of some to prepare a partial or total sale of the business. creditors (for instance: property transfers or transactions with no or insufficient consideration, granting of security for pre- Offers received in this context may be directly submitted to the court existing debts, payments of debts which were not yet due and and implemented in the context of subsequent Safeguard, AS, AFS, payable, etc.). Recovery or Liquidation proceedings, subject to the supervision ■ Transactions voidable by the court: if the court determines of the public prosecutor whose opinion must be requested, and that the creditor knew of the debtor’s cessation of payments provided such offers comply with the requirements of the relevant (for instance: payments made on accrued debts, transfers of procedure. assets, etc.).

The risks related to the aforementioned “suspect period” may 3.3 What are the criteria for entry into each restructuring be mitigated in the context of Conciliation proceedings where procedure? homologation of the Conciliation agreement by the court prohibits in principle that the date of cessation of payments be set back before Amicable Proceedings may be opened as soon as the debtor can the date of such homologation. provide proof of actual or future difficulties, but only if the company is not already in a situation of “cessation of payments”, or, in the 3 Restructuring Options case of Conciliation, has not been in such a situation for more than 45 days. Safeguard is available to any company that is not in a situation 3.1 Is it possible to implement an informal work-out in of “cessation of payments”, but which is facing, or anticipates, your jurisdiction? difficulties which it is not able to overcome. AS and AFS are available to companies exceeding certain thresholds To implement an informal agreement obtained through Conciliation: (revenue/number of employees/balance sheet total) and involved in ■ the parties can request that the presiding judge of the court a pending Conciliation, provided that the debtor can evidence it has recognise their agreement and make it enforceable (“constat”) prepared a draft plan which is likely to receive sufficient support (i) where the debtor is not in a situation of cessation of from its relevant creditors. payments, or (ii) where the recognised agreement will put an end to this situation of cessation of payments; or Recovery is available for companies that are in a situation of ■ alternatively, provided the permanence of the debtor as “cessation of payments” but for which recovery is possible. a business concern can be demonstrated, the debtor may request that the court approve the agreement obtained 3.4 Who manages each process? Is there any court (“homologation”). involvement? Homologation is less confidential than constat, but offers more flexibility, such as: In Amicable Procedures, a mandataire ad hoc or a conciliator ■ mitigation of the risks relating to determination of the is appointed by the court (the debtor can submit a name to the “suspect period” (see question 2.3); and court). However, the company continues to be managed by its legal ■ the possibility of providing in the homologated agreement representatives without any impact on the shareholders’ rights. At (“accord homologué”) for a “new money” privilege for the end of such proceedings, the court can be requested to recognise rescue financing creditors (see questions3.7 and 4.6). or approve the agreement (see question 3.1).

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In the same way, in Safeguard, AS and AFS proceedings, the Shareholder/creditor cram-down: company continues to be managed by its legal representatives. If the draft plan is adopted by the committees, it becomes binding However, in such procedures, the court usually appoints one (or upon all their members, regardless of the individual votes. several) bankruptcy trustee(s) to supervise or assist the debtor in The subordination agreements, if any, are taken into account for the management operations. The court also appoints a creditors’ the drafting of the plan and the voting rights within committees. representative (“mandataire judiciaire”). However, the bankruptcy trustee shall ensure the protection of all In Recovery proceedings, the bankruptcy trustee is generally creditors’ interests, which prohibits creditor cram-down in violation appointed to assist the debtor in managing the business. In some of these principles. cases, he can be appointed to manage the business alone. A On the contrary, creditors that are not members of a committee are creditors’ representative is also appointed. France consulted individually and the court cannot impose any debt write- Court approval is required to give force to a safeguard, continuation offs. or disposal plan.

3.6 What impact does each restructuring procedure have 3.5 How are creditors and/or shareholders able to on existing contracts? Are the parties obliged to influence each restructuring process? Are there any perform outstanding obligations? Will termination and restrictions on the action that they can take (including set-off provisions be upheld? the enforcement of security)? Can they be crammed down? Contractual provisions reducing the rights of the debtor or increasing its obligations due to Amicable Proceedings being opened are Main creditors’ powers – controllers and committees: deemed null and void. Creditors may file a request with the supervisory judge (“juge The opening of restructuring proceedings does not automatically commissaire”) that they be appointed controllers. This status terminate ongoing contracts (i.e. contracts in force and not fully grants them the general assignment to assist the officials in the performed at the opening of the proceedings). The bankruptcy proceedings and allows them to act in the interests of the creditors trustee has the exclusive right to enforce such contracts, regardless when the creditors’ representative fails to take sufficient action. of any provision or ipso facto clause providing that the contract shall As such, controllers have access to the information handed over to terminate upon the opening of a procedure. the officials in the proceedings and are regularly consulted by the The other party may send a formal notice to the bankruptcy trustee supervisory judge. to request that he/she decide within one month whether to abandon Creditors may be consulted on the draft plan either individually or or continue a specific contract. Should the bankruptcy trustee fail within committees. There is one financial creditors’ committee in to answer within such one-month time-limit, the contract shall be AFS, and two committees in all other procedures: one for financial deemed terminated. Until such time as the contract is terminated, the creditors (that includes shareholders, for their compensated current contracting party must continue to perform its contractual obligations, account advances) and the second for main suppliers. A general despite the possible non-performance by the debtor of its obligations. bondholders’ assembly shall also be formed and consulted, as The bankruptcy trustee may decide to continue an ongoing contract applicable. These committees are mandatory only in companies if he/she considers that there will be sufficient funds to continue exceeding certain thresholds (of revenue, number of employees, the payments under this contract. In such case, he/she is required etc.). Each committee will vote on the plan and a decision adopting to pay these amounts as they fall due, failing which the contract the plan shall require a vote in favour representing two-thirds of the may be terminated. The corresponding debts will have a priority claims of the voting members. ranking, and a potential liability claim may be initiated against the Main restriction on creditors’ actions – the general stay of prior bankruptcy trustee if they remain unpaid. claims: Alternatively, at the bankruptcy trustee’s request, the supervisory Once bankruptcy proceedings are opened, there is an automatic judge may order a contract’s termination if it is necessary for the general stay prohibiting the payment of any claims that arose prior debtor’s safeguard and is not overly detrimental to the interests of to the opening judgment. Accordingly, legal actions or proceedings the contracting party. seeking such payment are suspended or prohibited. Payments made Termination (by the bankruptcy trustee or the supervisory judge) in breach of this stay may be cancelled and both the creditor and may lead to damages in favour of the contracting party. debtor may be subject to criminal sanctions. Secured creditors are also subject to the general stay and therefore cannot enforce their security in respect of frozen debts. 3.7 How is each restructuring process funded? Is any protection given to rescue financing? Creditors with a retention right (save for “fictitious” retention rights which are enforceable only if the pledged asset is included in a The “observation period” (i.e. the period following the opening disposal plan), creditors with retention of title clauses and assignees judgment until the final judgment) is funded by means of the general of professional claims (“Dailly” assignment) may, however, enforce stay of prior claims (see question 3.5) and a priority ranking given their rights. to creditors whose claims are born during the observation period. In addition, the supervisory judge appointed by the court to oversee With respect to claims arising after the opening judgment, it is the the proceedings (“juge commissaire”) may: duty and responsibility of the bankruptcy trustee to ensure that he ■ order the substitution of security if no agreement is found holds funds in an amount sufficient to make the payments as due. with the creditor; Creditors who contribute new funds in order to ensure the ■ allow the payment of frozen debts in order to release the continuation of the debtors’ business activity (other than pledge or legitimately held asset, if necessary; and shareholders’ new equity), pursuant to a homologated agreement ■ authorise the payment of a purchase option under a finance resulting from a Conciliation, will enjoy a priority rank in the event lease contract, if necessary. of subsequent insolvency proceedings (see question 4.6). Further,

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these creditors cannot be subject to debt rescheduling and write- asset. Where the secured creditor has not been paid off (which will offs without their consent, including in a context of creditors’ be the case when the value of the asset is less than the claim) or committees. obtained the judicial award of the asset, the Liquidator must request During the observation period, post-petition creditors who are not from the supervisory judge the authorisation to sell the encumbered paid at the due date will also enjoy a priority payment over some asset. The retention right is then conveyed to the proceeds of the creditors (see question 4.6). sale and the creditor is paid in priority. In case of a disposal plan, see question 3.5. As regards other secured creditors, if within three months the 4 Insolvency Procedures Liquidator has not liquidated the secured assets, they may enforce their security. Yet, in this case, the secured creditor is subordinated France 4.1 What is/are the key insolvency procedures(s) to those creditors whose claims are more senior, which will be paid available to wind up a company? in priority from the sale proceeds (see question 4.6).

Liquidation is the key insolvency procedure available in France to 4.5 What impact does each winding up procedure have on wind up a company. existing contracts? Are the parties obliged to perform outstanding obligations? Will termination and set-off A Simplified Liquidation (“liquidation judiciaire simplifiée”) provisions be upheld? procedure, which must be completed within a year, is also available for companies meeting certain criteria. With regard to ongoing contracts, Liquidation proceedings follow the same rules as those that apply to Safeguard and Recovery 4.2 On what grounds can a company be placed into each proceedings (see question 3.6). winding up procedure? However, there are adjustments ensuing from Liquidation features. For instance, where the debtor’s performance consists in the payment Liquidation is available for companies that are in a situation of a sum of money, the ongoing contract shall be automatically of “cessation of payments” and for which recovery is clearly rescinded the moment the contracting party is informed of the impossible. liquidator’s decision not to continue the contract. A company may also be placed into Liquidation by way of conversion of a Safeguard or a Recovery when these conditions are 4.6 What is the ranking of claims in each procedure, met. including the costs of the procedure?

4.3 Who manages each winding up process? Is there any Creditor Priority Creditor Priority in court involvement? in Safeguard and Liquidation Recovery The court appoints at least one liquidator (usually the former “Super Priority of Employees”: amounts due to employees as remuneration, or with creditors’ representative). High respect to paid leave (see question 4.3). Priority The liquidator manages the company, he/she ascertains its liabilities, Legal costs and fees (“frais de justice”) ↓ sells off assets, acts in the common interests of the creditors and Debts which arose for the purposes of the performs the operations required to wind up the company. that arose proceedings. Court involvement is through the office of the supervisory judge. ↓ before the “New money” contributions (except opening He/she ensures the swift conduct of the procedure and has the shareholders’ capital) pursuant to a judgment homologated agreement during prior exclusive power to rule on the challenges to the receivables declared ↓ Conciliation proceedings. by the company’s creditors. Debts secured by When the remaining assets of the wound-up company do not allow ↓ a security over for the creditors to be even partially paid off, the court closes the immovable assets. Liquidation procedure, causing the dissolution of the company. ↓ Employee debts that were not advanced by the AGS (“Assurance Garantie des Salaires”, a government fund guaranteeing 4.4 How are the creditors and/or shareholders able to ↓ amounts owed to employees in case of influence each winding up process? Are there any insolvency of their employer). Loans and receivables resulting from the restrictions on the action that they can take (including ↓ Debts that the enforcement of security)? performance, after the opening judgment, of arose after contractual obligations entered into before ↓ the opening the opening judgment and for which the Creditors may request to be appointed controllers (see question 3.5). judgment creditor has agreed to payment extensions. If the Tribunal has authorised the temporary continuation of the ↓ Other sums business in order to allow a disposal plan, creditors and shareholders advanced by the AGS. may file with the Liquidator bids to acquire the company. ↓ Other post-judgment debts based on their In Liquidation, a general stay applies with the same rules as in relative ranking. Safeguard and Recovery (see question 3.5). ↓ Debts that arose Other pre-judgment debts (secured debts As regards creditors with retention right (including “fictitious” Low before the according to their ranking and unsecured retention rights) where there is no disposal plan, the Liquidator, Priority opening debts). in order to recover the encumbered asset, must pay off in full the judgment relevant creditor within six months. Those creditors may also request from the supervisory judge the judicial award of the pledged

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When the debtor is a company, its COMI is presumed to be the place 4.7 Is it possible for the company to be revived in the of the registered office. Yet, this presumption may be rebutted if after future? a comprehensive assessment of all the relevant factors, it is possible to establish, in a manner that is ascertainable by third parties, that Once the Tribunal has closed the Liquidation, it may be re-opened if the company’s actual centre of management and supervision and of it becomes apparent that some of the debtor’s assets have not been the management of its interests is located in another Member State. sold off or that a legal action in the interest of the creditors was not Thus, a company incorporated in another Member State could enter initiated during the proceedings. into insolvency proceedings if its COMI is in France. However, if such debtor has only an “establishment” in another

5 Tax EU Member State, the courts of that State have jurisdiction to open France “secondary proceedings”, restricted to the debtor’s assets located in that State. 5.1 Does a restructuring or insolvency procedure give The Regulation (EU) no. 2015/848 will replace the currently rise to tax liabilities? applicable Regulation (EU) no. 1346/2000 for insolvency proceedings opening from 26 June 2017. The concept of COMI In general, the debtor’s tax liabilities pertaining to its business is maintained and slightly specified (in light of the CJEU’s activities (e.g., VAT liabilities on sales of goods) would continue to jurisprudences). accrue after the opening of the procedure. With respect to a company incorporated outside of the EU: After the opening of proceedings, such tax liabilities are generally paid as they fall due, or, when there are not sufficient funds, benefit Where no international treaty applies and where a company has from the general privilege attached to post-judgment liabilities (see its headquarters in France (not necessarily the registered office), French courts have jurisdiction to open restructuring or insolvency question 4.6). proceedings to its benefit. Waivers of indebtedness implemented as part of the procedure French courts may also open restructuring or insolvency proceedings would generally be taxable in the hands of the debtor and may to the benefit of a company incorporated outside of the EUbut therefore give rise to a French corporate income tax liability if the which has an establishment in France. This establishment does not debtor’s overall taxable income happens to be positive. However, have to be the company’s COMI. in some cases and under certain conditions, waivers of indebtedness may be off-set with existing net operating losses. The power of French jurisdiction may even extend as to allow the opening of a proceedings in France when the company has business relations in France and if it is in the best interests of French creditors. 6 Employees

7.2 Is there scope for a restructuring or insolvency 6.1 What is the effect of each restructuring or insolvency process commenced elsewhere to be recognised in procedure on employees? your jurisdiction?

Salaried employees are entitled to receive: With respect to proceedings commenced in another Member State ■ within 10 days of the opening judgment (to the extent that of the EU: sufficient funds are available or as soon as they are), the Where a restructuring or insolvency process has been opened in payment of the amounts due to them prior to this judgment. another Member State, these proceedings will be automatically In addition, employees shall receive immediately after the recognised in all Member States, including France. opening judgment (to the extent that there are sufficient funds) payment on a provisional basis of an amount equal to With respect to proceedings opened outside of the EU: one month of unpaid salary; and A decision opening bankruptcy/insolvency proceedings in a country ■ as they become due after the opening judgment, any other outside of the European Union would have no effect in France, amounts due to them under their employment contract. except after having obtained “exequatur” (a special decision by a French court, which can be requested by any interested party and Employees may benefit, for all or part of these sums, from a which provides for the execution of a foreign judgment) or by virtue guarantee from the aforementioned AGS, which benefits from a of an international treaty. priority repayment ranking when it acts in lieu of the company. The AGS guarantees the severance payments under certain conditions. 7.3 Do companies incorporated in your jurisdiction restructure or enter into insolvency proceedings in other jurisdictions? Is this common practice? 7 Cross-Border Issues With respect to the EU:

7.1 Can companies incorporated elsewhere restructure A company incorporated in France that wishes to enter into or enter into insolvency proceedings in your insolvency proceedings in another Member State will have to jurisdiction? establish that its COMI is located in that Member State (see question 7.1). If this is the case, such other Member State will have exclusive With respect to a company incorporated in another Member State jurisdiction to commence insolvency proceedings to the benefit of of the EU: the debtor. If this is not the case, French courts will have jurisdiction on the basis of the “registered office” presumption. Pursuant to the EU Insolvency Regulation, the EU Member State (other than Denmark) where the debtor has its “centre of main With respect to a country outside of the EU: interests” (“COMI”) shall have exclusive jurisdiction to open Where no international treaty applies, a company incorporated in insolvency proceedings in relation to such debtor. France may restructure or enter into insolvency proceedings outside

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of the EU. However, to give effect to these proceedings in France, As of 1 March 2016, a court which opens insolvency proceedings the company will have to obtain “exequatur” (see question 7.2). to the benefit of a debtor company has jurisdiction to hear any This is not common practice in France. proceedings relating to a company controlling or controlled by the debtor company, allowing the centralisation of the proceedings under a single jurisdiction. The court may appoint a single judicial 8 Groups receiver and a single creditors’ representative for all the proceedings.

8.1 How are groups of companies treated on the 9 Reform insolvency of one or more members? Is there scope for co-operation between officeholders? France 9.1 Are there any proposals for reform of the corporate By virtue of the principle of autonomy of legal entities, a company rescue and insolvency regime in your jurisdiction? will not be affected if one or more companies of the group to which it belongs are placed into insolvency proceedings. No. The “J21” Law was the last reform containing few provisions Exceptionally, an extension of proceedings to one or more companies on these matters (see question 1.2). of the group may be granted where assets of the liquidated company are intermingled with those of another entity of the group or where the company is a sham entity.

Nicolas Laurent Olivier Puech Bredin Prat Bredin Prat 53 Quai d’Orsay 53 Quai d’Orsay 75007 Paris 75007 Paris France France

Tel: +33 1 44 35 35 35 Tel: +33 1 44 35 35 35 Email: [email protected] Email: [email protected] URL: www.bredinprat.com URL: www.bredinprat.com

Nicolas Laurent is a partner at Bredin Prat and co-leads the Olivier Puech is a partner at Bredin Prat and co-leads the team restructuring and bankruptcy team of the firm. He is active both in specialised in dealing with companies in financial difficulty. His practice pre-insolvency matters (financial restructurings, carve-outs, etc.) and focuses on advising clients in relation to insolvency proceedings, bankruptcy proceedings. particularly the judicial aspects and related litigation. Prior to joining Bredin Prat, he was with the American law firm Coudert Prior to joining Bredin Prat, he was in charge of the corporate Brothers LLP, in Paris and Beijing. restructuring department of the law firm Gide Loyrette Nouel, where he had been a partner since 1998. He was admitted to the Paris Bar in 1998 and is a graduate of the University of Paris I Panthéon-Sorbonne (DEA in business law and He is a founding member of the French Association for Business economic law). He gives lectures in insolvency law at Paris I each year Turnaround (Association pour le Retournement des Entreprises and is a member of the French Association for Business Turnaround – ARE) and participates actively in the debate on the reform of (Association pour le Retournement des Entreprises – ARE). insolvency proceedings in France. He was admitted to the Paris Bar in 1987 and is a graduate of the University of Aix-Marseille (DESS in business law, Diplôme de Juriste Conseil d’Entreprise (DJCE), 1985).

Founded in 1966, Bredin Prat is widely recognised for providing legal advice in the following practice areas: Corporate (M&A, Private Equity, Capital Markets); Litigation and Arbitration; Competition; Tax; Restructuring/Insolvency; Financing; Employment; and Public Law/Environment.

Based in Paris and Brussels, the firm has grown over the last few years from a leading French corporate and litigation “boutique” to a firm over 170 lawyers strong, as mirrored by the evolution of our domestic and cross-border practice and client base.

Drawing on its M&A, Litigation, Financing and Employment practices as well as its lawyers who have specialised in these fields for many years, the firm has a very strong Restructuring and Insolvency practice, with extensive experience in managing high-profile domestic and cross-border financial restructurings, distressed M&A transactions and insolvency situations.

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Germany Dr. Ulrich Blech

Hengeler Mueller Partnerschaft von Rechtsanwälten mbB Dr. Martin Tasma

1 Overview 2 Key Issues to Consider When the Company is in Financial Difficulties 1.1 Where would you place your jurisdiction on the spectrum of debtor to creditor-friendly jurisdictions? 2.1 What duties and potential liabilities should the directors/managers have regard to when managing a Based on the last insolvency reform in 2011, German insolvency law company in financial difficulties? Is there a specific has further developed towards a well-balanced, modern insolvency point at which a company must enter a restructuring framework, which, however, continues to put creditors’ interests or insolvency process? slightly ahead of the interests of the insolvent debtor. The legislator has, in particular, facilitated management-led in-court restructurings Each individual managing director of a German limited liability and introduced effective mechanisms to allow for cram-downs of company and the members of the executive board of a German stock minority creditors (and shareholders) in the course of insolvency corporation (both hereinafter referred to as “directors”) is under a plan proceedings, both corresponding with the debtor’s interest statutory duty to constantly monitor the financial situation of the to enable comprehensive and efficient restructurings in order to company and to promptly draw up an over-indebtedness balance preserve healthy parts of the business operations. On the other sheet, a liquidity statement and/or an interim balance sheet without hand, civil and criminal law liability on directors for not filing for undue delay, if and as soon as there are indications that the company insolvency in time as well as a strict avoidance rights’ regime benefit might be over-indebted (überschuldet), cash-flow insolvent, i.e. the interests of creditors as a whole, while making the debtor’s life unable to pay its debt as it falls due (zahlungsunfähig), and/or that more cumbersome in a financial crisis. the net assets of the company at book value are not sufficient to cover half of the company’s share capital as a result of a loss. ■ If and as soon as the directors notice that half of the share 1.2 Does the legislative framework in your jurisdiction capital is lost, they must call a shareholders’ meeting without allow for informal work-outs, as well as formal undue delay. Any failure by the directors to notify the restructuring and insolvency proceedings, and are shareholders exposes them to criminal and civil liability. each of these used in practice? ■ Furthermore, directors are prohibited from making formal or hidden distributions to shareholders which would result in the The German framework allows for informal, consensual work-outs net assets applied at the ongoing book values no longer being on the basis of individual agreements with all stakeholders affected. sufficient to cover the share capital, with certain exceptions In addition, formal insolvency proceedings allow for both (i) a applying to this rule. If the directors violate this provision, restructuring of the insolvent entity by, inter alia, applying a hair- they are liable to the company for damages. cut on financial and non-financial liabilities, reducing the workforce ■ In addition to this – and most importantly – directors are and terminating onerous contracts, as well as (ii) a sale of the obliged to file a petition to open insolvency proceedings operations to a third party (including all or parts of the workforce) without undue delay, at the latest within three weeks, if and while leaving legacy debt behind. when the company is (i) cash-flow insolvent, or (ii) over- German law does not provide for a general formal pre-insolvency indebted (for details please see question 3.3). restructuring procedure. Consequently, in the past, insolvency Failure to file for insolvency or the granting of preferences to law and restructuring practice was focused on formal court- individual creditors at a time when the company is insolvent driven processes. Under the German Bonds Act 2009, however, and the director is aware of it may give to rise civil and bonds restructurings by majority decision of the bond holders criminal law liability on the part of the directors and lead to disqualification from certain positions in the future. outside of insolvency proceedings are possible, while out-of-court restructurings of financial institutions, including bail-ins, have been facilitated by legislation which was introduced in the aftermath of the 2.2 Which other stakeholders may influence the financial crisis of 2008. In light thereof, out-of-court restructurings company’s situation? Are there any restrictions on the are becoming increasingly relevant. action that they can take against the company?

Creditors may have an impact on the situation as (i) prior to the opening of the main insolvency proceedings they can, in principle,

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pursue individual enforcement measures (see question 3.5), and (ii) the last three months immediately preceding the insolvency certain creditor groups are (along the directors) entitled to file a filing and at a time when the company had been unable to pay petition for the opening of insolvency proceedings: its debts, and further provided that relevant counterparty was aware thereof. The same applies to transactions which have ■ A creditor who owns a due and enforceable claim against been effected after the insolvency filing, if the counterparty the company may file a petition to open proceedings (i) if he was aware either of the filing or of the company’s inability to has a legitimate legal interest in the opening of insolvency pay its debts. proceedings, and (ii) the company is either cash-flow insolvent or over-indebted (see question 3.3). Secured ■ Contracts with related parties, such as direct or indirect creditors (see question 4.6) can only file a petition if they can subsidiaries which despite a consideration are directly show that they could not (fully) recover their claims in the detrimental to the other creditors, are voidable, unless (i) course of a preceding security enforcement. Petitions must they have been entered into more than two years prior to the Germany not be filed in bad faith in order to just accelerate settlement insolvency filing, or (ii) if the other party can show that, at the (rather than actually aiming at the opening of proceedings) or time when the contract was concluded, it was not aware that to harm the debtor. In such case or if petitions are filed with the company acted in bad faith with the intent to disadvantage gross negligence, creditors may be liable for damages. its creditors. ■ Creditors may enforce their claims on an individual basis ■ Transactions for nil consideration are voidable if they have before filing an insolvency petition. However, certain been effected within the four years immediately preceding foreclosure measures as well as, inter alia, actions taken by the the insolvency filing. debtor in the run-up to the insolvency filing in order to settle ■ Detrimental transactions implemented within a 10-year its liabilities may be void or subject to claw-back (see question period prior to the insolvency filing may be voided if (i) the 2.3). Inter alia, security in a debtor’s assets acquired by company acted in bad faith with the intent to disadvantage virtue of foreclosure measures within the month immediately its creditors (which courts assume easily if the company preceding the insolvency filing becomes void by operation of was aware that it was imminent cash-flow insolvent), and law once insolvency proceedings have been opened. (ii) the counterparty was aware of this, which may already ■ Finally, please note that while creditors are free to refrain be the case if such counterparty was aware of the financial from enforcing their claims, any deferral of claims, the difficulties. extension of existing credit lines and in particular the This aforementioned claw-back right on intentionally granting of new credit in a financial crisis of the debtor can detrimental transactions was extensively construed by the give rise to liability on the part of the relevant lender as well courts in the past. As this resulted in major uncertainties, in as subordination issues, unless it can be shown by means of a particular for SMEs, since April 2017 such claw-back right positive restructuring opinion obtained from an independent has been limited for a number of cases: expert that such measures were implemented with a realistic a) If a security was granted or a claim was settled which chance to actually restructure the company. was due for granting or settlement at that time (so- called “congruent cover”), a claw-back under the above 2.3 In what circumstances are transactions entered provision is only possible if the counterparty was aware into by a company in financial difficulties at risk of that the debtor was actually cash-flow insolvent. It is not challenge? What remedies are available? sufficient anymore that cash-flow insolvency was only imminent. German insolvency law provides for a number of circumstances b) Furthermore, if the counterparty agreed with the insolvent under which transactions may be voided, even for an extended company on a payment schedule or deferred payments, it is assumed that such counterparty was not aware of period of time: the actual cash-flow insolvency of the company. The ■ Transactions by and with creditors, including the settlement courts may therefore no longer assume without further of a debt or the granting of securities in favour of a creditor indications that the counterparty was aware that the prior to the opening of insolvency proceedings, are voidable company was acting in bad faith with the intent to put and, hence, subject to claw-back, if they have a detrimental other creditors at a disadvantage. effect on other creditors, directly or indirectly – which c) Any settlement of debt or granting of securities in favour generally is assumed unless specific circumstances apply – of a creditor (whether under a congruent or incongruent and provided that: cover) may now only be voided under the above provision a) the transaction was effected within three months within four years rather than 10 years. It is currently immediately preceding the insolvency filing, if the unclear and up to the courts to decide whether the company was already cash-flow insolvent and the creditor underlying contracts, under which the debt was settled was aware thereof; or the security was granted, may still be voided within b) the transaction was effected after the insolvency filing, if the 10-year period. In such case, however, the insolvency the creditor was aware that an application for the opening administrator would most likely only be able to claw of insolvency proceedings had been filed; or the amounts paid or the security granted back under c) a security was granted or a claim was settled, which were unlawful enrichment rules, which are likely to be more not due for granting or settlement at that time (so-called disadvantageous for the administrator. “incongruent cover”), and such granting or settlement was ■ Furthermore, the so-called immediate consideration privilege effected either during the month immediately preceding (“cash privilege”) has been extended: under such privilege the insolvency filing or during the second or third month no voidance is possible if the company upon its performance immediately preceding the filing; in such case, however, under a contract receives from the creditor a fair consideration only if the company was cash-flow insolvent already within a time frame generally considered to be standard for or if the creditor knew that the transaction would be the respective industry. Evidently, such cash privilege is of no detrimental for other creditors. relevance in cases of an incongruent cover or in transactions ■ In addition, transactions by the company with any third party, which directly harm other creditors or where under the are voidable if such transactions directly harm other creditors, relevant transaction no consideration is provided at all. provided that the relevant transactions had been agreed during

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■ Finally, any repayment of shareholder loans within the year The Insolvency Act provides for two types of insolvency immediately preceding the insolvency filing is voidable. The proceedings to be implemented either by the insolvency same applies to comparable transactions having the same administrator or by means of self-administration: regular insolvency economic effect, e.g. any payments by the company to a third proceedings (Regelverfahren) and insolvency plan proceedings party in order to settle a liability secured by the shareholder. (Insolvenzplanverfahren): Loans granted by a third party may be regarded as shareholder ■ Under regular insolvency proceedings, the insolvency estate loans if such third party is directly or indirectly controlled by is realised and the proceeds are distributed to the creditors in a direct or indirect shareholder of the company. accordance with the applicable priority provisions. Security granted to secure a shareholder loan is voidable if In regular insolvency proceedings, the administrator or – in the the security has been granted within the 10 years immediately event of self-administration – the management together with preceding the insolvency filing. the custodian may decide whether to liquidate the company Germany It is upon the insolvency administrator (Insolvenzverwalter), or (i) by laying off the personnel and selling the assets, or (ii) by the custodian (Sachwalter) in the event of self-administration selling the operations as a whole including all or parts of its (Eigenverwaltung) (see question 3.2), to declare a transaction void and personnel, while leaving behind the liabilities of the insolvent entity (so-called “restructuring by transfer” – übertragende to enforce the claw-back in court once insolvency proceedings have Sanierung). A restructuring by transfer is a well-established been opened. Upon a successful claw-back, the relevant asset must be tool to discharge a company of its non-sustainable debt while re-transferred to the estate. Likewise, the consideration received by preserving healthy business operations. the company has to be returned to the other party, provided, however, ■ The concept of insolvency plan proceedings is similar to the that it can still be identified within and separated from the insolvency Chapter 11 procedure under the United States Bankruptcy estate. In most cases this will, however, not be possible, because Code. An insolvency plan may implement a financial and monies are often not kept separate. In this case, the counterparty has operational restructuring of the insolvent legal entity and an unsecured payment claim against the estate, which will be settled thereby, inter alia, preserve rights and entitlements which according to the quota applicable to unsecured creditors. cannot be transferred. The plan may also foresee a debt-for-equity swap by creditors (with their consent) while excluding subscription 3 Restructuring Options rights of the current shareholders. Any objections by the current shareholders in such cases may be overruled if the shareholders are, as a result of those measures, not worse 3.1 Is it possible to implement an informal work-out in off than in regular proceedings. This is normally the case, your jurisdiction? because in regular insolvency proceedings the shareholders would generally be left without any proceeds. The structure of informal work-outs in Germany may differ from case In addition to reducing liabilities, the Insolvency Act facilitates the reduction of the work force and the termination to case. Generally, informal work-outs involve a re-configuration of of onerous contracts, such as unfavourable lease agreements the financial debt on the basis of a consensual restructuring concept, and supply contracts. Provided that it is not rejected by the which may include changes to the business model or asset disposals insolvency court, an insolvency plan needs to be approved to generate additional liquidity, thus enabling loan repayments. by defined voting creditor classes. It is accepted if (i) within each voting class, a majority in number and according Due to the fact that German law does not provide for out-of- to outstanding amounts agrees, and (ii) all classes agree, court restructuring procedures and considering that in in-court provided that a rejection by a class will be disregarded if restructurings control shifts to some extent to the insolvency (x) the relevant class is not worse off under the plan than court, informal work-outs are increasingly the preferred option to in regular insolvency proceedings, and (y) the plan has been implement a restructuring, whereas formal in-court procedures are approved by the majority of all voting classes. only considered if the parties cannot agree on a consensual solution. ■ To allow for the preparation of a financial restructuring within insolvency plan proceedings, the insolvency court may grant a restructuring protection for up to three months and during 3.2 What formal rescue procedures are available in your which individual enforcement is banned if the company is jurisdiction to restructure the liabilities of distressed over-indebted but not (yet) insolvent. companies? Are debt-for-equity swaps and pre- packaged sales possible? It is possible to pre-pack under German law: The sale of the operations is often pre-arranged prior to the opening of main insolvency proceedings and only becomes effective upon such German law does not, as a general rule, provide for a formal rescue proceedings being formally opened, in order to avoid claw back-risks procedure outside of or prior to insolvency proceedings. However, attaching to transactions entered to with distresses sellers. Depending formal insolvency proceedings are not confined to liquidation on the circumstances, a pre-packaged sale may be implemented in scenarios. Instead, the German Insolvency Act provides tools and regular proceedings or via an insolvency plan. One may, in particular, procedures which allow for and facilitate a financial and operational use the restructuring protection mentioned above to gain time to restructuring of distressed companies. negotiate and prepare an insolvency plan which subsequently can be If insolvency proceedings are opened (see question 3.3) a court- implemented on short notice without the company being subject to appointed insolvency administrator (Insolvenzverwalter), who will official insolvency proceedings for an extended period. be controlled and supervised by the competent insolvency court, the creditors’ committee (Gläubigerausschuss), and the creditors’ 3.3 What are the criteria for entry into each restructuring meeting (Gläubigerversammlung) will conduct such proceedings. procedure? The insolvency court may – upon request of the debtor’s management – alternatively decide to pursue the insolvency proceedings by Regular insolvency proceedings and insolvency plan proceedings means of “self-administration” (Eigentümerverwaltung). Under self- will only be opened if (i) an application for the opening of insolvency administration, the management continues to manage the company, proceedings is filed, and if the competent insolvency court is however under the supervision of a custodian (Sachwalter), the convinced that (ii) an insolvency reason exists, and (iii) the debtor’s insolvency court, the creditors’ committee and the creditors’ meeting. estate is likely to cover the costs of the insolvency proceedings.

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There are three reasons for the opening of insolvency proceedings: During main insolvency proceedings, shareholders’ rights remain, (i) over-indebtedness; (ii) (actual) cash-flow insolvency (Zahlungsun- in theory, unaffected. However, this does not apply to the extent that fähigkeit); and (iii) imminent cash-flow insolvency (drohende such rights relate to the management and disposal of the insolvency Zahlungsunfähigkeit). While the company may file an application for estate. the opening of insolvency proceedings upon the occurrence of any of those insolvency reasons, creditors can only file an application in case 3.5 How are creditors and/or shareholders able to of over-indebtedness and actual cash-flow insolvency (as regards the influence each restructuring process? Are there any directors’ duty to file for insolvency, please see question 2.1). restrictions on the action that they can take (including ■ A company is cash-flow insolvent if it is not able, within the enforcement of security)? Can they be crammed the next three weeks, to pay the debts which fall due in down?

Germany such period. Minor delays in paying outstanding debts not exceeding 10 per cent of the debts becoming due during Insolvency proceedings are ultimately controlled by the creditors the three-week period do not necessarily trigger cash-flow via the creditors’ meeting and the creditors’ committee and the insolvency, depending on the circumstances. insolvency court: ■ A company is imminently cash-flow insolvent if it is more likely than not that it will become cash-flow insolvent within ■ Core decisions, such as the decision whether to liquidate the the foreseeable future, which is often assumed to include the insolvency estate or to temporarily continue the business current and the next business year. operations of the insolvent company, are taken by the creditors’ meeting by simple majority according to outstanding amounts. ■ Generally, the company is over-indebted if, based on If no creditors’ committee is appointed (see below), certain liquidation values, its liabilities exceed its assets, unless the fundamental decisions, such as the disposal of the business (or continuation of the business of the company is more likely parts of it), require the prior consent of the creditors’ meeting. than not. This means that, effectively, the company is not An insolvency plan is, in any case, subject to the approval of considered over-indebted when continuation of the business, the creditors’ meeting (see question 3.2). based on a reasonable and careful assessment is more likely than not, regardless of whether the liabilities exceed the assets. ■ The creditors’ meeting can set up a creditors’ committee or recall any court-appointed creditors’ committee. The Once insolvency proceedings are opened, the insolvency creditors’ committee shall assist and supervise the insolvency administrator or, as the case may be, the management as well as the administrator. Certain fundamental decisions, such as the custodian, the creditors’ committee and major creditors will decide disposal of the business (or parts of it) require its prior consent. whether to pursue regular insolvency proceedings or insolvency It consists of representatives of (i) the secured creditors, (ii) plan proceedings (see question 3.2). the insolvency creditors with the highest claims, (iii) creditors with small claims, and (iv) the employees. Its members are elected by the creditors’ meeting. Creditors typically 3.4 Who manages each process? Is there any court represented on the committee are banks, trade creditors, the involvement? Federal Employment Agency (Bundesagentur für Arbeit) and the Pension Protection Fund (Pensionssicherungsverein). Decisions of the creditors’ committee are taken by a simple Insolvency plan proceedings, as well as regular proceedings, are majority of the members being present at the relevant preceded by preliminary insolvency proceedings to assess whether meeting. The creditors’ committee constitutes a quorum if main proceedings will be opened (see question 3.3), while at the the majority of members is present at the relevant meeting. same time preventing detrimental changes in the insolvency estate. As regards enforcement of claims, one must distinguish between During preliminary insolvency proceedings, the company generally unsecured and secured creditors: continues to be run by the directors. The insolvency court may, however, prohibit the company from entering into any transactions ■ Once a petition for opening insolvency proceedings has been (allgemeines Verfügungsverbot) and vest the preliminary insolvency filed, the court may – in order to protect the assets ofthe company – resolve that unsecured creditors must not enforce administrator with the power to control and administer the company. their rights during the preliminary insolvency proceedings. Any liabilities incurred by such a “strong” preliminary insolvency Upon main insolvency proceedings being opened, unsecured administrator are privileged in the subsequent main insolvency creditors are banned from individual enforcement as a matter proceedings and are not just unsecured ordinary claims (see of statutory law. Instead, they must file their claims with the question 4.6). A preliminary creditors’ committee can be appointed insolvency administrator (or the custodian, as the case may by the court already during the preliminary insolvency proceedings. be), in order for their claims to be considered in the course of The preliminary creditors’ committee may propose that a certain the insolvency proceedings. individual is appointed as preliminary insolvency administrator or, ■ The insolvency court may order that secured creditors are as the case may be, preliminary custodian who, in practice, will then banned from individual enforcement during preliminary also be appointed as (final) insolvency administrator and custodian, insolvency proceedings. However, once insolvency respectively, once main insolvency proceedings are opened. If the proceedings have been opened, the ability to enforce security proposal is supported by all members of the preliminary creditors’ depends on the nature of the security granted: committee, the insolvency court is bound, unless the relevant ■ If the creditor has full title to an asset, such asset must individual is not qualified. be returned to the creditor. This applies, in particular, to assets sold by the creditor subject to retention of title. During the preliminary insolvency proceedings, shareholders’ rights ■ Most securities, however, only grant a right to receive remain unaffected – except for the right to instruct management, proceeds from their realisation. Hence, the secured which becomes ineffective. The shareholders remain entitled, creditor has to file his claim with the administrator (or the however, to resolve on, e.g., capital injections in order to restructure custodian, as the case may be). Depending on the kind of the company. security, the security is then realised either by the insolvency Once main insolvency proceedings are opened and an insolvency administrator himself or, in special proceedings, outside administrator is appointed, the power to dispose of and administer the insolvency proceedings. Generally, assets, rights and the insolvency estate shifts to the insolvency administrator. In case claims which have been transferred to the creditor only of “self-administration”, management continues to run the business for security purposes, remain under the control of the insolvency administrator, who realises such assets and (see question 3.2).

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forwards the proceeds to the creditor. The insolvency is also not possible if the creditor acquired the ability to set off in a administrator may charge realisation and ascertainment transaction which is voidable itself, e.g. by exercising a right for the fees – generally amounting to around nine per cent in total. sole purpose of creating a claim in order to be able to set off. ■ Securities being held in possession by a creditor, as well as mortgages and land charges, are realised in separate proceedings, which the creditor can initiate but – with 3.7 How is each restructuring process funded? Is any respect to land charges or mortgages – may also be protection given to rescue financing? initiated by the administrator. There are no special rules or statutory protections for funds Objecting creditors can be crammed down both in the context extended in an informal work-out, if such work-out ultimately fails of regular insolvency proceedings as well as in insolvency plan and the company files for insolvency. In fact, creditors extending proceedings. Generally, the consent of creditors is not required Germany funding to a company in distress without being reasonably sure that for the opening and implementation of regular proceedings, which such funding will allow for the restructuring and survival of such necessarily involve write-downs of claims. In insolvency plan company may ultimately be held liable vis-à-vis other creditors for proceedings, creditors can be crammed down on the basis of a allowing the company to continue trading without any reasonable corresponding insolvency plan, provided that such plan must be prospect to do so for the foreseeable future. To mitigate the risk approved by the insolvency court and the creditors (please see of such liability, the granting of funds to a distressed company is question 3.2). therefore generally subject to an expert opinion confirming that the work-out can be reasonably expected to be successful (the so-called 3.6 What impact does each restructuring procedure have restructuring opinion/IDW S6 Opinion). on existing contracts? Are the parties obliged to During the Preliminary Insolvency Proceedings, the operations perform outstanding obligations? Will termination and of the company are generally financed out of free, unencumbered set-off provisions be upheld? funds of the insolvency estate. In addition, funds required for the wages of the employees may If neither the creditor nor the company has performed all its result from a pre-financing of the so-called “insolvency protection obligations under a contract prior to the opening of insolvency payments” (Insolvenzgeld): if, and to the extent the company fails proceedings, the insolvency administrator may opt to implement to pay wages during the three-month period preceding the opening such agreement or refuse implementation. If he opts for of insolvency proceedings, the employees are entitled to receive implementation – generally because such agreement is favourable insolvency protection payments from the labour administration. for the estate – then creditors’ claims under such agreement are The insolvency protection payments only become due upon the privileged. Otherwise, creditors may only claim damages for non- opening of insolvency proceedings. Rather than paying the wages performance, with such damage claims being unsecured insolvency to the employees prior to the opening of the insolvency proceedings, claims. Contractual provisions to avoid the statutory option right the preliminary insolvency administrator often provides that the of the administrator are generally considered to be void. employees sell – with the consent of the labour administration – In relation to certain contracts, special rules may apply: their claims to receive the insolvency protection payments for ■ No option right exists if the company has sold real estate such period to a bank who pays out the corresponding cash to the to the creditor and a priority notice (Vormerkung) has been employees. Upon the opening of the insolvency proceeding, the registered with the land register in favour of the creditor. banks are then reimbursed by the labour administration, while the In this case, the creditor’s claim to have the real estate administrator has effectively saved cash which he may then use for transferred to it is not affected by the opening of insolvency. continuing the operations during the proceedings. ■ Lease agreements to which the company is a party as a tenant Once main insolvency proceedings have been opened, any claims are not automatically terminated. They may be terminated of the employees for wages for the period as of the opening of such by the administrator after the opening of proceedings with proceedings are privileged. an abbreviated notice period, whereas the landlord must not During the Preliminary Insolvency Proceedings, the preliminary terminate the lease for the sole reason that the tenant had defaulted prior to the opening of the proceedings. As the insolvency administrator may furthermore – upon special company cannot terminate the lease for such past default, the authorisation by the insolvency court – take up loans. The parties claim for rent payment relating to the period starting with the granting such loans in the subsequent insolvency proceedings will opening of proceedings is privileged. be considered Privileged Creditors as set out in question 4.6 below. ■ So-called “unilateral” agreements, like agency agreements or The preliminary insolvency administrator will, however, only take powers of attorney, automatically terminate by operation of out such loans if he is sure that the estate allows for their repayment. law upon the opening of the insolvency proceedings. Once the insolvency proceedings have been opened, the insolvency ■ Certain financial transaction agreements (such as financial administrator may likewise take up loans which then will give the collateral arrangements and close-out netting agreements) respective lenders priority as Privileged Creditors as set out in are settled by operation of law if the statutory conditions are question 4.6 below. fulfilled and only the balance can be claimed by a creditor. Creditors may set off sums against amounts owed by the company to them during insolvency proceedings, if both amounts had been 4 Insolvency Procedures owed and were both already due prior to the opening of insolvency proceedings. They may, furthermore, set off sums if such sums were 4.1 What is/are the key insolvency procedure(s) available owed by both parties before but became due only after the opening to wind up a company? of insolvency proceedings, in such case, however, only if creditors’ claims did not become due after the sums owed to the company. Even though regular insolvency proceedings and, in particular, No set-off is possible, inter alia, if the creditor had acquired his insolvency plan proceedings can be used to restructure a company claim only after the opening of insolvency proceedings, or if the either by selling off the operations as a whole or by restructuring claim becomes due after the claim owned by the company. A set-off the insolvent entity (see question 3.2), both procedures may also

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be used to wind up the insolvent debtor by means of selling off the administrator has to procure that such privileged creditors are estate on an asset-by-asset basis and laying off the employees. fully settled. If a full settlement of the privileged claims is not possible, the administrator faces personal liability. ■ Fourth Rank: Ordinary (Unsecured) Insolvency Creditors 4.2 On what grounds can a company be placed into each winding up procedure? These are creditors whose claims have arisen before the opening of insolvency proceedings and who are not subordinated creditors. They are entitled to the proceeds of The requirements to place a company into insolvency proceedings the unencumbered assets. which serve to wind up the company are the same as those for ■ Fifth Rank: Subordinated Creditors insolvency proceedings serving to rescue the insolvent business (see question 3.3 above). Subordinated creditors are creditors entitled to interest, Germany penalties or (in principle) creditors under shareholder loans and similar instruments. 4.3 Who manages each winding up process? Is there any Generally, the claims within each group are treated equally. court involvement? However, certain limitations may apply for specific claims.

Insolvency proceedings serving to wind up the company do not deviate from insolvency proceedings serving to rescue the insolvent 4.7 Is it possible for the company to be revived in the entity or the business operated by it (see question 3.4 above). future?

Once insolvency proceedings have been opened, the company can 4.4 How are the creditors and/or shareholders able to only be revived: (i) if insolvency proceedings are suspended upon influence each winding up process? Are there any restrictions on the action that they can take (including request of the insolvent debtor due to the fact that (y) all insolvency the enforcement of security)? reasons have been removed, or (z) all creditors have consented to the suspension; or (ii) upon approval of an insolvency plan providing In this respect, the same principles apply as in relation to insolvency that the company will continue to trade. proceedings serving to rescue the insolvent entity or the business operated by it (see question 3.5 above). 5 Tax

4.5 What impact does each winding up procedure have on 5.1 Does a restructuring or insolvency procedure give existing contracts? Are the parties obliged to perform rise to tax liabilities? outstanding obligations? Will termination and set-off provisions be upheld? The opening of insolvency proceedings does not change the tax In this respect, the same principles apply as in relation to insolvency regime. The insolvent company may therefore be obliged to pay proceedings serving to rescue the insolvent entity or the business income tax, corporate income tax, wage taxes, trade tax, or VAT. operated by it (see question 3.6 above). Generally, tax claims relating to periods prior to insolvency are not per se privileged. The tax effects of any haircuts applied under an insolvency plan, 4.6 What is the ranking of claims in each procedure, however, need to be reviewed in each case in detail, as such haircuts including the costs of the procedure? may result in a taxable gain on the level of the company even though the respective liability had not been worth anything anymore. In Generally, five groups of creditors need to be distinguished, as they the past, the tax authorities generally granted – upon application determine how and to what extent claims will be satisfied: – exemptions with respect thereto on the grounds of equity. Due ■ First Rank: Creditors Entitled to Segregation to recent court rulings, however, this is not possible anymore in These are beneficiaries of assets that do not form part of such form. It is expected though that the legislator will amend the insolvency estate, e.g. because they are owned by the the respective tax provisions to avoid that waiver gains under any relevant creditor, instead of the debtor. Those assets will be haircuts result in a taxable profit at the company which would make segregated from the estate and handed over to their owner or restructurings more difficult. other beneficiary. ■ Second Rank: Creditors Entitled to Separated Proceeds These are creditors who hold security rights over assets of 6 Employees the company. The assets encumbered with a right to separate satisfaction (e.g. ownership by security) will be liquidated by the administrator (see question 3.5 above). 6.1 What is the effect of each restructuring or insolvency procedure on employees? ■ Third Rank: Privileged Creditors Privileged creditors are, in particular, creditors (i) who entered The opening of insolvency proceedings does not automatically into an agreement with, or who were affected by certain actions of the insolvency administrator after insolvency terminate existing employment agreements. Clauses providing for proceedings had already been opened (e.g. the employees with an automatic termination are invalid. respect to wages as of the opening), (ii) under an agreement The insolvency administrator, however, may terminate the in relation to which the insolvency administrator exercised employment contracts with a three-month notice period, even if a the option to implement such agreement (see question 3.6 longer notice period would otherwise apply. If employees are not above), or (iii) under an agreement with a so-called “strong” laid off at once but rather consecutively, the German Employment preliminary insolvency administrator (see question 3.4). The Protection Act (Kündigungsschutzgesetz) applies, which means that

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each termination must be socially justified. Often, issues resulting and Apcoa), as well as pre-packed administration sale proceedings therefrom or from other restructuring measures affecting employees (A.T.U.) occurred. Mostly for cost reasons, this practice has been are settled in a “social plan”, which provides for compensation (and will likely remain) limited to larger companies. Please note payable to the employees. A claim under such a “social plan” is, if that English procedures have only been considered attractive where agreed after the opening of the insolvency proceedings, and within a company is in need of a pure financial, balance sheet restructuring. defined limits, a privileged claim. As regards companies also requiring an operational restructuring, In order to facilitate a sale of the operations of the company in German insolvency proceedings remain the instrument of first choice. the course of insolvency proceedings without the purchaser being obliged to assume under mandatory law all employees, employment 8 Groups agreements of parts of the workforce are often transferred to a special employment vehicle prior to any sale of the operations, Germany provided that the relevant employees consent to this. Such special 8.1 How are groups of companies treated on the employment vehicle will then – against a reimbursement of costs by insolvency of one or more members? Is there scope the administrator – provide for payment of the employees and their for co-operation between officeholders? future training. German insolvency law does not provide for a group concept, i.e. the insolvency of each company building part of a group of companies 7 Cross-Border Issues is dealt with separately. This means that: ■ insolvency triggers are tested separately in respect of each legal entity, and not on a group-basis; 7.1 Can companies incorporated elsewhere restructure or enter into insolvency proceedings in your ■ jurisdiction of the insolvency court will be tested separately jurisdiction? in respect of each legal entity, i.e. insolvency proceedings may be opened by different courts in relation to various legal entities forming part of the group; and If the company has its centre of main interest in Germany, German courts will open main proceedings in Germany, in which case ■ different individuals can be appointed as insolvency administrators in relation to each legal entity. the insolvent company has, in principle, access to the insolvency procedures described above. While maintaining the concept of individual insolvency proceedings for each of the insolvent group entities, changes to the insolvency law coming into effect in spring 2018 will allow for and require more 7.2 Is there scope for a restructuring or insolvency coordination between such proceedings, inter alia, by permitting: process commenced elsewhere to be recognised in your jurisdiction? ■ that only one single insolvency court is competent for all proceedings; Pursuant to the EU Insolvency Regulation no. 2015/848, a court ■ that the same individual is appointed as an insolvency decision made in another Member State to open main insolvency administrator for each of the various group companies; proceedings in such other Member State will automatically be ■ the establishment of a group creditors’ committee which, recognised by German courts, unless such proceedings are contrary however, is only advising on the coordination and does not to public order. Furthermore, the acts and/or measures of the assume the rights – in particular the consent rights – of the creditors’ committees in the individual group companies; and insolvency administrator of such other jurisdiction will generally be recognised. ■ the appointment of a coordinator and the establishment of a coordination plan which, however, does not replace the With regard to cross-border insolvency proceedings relating to insolvency administrators in the group companies and the debtors outside the EU, or debtors to which the EU Regulation does individual implementation of the insolvency proceedings not apply (like credit institutions and insurance undertakings), the in each of the group companies but shall only encourage a general provisions on international insolvency proceedings apply. coordinated process. In substance, they correspond to the provisions of the EU Insolvency The effects of these measures in practice remain to be seen. Regulation. Foreign insolvency proceedings are recognised, provided that under German law the foreign court was competent and such proceedings are not contrary to public order in Germany. 9 Reform

7.3 Do companies incorporated in your jurisdiction 9.1 Are there any proposals for reform of the corporate restructure or enter into insolvency proceedings in rescue and insolvency regime in your jurisdiction? other jurisdictions? Is this common practice? In the course of 2017, the EU commission will – based on a draft Over the last 15 years, it has become increasingly common for submitted in 2016 – most likely issue a directive for harmonisation large companies incorporated in Germany to restructure in other in the area of insolvency law which, inter alia, will provide for jurisdictions. This trend initially started with restructurings of German the implementation of a pre-insolvency restructuring procedure. companies in the US under Chapter 11 proceedings, whereas over the Following such directive, the German legislator within two years last few years, a number of pure financial restructurings by means will have to introduce a formal pre-insolvency procedure – which is of English procedures, such as company voluntary arrangements currently heavily debated amongst German restructuring insolvency (Schefenacker), schemes of arrangements (Rodenstock, Primacom law experts.

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Dr. Ulrich Blech Dr. Martin Tasma Hengeler Mueller Partnerschaft von Hengeler Mueller Partnerschaft von Rechtsanwälten mbB Rechtsanwälten mbB Behrenstraße 42 Behrenstraße 42 10117 Berlin 10117 Berlin Germany Germany

Tel: +49 30 2037 4195 Tel: +49 30 2037 4140 Email: [email protected] Email: [email protected] URL: www.hengeler.com URL: www.hengeler.com

Germany Ulrich Blech has been a Partner with Hengeler Mueller since 1995. Martin Tasma is a Senior Associate with Hengeler Mueller. He joined From 2000 to 2003 he was resident in London. the firm in 2012. In 2015 and 2016, he was resident in thefirm’s London office and spent time on secondment to the special situations His activities are focused on advising German as well as international team of a US law firm. Prior to joining Hengeler Mueller, he spent time clients on transactions in Germany. in the financial restructuring group of a US investment bank. Mr. Blech has a broad M&A practice and constantly advises German as Mr. Tasma’s activities are focused on advising international clients on well as international clients on transactions in Germany. debt and equity restructurings, distressed M&A transactions, as well as He is, however, in particular, experienced in transactions relating to contentious and non-contentious insolvency law matters. In distressed companies in need of restructuring. He advises foreign clients on the situations, he advises borrowers and lenders, as well as distressed acquisition of operations from all insolvent sellers either as a prearranged debt investors. His assignments include representing Royal Imtech transaction or as a transaction resulting from auctions organised by the N.V. in its restructuring of financial liabilities of approximately EUR Insolvency Administrator. He was, inter alia, active in an offer to acquire 1.3bn. Most lately, he advised the biggest creditor of the German oil the insolvent Karstadt Group out of an insolvency plan. Most lately he and gas safety tools producer Bartec, Delff Management, on Bartec's advised Redknee Solutions Inc. on the acquisition of the Orga Systems financial restructuring. Group out of an insolvency proceeding.

Hengeler Mueller is universally recognised to be one of Europe’s pre-eminent law firms. It is dedicated to absolute quality of legal advice, the highest standards of service, and to delivering the most creative and efficient solutions designed to optimise clients’ business objectives. The prerequisite: an independent partnership of professionals; entrepreneurial both in thinking and practice; international both in education and training.

Hengeler Mueller’s M&A Team has sixty partners located in Düsseldorf, Frankfurt, Berlin, Munich, Shanghai and London. A Group of six partners, comprising partners from the M&A Team as well as partners with a financing background, have special focus on restructuring measures in and outside of insolvency proceedings.

The firm advises on all major M&A transactions for financial as well as strategic investors.

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Hong Kong Nick Gall

Gall Ashima Sood

company approaches insolvency, a director has a duty to take into 1 Overview account the interests of the company’s creditors. If he/she breaches those duties, he/she may be ordered to compensate the company 1.1 Where would you place your jurisdiction on the for any loss or damage that has been suffered as a result of those spectrum of debtor to creditor-friendly jurisdictions? breaches or repay, restore or account for the money or property appropriated or acquired. Hong Kong’s insolvency regime, like its commonwealth Misfeasance counterparts, has always been very creditor-friendly. In the Where a director has breached his duties to the company by right circumstances, courts even have the power to exercise their misapplying or retaining any money or property, the court can compel discretion to wind up foreign companies. Although the statutory repayment of money or restoration of property or contribution by rescue procedure under the Companies Ordinance of Hong Kong way of compensation by that director. by way of a scheme of arrangement is designed to provide a Fraudulent Trading debtor company with more control than the traditional insolvency A director may be personally liable if he/she was knowingly involved proceedings, the scheme is still required to be approved by the in carrying on any business of the company with the intent to company’s creditors and the court. defraud its creditors. The court may make an order that the director be personally liable for all or any of the debts and liabilities of the 1.2 Does the legislative framework in your jurisdiction company. He is also exposed to criminal liability and potentially allow for informal work-outs, as well as formal liable to a fine and imprisonment. restructuring and insolvency proceedings, and are Disqualification each of these used in practice? A director may be disqualified for a period of up to 15 years if he/ she: engages in fraudulent trading; is unfit to be concerned in the The Companies Ordinance of Hong Kong provides for the following management of a company; is convicted of an indictable offence formal restructuring and insolvency procedures for companies in in connection with the promotion, formation, management, or financial difficulties: liquidation of any company such as falsifying company’s books; or (1) a members’ voluntary liquidation; is found guilty of any other misconduct in relation to the company. (2) a creditors’ voluntary liquidation; Whether or not a company must enter a restructuring or insolvency (3) a compulsory liquidation; process will depend on various factors, including whether it is (4) appointment of a receiver; and solvent or not. A solvent company will be able to restructure using (5) a scheme of arrangement. schemes of arrangement at any time. In practice, most restructurings take place by way of informal work- outs, compositions and arrangements essentially made by agreement 2.2 Which other stakeholders may influence the of the parties concerned. company’s situation? Are there any restrictions on the action that they can take against the company?

2 Key Issues to Consider When the Insolvency Company is in Financial Difficulties In a creditors’ voluntary liquidation and a compulsory liquidation, generally the creditors have the most significant influence on the 2.1 What duties and potential liabilities should the company’s situation. In a compulsory liquidation, the creditors directors/managers have regard to when managing a initiate the process and are also responsible for nominating and voting company in financial difficulties? Is there a specific for the appointment of a liquidator, and a committee of inspection point at which a company must enter a restructuring to supervise the liquidator in the conduct of the liquidation. In a or insolvency process? creditors’ voluntary liquidation, the liquidator nominated by the creditors will normally prevail in the event of a conflict with the General/Common Law Duties liquidators appointed by the shareholders and creditors. As a general rule, the director of a company has certain fiduciary Unsecured creditors have limited rights in any liquidation as they duties towards the company and its members. However, as a are ranked the lowest amongst all creditors. Secured creditors, on

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the other hand, stand outside the liquidation as they are generally Disposition of Property after Presentation of Petition and Transfers entitled to be paid out of the proceeds of their security ahead of all after Commencement of Voluntary Winding Up other claims. In a compulsory liquidation, any disposition of the company’s Restructuring property (including transfer of shares) after a winding up petition In a restructuring (whether formal or not), it is again the creditors is presented, will be void, unless otherwise approved by the court. who have the most significant influence on the company’s situation. The court may make a validating order where a proposed sale of a company’s assets would be beneficial not only for the company but As there are no provisions of moratorium, the fact that a company also for its secured creditors. However, if the transaction involves is in the process of restructuring does not prevent an individual an arrangement between a number of classes of creditors and the creditor from suing the company, seizing the company’s property or company, it will be wrong for the court to grant the order. presenting a winding up petition.

Hong Kong In a voluntary liquidation, any transfer of shares (other than transfer made to or with the sanction of the liquidators) and any alteration in 2.3 In what circumstances are transactions entered the status of the members of the company after the commencement into by a company in financial difficulties at risk of of a voluntary winding up, will be void, unless it was made with the challenge? What remedies are available? sanction of the liquidator.

Transactions at an Undervalue and Unfair Preferences A transaction at an undervalue takes place when the company makes 3 Restructuring Options a gift or enters into a transaction with a person without receiving any consideration, or enters into a transaction for a consideration, the 3.1 Is it possible to implement an informal work-out in value of which is significantly less than the value of the consideration your jurisdiction? provided by the company. The liquidator may challenge the validity of any such transactions which took place five years prior to the Yes. Most restructurings in Hong Kong take place by way of commencement of the winding up. informal work-outs, compositions and arrangements essentially An unfair preference occurs where a payment has been made made by agreement of the parties concerned. by the company to a creditor when it is insolvent, but before the commencement of its winding up, with the effect of putting the creditor in a better position than it would otherwise have been 3.2 What formal rescue procedures are available in your in the liquidation of the company. The liquidator may challenge jurisdiction to restructure the liabilities of distressed companies? Are debt-for-equity swaps and pre- the validity of any such transactions which took place two years packaged sales possible? prior to the commencement of the winding up if the creditors are ‘associates’ (e.g. director or employee) or six months for any other There are no formal procedures available to achieve a restructuring creditor. If the challenge is successful, the court may restore the of the company’s debts in Hong Kong. The only exception is a position to what it would have been if the company had not entered scheme of arrangement. The Companies Ordinance of Hong into the relevant transaction. Kong provides for procedures for court-sanctioned schemes of Extortionate Credit Transaction arrangements which may be entered into by a company with its The court may set aside any extortionate credit transactions entered creditors or members, or both and for companies’ amalgamation (as into three years before the commencement of a voluntary winding among group companies). up, the date on which a special resolution was passed to wind up the A debt-for-equity swap arrangement may form part of a restructuring company or on the date of the winding up order made by the court. of a company. This will generally involve the dilution or elimination A transaction will be considered extortionate if, having regard to the of existing shareholders’ equity in the company. risk accepted by the person providing the credit, the terms require Unlike many jurisdictions, there are no statutory provisions on grossly exorbitant payments in respect of the provision of credit or pre-packaged insolvencies in Hong Kong, or any arrangement grossly contravene ordinary principles of fair dealing. whereby the business of the company is carried on under a new and Fraudulent Conveyance separate special corporate vehicle. That said, it is nevertheless not Every disposition of the company’s property made with the intent to uncommon for companies to be restructured under a pre-packaged defraud the creditors is voidable and may be set aside by the court. The arrangement. exceptions are those made in good faith for valuable consideration and without notice of the intent to defraud creditors. The transfer of 3.3 What are the criteria for entry into each restructuring property must have been made with the deliberate intention of trying procedure? to put the company’s assets beyond the reach of the creditors. The court may infer an intention to defraud in circumstances where the There are no specific criteria to be met by a company before transaction was for little or no consideration. negotiating a work-out or a scheme of arrangement. That being said, Floating Charges restructuring arrangements have to be agreed by, and made binding A floating charge created in favour of a person who is connected with on, all creditors, otherwise a dissenting creditor may frustrate the the company two years prior to the commencement of a winding up rescue plan and petition for a winding up. will be invalid unless the company was solvent immediately after the charge was created or new consideration was provided for the 3.4 Who manages each process? Is there any court charge. For floating charges created in favour of persons who are involvement? not connected with the company, the relevant clawback period is 12 months. A work-out is managed by the creditor(s) and the management of the company.

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On the contrary, a scheme of arrangement is substantially supervised by the court, although the management of the company remains 4 Insolvency Procedures in place throughout the restructuring process. Once a proposal has been devised and presented to the shareholders and creditors, 4.1 What is/are the key insolvency procedure(s) available an application is made to the court to convene meetings of the to wind up a company? respective classes of shareholders and creditors. After the court makes an order that the meetings of the respective The key insolvency procedures available to wind up a company are classes of creditors and shareholders can be convened, notice of the as follows: date and time of these meetings is advertised. At these meetings: (a) (1) a members’ voluntary liquidation (it should be noted that this a majority of 75 per cent in value; and (b) 50 per cent in number is is a solvent liquidation); required to approve the proposed scheme. (2) a creditors’ voluntary liquidation; and Hong Kong After approval, a petition for sanction must be issued and, at the (3) a compulsory liquidation. hearing of such petition, the court will consider whether or not to sanction the scheme. If the scheme is sanctioned by the court, a 4.2 On what grounds can a company be placed into each copy of the relevant court order must be filed with the Companies winding up procedure? Registry in Hong Kong.

A members’ voluntary liquidation is only available where the 3.5 How are creditors and/or shareholders able to company is solvent. Having made a full inquiry into the company’s influence each restructuring process? Are there any affairs, the directors must have also formed an opinion that the restrictions on the action that they can take (including company will be able to pay all its debts within 12 months of the the enforcement of security)? Can they be crammed commencement of the winding up and sign a certificate of solvency down? to that effect. The shareholders must also pass a special resolution to wind up in a General Meeting. The fact that a company is in the process of negotiating a work-out A creditors’ voluntary liquidation will occur where the company or putting in place a scheme of arrangement does not prevent an decides to place itself into voluntary liquidation but the directors individual creditor from suing the company, seizing the company’s are unable to certify the solvency of the company (i.e. the company property or presenting a winding up petition. Some (often smaller) is insolvent), or the liquidator is at any time of the opinion that the creditors will deliberately take such actions once they know: company will not be able to pay its debts in full within the specified (a) they are not getting a better deal from the proposed scheme of period. arrangement or even paid off in full; and A compulsory winding up order may be made by the court where: (b) that major creditors are in favour of the scheme of arrangement. (1) the company has passed a special resolution for winding up by the court; The only way of cramming down dissenting creditors is in a (2) the company has failed to commence its business within one sanctioned scheme of arrangement. If a scheme of arrangement is year from its incorporation, or suspends its business for a sanctioned by the court, it becomes binding on all creditors and, as a whole year; result, the rights of creditors may change. Until that point, however, (3) the company has no members; unsecured creditors may take any enforcement actions available to (4) the company is unable to pay its debts as and when they fall them against the company. due; (5) the event, if any, occurs if the memorandum and articles 3.6 What impact does each restructuring procedure have provide that the company is to be dissolved; or on existing contracts? Are the parties obliged to (6) the court is of the opinion that it is just and equitable that the perform outstanding obligations? Will termination and company be wound up. set-off provisions be upheld?

A work-out or a scheme of arrangement has no effect on the 4.3 Who manages each winding up process? Is there any contracts of a company. The insolvency regime in Hong Kong does court involvement? not provide for any set-off in schemes of arrangements. A voluntary liquidation is managed by the directors of the company until the appointment of the liquidator. 3.7 How is each restructuring process funded? Is any protection given to rescue financing? A compulsory winding up is commenced by issuing a petition against the company. The court will hear the petition and make an order for compulsory winding up if it is satisfied that grounds for A consensual restructuring on an informal basis can be achieved winding up have been established. It is managed by a provisional through a debt-for-equity swap, which involves the creditors liquidator, Official Receiver or the liquidator, as the case may be. exchanging some or part of their debt for shares in the company, the issuance of convertible notes at a low rate of interest with an option of converting into shares, and/or through ‘white knight’ investors. 4.4 How are the creditors and/or shareholders able to influence each winding up process? Are there any Currently, there is no legislation granting any protection to rescue restrictions on the action that they can take (including financing. the enforcement of security)?

On the appointment of a liquidator in a members’ voluntary liquidation, all the powers of the directors cease, although a liquidator or the shareholders in a General Meeting can sanction

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their continuance. Similarly, in a creditors’ voluntary liquidation, In a compulsory winding up, the liquidator can apply to the court for the powers of the directors will also cease. However, the committee an order to permanently dissolve the company once the affairs of the of inspection or, if there is no committee, the creditors, can sanction company have been completely wound up. Dissolution brings the their continuance. In contrast, appointments of directors, agents company to an end. and employees are automatically terminated when the court makes a winding up order under a compulsory winding up. 5 Tax The rights of the shareholders will also lapse, although it is worth noting that the shareholders may still vote in a General Meeting for the continuance of the directors’ powers in a members’ voluntary 5.1 Does a restructuring or insolvency procedure give liquidation. rise to tax liabilities?

Hong Kong Unsecured creditors have limited rights in any liquidation as they are ranked the lowest amongst all creditors. When a winding up If the company continues to trade or sells its assets, it would be order has been made or a provisional liquidator has been appointed, subject to tax on its profits. creditors must seek leave from the court to continue with, or commence proceedings against, the company. An unsecured creditor would not be ranked higher than other creditors even if 6 Employees leave was granted in his favour to proceed or commence an action against the company in compulsory liquidation and the action is 6.1 What is the effect of each restructuring or insolvency successful. procedure on employees? On the other hand, secured creditors stand outside the liquidation as they are entitled to be paid out of the proceeds of their security ahead Restructuring of all other claims. That said, if the security created is a floating A work-out or a scheme of arrangement has no effect on employees. charge, the preferential debts (e.g. sums owing to employees and the Insolvency government) must be paid before the floating charge holder. On a compulsory winding up, all employment contracts will be automatically terminated, unless the court orders otherwise. On the 4.5 What impact does each winding up procedure have on other hand, the commencement of a voluntary liquidation does not existing contracts? Are the parties obliged to perform automatically terminate the service contracts of employees. In the outstanding obligations? Will termination and set-off provisions be upheld? event an employee’s contract is terminated, that employee becomes a preferential creditor of the company in respect of their unpaid wages, severance payments, etc. They could expect to receive ex See the answer to question 2.3 above in respect of avoidance of gratia payments out of the Hong Kong Protection of Wages on disposition of property after presentation of petition and avoidance Insolvency Fund if the company which employed them was put into of transfers after commencement of a voluntary winding up. As liquidation. explained in question 2.3 above, the liquidator also has the power to avoid or set aside certain transactions to “claw back” assets of the company in order to increase the funds available to distribute 7 Cross-Border Issues to creditors. Set-off applies in liquidation where there have been mutual credits or mutual debts or other mutual dealings between the company and 7.1 Can companies incorporated elsewhere restructure or enter into insolvency proceedings in your the creditor before a winding up order is made. jurisdiction?

4.6 What is the ranking of claims in each procedure, Whilst the United Nations Commission on International Trade including the costs of the procedure? Law (UNCITRAL) has adopted the Model Law on Cross-Border Insolvency, there are no statutory provisions in Hong Kong to The order of payment in a liquidation is generally as follows: implement the UNCITRAL Model Law. Notwithstanding this, (1) expenses of the winding up, including the liquidator’s a foreign liquidator may initiate a new liquidation in Hong Kong remuneration. The order of priority of the costs in a winding against the foreign company. However, the court will only exercise up is set out in rule 179 of the Companies (Winding up) Rules its discretion to make a winding up order against a foreign company (Cap. 32H); if, amongst other requirements, there is sufficient connection within (2) preferential debts; the jurisdiction of Hong Kong. (3) any preferential charge on distrained goods; (4) the company’s general creditors; and 7.2 Is there scope for a restructuring or insolvency (5) shareholders. process commenced elsewhere to be recognised in your jurisdiction?

4.7 Is it possible for the company to be revived in the A foreign liquidator may be able to protect assets of a foreign debtor future? in Hong Kong where the foreign winding up order is extraterritorial (i.e. extends to assets situated in Hong Kong) and is fair (i.e. does In a voluntary liquidation, the company will be permanently not depart from the pari passu rule for treating all creditors equally). dissolved three months after the liquidator files the final account and In order to achieve this, the foreign liquidator may commence return with the Companies Registry in Hong Kong following the proceedings in Hong Kong seeking a declaration regarding the final meeting of creditors. effect of the foreign insolvency proceedings and to recover debts.

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8 Groups (b) a moratorium on creditors’ claims; Hong Kong (c) provisions relating to payment of outstanding wages and benefits to employees; and 8.1 How are groups of companies treated on the insolvency of one or more members? Is there scope (d) stringent provisions for insolvent trading in order to for co-operation between officeholders? encourage directors to initiate provisional supervision at an early stage. Hong Kong does not have the concept of a group liquidation. The Companies Amendment Ordinance which came into effect in Generally, in a winding up of a group company/companies, each February 2017 introduces significant amendments to streamline company of the group is treated as a separate legal entity and the the winding up process and provide enhanced creditor protection. interest of a single company is not sacrificed for the larger interest However, the above proposed reforms have not been included in the of the group. To secure co-operation and also for practical reasons, Amendment Ordinance and it, therefore, remains to be seen whether the court may permit the same liquidator to take control of insolvent these changes will be brought about in Hong Kong’s insolvency companies within a group, subject to any conflict of interest. regime in the near future.

Nick Gall Ashima Sood Gall Gall 3/F, Dina House, Ruttonjee Centre 3/F, Dina House, Ruttonjee Centre 11 Duddell Street, Central 11 Duddell Street, Central Hong Kong Hong Kong

Tel: +852 3405 7688 Tel: +852 3405 7688 Email: [email protected] Email: [email protected] URL: www.gallhk.com URL: www.gallhk.com

Nick Gall is Senior Partner and head of the insolvency practice at Gall. Ashima Sood is a Legal Analyst at Gall. She has experience in The firm is highly regarded in this area in Hong Kong, having received commercial and corporate litigation as well as contentious insolvency favourable mentions in the most recent editions of The Legal 500 Asia matters including: shareholders’ and directors’ disputes; identification, Pacific and Chambers & Partners Asia-Pacific. protection and realisation of assets in insolvent estates; security enforcement; corporate and personal debt recovery; and cross-border The firm’s contentious insolvency expertise includes advising insolvency issues. appointment takers such as liquidators, provisional liquidators and receivers, applications for the appointment of provisional liquidators, identification, protection and realisation of assets in insolvent estates, investigations and examinations, security enforcement, corporate and personal debt recovery and advising on cross-border insolvency issues.

Gall is a specialist dispute resolution law firm with a team of 17 lawyers, making it one of the larger commercial litigation practices in Hong Kong. The partners are all City-trained trial lawyers and have extensive experience in a wide variety of litigation, mediation and arbitration.

Gall’s exclusive focus on dispute resolution sets the firm apart from other law firms in Hong Kong.

Gall has a strong contentious insolvency practice. The team consists of experienced, responsive and solutions-oriented insolvency litigators who have regularly acted in high-profile insolvencies and corporate collapses that have taken place in Hong Kong. They have all received favourable mentions over the years in publications such as The Legal 500 Asia Pacific, Chambers & Partners Asia-Pacific and Euromoney’s Guide to the World’s Leading Insolvency & Restructuring Lawyers.

The partners receive instructions from almost all of the well-known insolvency firms and practitioners in Hong Kong. The firm’s clients also include other types of appointment takers, creditors, bondholders, financial institutions, investment funds, distressed companies and company directors and practitioners in Hong Kong.

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India Alok Dhir

Dhir & Dhir Associates Bhuvan Arora

1 Overview 1.2 Does the legislative framework in your jurisdiction allow for informal work-outs, as well as formal restructuring and insolvency proceedings, and are 1.1 Where would you place your jurisdiction on the each of these used in practice? spectrum of debtor to creditor-friendly jurisdictions? The legislative framework in India for insolvency and bankruptcy Until the recent past, the Indian legal framework, to deal with proceedings provides for only formal processes and is presently restructuring and insolvency was fragmented across multiple being largely governed by the Code which covers a wide range of legislations viz. the Companies Act, 1956, the Sick Industrial restructuring, viz. re-organisation through a scheme for compromise, Companies (Special Provisions) Act, 1985, the Securitisation and arrangements and reconstruction or financial, capital and business Reconstruction of Financial Assets and Enforcement of Security restructuring. Failure to reach an understanding/resolution with the Interest Act, 2002 (SARFAESI Act), the Recovery of Debts due to creditors under the Code shall lead to liquidation of the Corporate Banks and Financial Institutions Act (RDDBFI Act), 1993, etc. Debtor. All the above legislations were largely skewed towards the debtor In addition to the above, there are several non-statutory informal in possession regime, i.e. the debtors remained in possession mechanisms based on the various circulars and guidelines issued by and control of the assets and were solely responsible for these or the Reserve Bank of India (RBI), the banking regulator which lays otherwise, albeit with restrictions on their disposal in accordance down the modalities and requisites to carry out the restructuring with the provisions of the respective legislations of debts, viz.: Bilateral Restructuring; Corporate Debt Restructuring However, the legal framework in India to deal with the Insolvency (CDR); Joint Lenders’ Forum (JLF); Flexi Restructuring Scheme; and Bankruptcy situation, has undergone a paradigm shift with the Change of Management through a Strategic Debt Restructuring enactment and coming into force of the Insolvency and Bankruptcy (SDR); Change of Management outside of SDR and Scheme for Code, 2016 (IBC, 2016 or the Code), with effect from 1.12.2016. Sustainable Structuring of Stressed Assets (S4A). The provisions of the Code are focused on a ‘Creditor in Possession’ Each of the formal processes of insolvency and bankruptcy and the regime concept wherein right from the admission of the application informal processes of restructuring are widely prevalent in India by the Adjudicating Authority (AA) until the time the resolution and, usually, corporate initially resort to the informal modes of plan is sanctioned by the AA, the creditors of the Corporate Debtor, restructuring and move towards the formal modes upon failure of through their appointed Resolution Professional (RP), remain in restructuring under the former. However, the system is likely to possession and control of the assets of the Corporate Debtor. The undergo a change because unlike the previous regime, the present company continues to be run and controlled by the Resolution legislative mechanism operates in a Creditor Friendly regime as Professional until a resolution plan is sanctioned by the AA or a such it will be dependent upon the commercial wisdom of both liquidation order is made to that effect by the AA. For making the debtor and creditor as to which mechanism is to be resorted to any decision during the Corporate Insolvency Resolution Process address the financial distress situation. (CIRP) of the Corporate Debtor, the consent of 75% or more of the members of Committee of Creditors (COC) having a voting right is mandated under the Code. The Code further provides that, upon the 2 Key Issues to Consider When the liquidation order being made, the Resolution Professional continues Company is in Financial Difficulties to perform the duties of that of a liquidator for sale of liquidation estate of the Corporate Debtor and distribution proceeds thereof amongst the creditors in the manner as provided in the Code. 2.1 What duties and potential liabilities should the directors/managers have regard to when managing a As such, it can be safely concluded that the present legislation in our company in financial difficulties? Is there a specific country, to deal with the insolvency and bankruptcy of corporate/ point at which a company must enter a restructuring non-corporate entities, is creditor friendly. or insolvency process?

The directors, managers and all the key managerial personnel of the Corporate Debtor are required to act honestly, without negligence and in the bona fide best interest of the company. Directors are further expected to make proper use of their powers, not to fetter

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their discretion for any reason whatsoever, and must not place for the previous two years. If during the course of verification themselves in a position in which their personal interest or duties to of the transaction, it comes to the knowledge of the Resolution other persons may conflict with their duties to the companies, except Professional or if he is of the opinion that Corporate Debtor has with the informed consent of the company. undertaken certain preferential transactions or entered into an In terms of the Companies Act, 2013, there is no restraint on the undervalued transaction or extortionate credit transaction or any directors in continuing to trade, albeit with bona fide intentions, other transaction which may have the effect of defrauding the whilst a company is in financial difficulties. creditors, during the relevant time (a period of two years in case of transaction with related parties and a period of one year in other However, in terms of the provisions of the Code, upon admission of cases), the Resolution Professional may approach the Adjudicating the application of the Corporate Debtor by the AA, the management Authority with an application seeking appropriate orders, including India of the affairs of the Corporate Debtor vests with the Interim reversal of such transactions. Resolution Professional (IRP), the powers of the Board of Directors or the partners of the Corporate Debtor, as the case may be, are ‘Transactions’ as defined in the Code include: transfer of property suspended and the same vest with the IRP and all the officers and or an interest thereof of the Corporate Debtor for the benefit of a managers of the Corporate Debtor are obligated to report to the IRP. creditor or a surety or a guarantor for or on account of an antecedent financial debt or operational debt or other liabilities owed by the Filing of an application for initiation of the CIRP against a Corporate Corporate Debtor which has the impact of putting such creditor or Debtor, under the code, is not mandatory. Instead it is discretionary a surety or a guarantor in a more beneficial position than it would and upon the occurrence of a default of an amount of or in excess have been in the event of a distribution of assets; gifts to a person; of Rs. 1.00 Lakh, any Financial Creditor/Operational Creditor or the undervalued transactions and extortionate credit transactions. Corporate Debtor itself may file an application before the AA for initiation of CIRP against the Corporate Debtor. In addition, once a secured creditor issues a notice under Section 13(2) of the SARFAESI Act, there is a suo moto restraint on transfer of the secured assets by sale, lease or otherwise and any attempt 2.2 Which other stakeholders may influence the to enter into transactions in respect of the secured assets of the company’s situation? Are there any restrictions on the company can be annulled by the appropriate court of law. action that they can take against the company? Any other transaction entered into by a company in financial The provisions of the IBC, 2016, empower any creditor of a Corporate difficulty to carry out its normal course of business or activities is Debtor, irrespective of it being a Financial or Operational Creditor otherwise not susceptible to any limitation in the absence of any or secured or unsecured creditor, to make an application before the restraining order. Adjudicating Authority to initiate the Corporate Insolvency and Resolution Process against the Corporate Debtor in the event of there 3 Restructuring Options being a default by the Corporate Debtor in making payment of their dues for an amount of Rs. 1.00 Lakh or more. Under the provisions of the SARFAESI Act, the secured Financial Creditors may take 3.1 Is it possible to implement an informal work-out in measures to enforce their security interest without the intervention your jurisdiction? of the court. Under the provisions of the RDDBFI Act, banks and financial institutions are eligible to make an application before The informal mechanism for restructuring is possible under the the Debt Recovery Tribunal (DRT) (the concerned Adjudicating aegis of the various circulars and guidelines promulgated by the Authority) for recovery of their dues from the Corporate Debtor. RBI. The distressed entity may enter into Bilateral Restructuring However, under the provisions of the IBC, 2016, immediately with its lenders or it may resort to Corporate Debt Restructuring upon admission of the application by the Adjudicating Authority, a (CDR), a voluntary, non-statutory system that allows a financially moratorium is declared under Section 13 of the Code with regard to distressed company with two or more lenders and debts of more matters contained under Section 14 of the Code; i.e. there is a restraint than INR. 100 million to restructure its debts with the super- on continuation of any coercive recovery proceedings, including: majority consent (value wise) and by 60% consent in numbers, of suits; execution of any judgments, decrees or orders in any court of its CDR member lenders, and the decisions thereof shall be binding law, tribunal or other authority; restriction or transfer, encumbrance, on all member lenders. The CDR mechanism is based on debtor- alienation or disposal by the Corporate Debtor of any of its assets or creditor agreements (DCAs) and inter-creditor agreements (ICAs), any legal right or beneficial interest therein; and a prohibition on any which provide the legal basis for the whole mechanism. Debtors are action to foreclose, recover or enforce any security interest created required to execute a DCA and abide by the terms therein and the by the Corporate Debtor in respect of its property including any lenders execute an ICA which is a legally binding agreement among action under the SARFAESI Act. them to agree to abide by the policies and systems of the CDR mechanism along with a ‘stand still’ clause for a period ranging from 90 to 180 days. 2.3 In what circumstances are transactions entered into by a company in financial difficulties at risk of In addition to the above, the RBI has also issued guidelines for challenge? What remedies are available? restructuring of debts through the formation of a Joint Lenders Forum (JLF) and formulation of a Corrective Action Plan (CAP) Under the IBC 2016, the Resolution Professional appointed by the with the consent of the majority of the JLF members. The RBI has Adjudicating Authority at the time of admission of the application also promulgated the Flexi Restructuring Plan, which enables banks filed by the Financial Creditor or Operational Creditor orthe to lend and restructure the infrastructure debt for a longer period Corporate Debtor for initiation of the Corporate Insolvency and of 20–25 years with an option of refinancing the same every five Resolution Process against the Corporate Debtor is, inter alia, years. Recently, with the objective of ‘the shareholders should bear obligated to manage the affairs of the Corporate Debtor and to the first loss as compared to lenders’, the RBI issued guidelines for collect all information relating to the assets, finance and operations effecting ‘change of management’ by the lenders under the aegis of of the Corporate Debtor and the financial and operational payments ‘Strategic Debt Restructuring’, which enables the lenders to convert

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the entire or a portion of their debt into equity of the borrower and IBC, 2016 is not mandatory, and instead depends on the discretion thereafter transfer the same in favour of ‘new promoter’ within a of the Financial/Operational Creditors whose debts remain unpaid specified window and also consider refinancing debt to the‘new or the Corporate Debtor. promoter’. To tackle the growing challenge of stressed assets A scheme of arrangement can be filed under Section 230 of the emanating from loans given to large corporates turning bad, the Companies Act, 2013 by a company, its creditors or shareholders in RBI brought out the Scheme for Sustainable Structuring of Stressed the event of the said entity facing financial difficulties. Assets (S4A), which was an improvisation over its last two tools to In terms of the provisions of SARFAESI Act, the ARCs may acquire help banks limit fresh slippages to non-performing assets from large the debts of the Corporate Debtor or the lenders may decide to corporate exposures. Recently, pursuant to the amendments to the assign their debt in favour of one or more ARCs post classification/ India Banking Regulation Act, 1949, introduced through the ordinance identification of the borrowers account as a Non Performing Asset and notification issued by the Central Government, the RBI has (NPA) i.e. in default for payment of due interest/instalment for a been empowered to issue directions with regard to stressed assets period of 90 days. and specify one or more authorities or committees to advise banking companies on the resolution of stressed assets. 3.4 Who manages each process? Is there any court involvement? 3.2 What formal rescue procedures are available in your jurisdiction to restructure the liabilities of distressed companies? Are debt-for-equity swaps and pre- The Code provides for an Interim Resolution Professional/ packaged sales possible? Resolution Professional (IRP/RP) who shall, immediately upon admission of the application by the Adjudicating Authority, take The formal procedure for restructuring encompasses, within its charge of the management of affairs of the Corporate Debtor. It ambit, schemes of reconstruction, takeovers, mergers, demergers, is the IRP/RP who takes control and custody of the assets of the transfer of undertakings and restructuring of debts as provided in Corporate Debtor during the continuation of the CIRP. The IRP/ Section 230–240 of the Companies Act, 2013 by way of which the RP, being an appointed officer on behalf of the creditors, runs the liabilities of the distressed companies can be restructured. Further, in complete process of the CIRP of a Corporate Debtor and in case the event of initiation of a Corporate Insolvency Resolution Process there is any discrepancy/difficulty being countered by him due to against the Corporate Debtor under IBC 2016, the Resolution any action/inaction of the Corporate Debtor or any Key personnel of Professional shall invite resolution plans from the prospective the Corporate Debtor, he may approach the Adjudicating Authority Resolution Applicants; such plans may also be based on one or more with an application seeking appropriate directions. Hence, there is mechanisms as discussed above, subject to the compliance of the not much intervention by the court and its role is only to expedite conditions as laid down under Section 30(2) of the IBC, 2016. the entire process as the CIRP is based on a resolution plan duly approved by the Committee of Creditors (COC) with super majority A company can choose a pre-packaged sale with the consent vote i.e. by 75% or more of the voting rights. of the majority of its secured creditors and the manner in which repayments are to be made to them and, accordingly, place a scheme of arrangement as provided under section 230–231 of the Companies 3.5 How are creditors and/or shareholders able to Act, 2013, for the approval of the court. influence each restructuring process? Are there any restrictions on the action that they can take (including Debt-for-equity swaps can be used as a tool for restructuring as duly the enforcement of security)? Can they be crammed recognised/provided for in restructurings undertaken under sections down? 230–231 of the Companies Act, 2013 as well as the resolution plans that may be submitted by the Resolution Applicants to the In case of a scheme of arrangement as per the Companies Act, 2013, Resolution professional for onward consent of the Committee of the consent of three-quarters of the members and/or creditors (in Creditors and thereafter the approval of the Adjudicating Authority. value) of each class is necessary and the minority creditors who have The same is done to bring the debt to a sustainable level either by less than 25% exposure in the dues of the company can be crammed waiver of excess debt or conversion into equity, or a combination down and directed to fall in line with the majority of creditors. of both. In case of a restructuring under the IBC, 2016, a resolution plan Apart from the above, the Asset Reconstruction Companies (ARCs) can only be sanctioned by an Adjudicating Authority if such plan set up under the statutory provisions of SARFAESI Act, may also is approved by 75% or more of the COC comprising Financial acquire the debts of the Corporate Debtor from the lending Banks/ Creditors of a Corporate Debtor, and it provides for payments Financial Institutions (FIs) and subsequently restructure the same in to Operational Creditor of at least such amount which they shall post discussions and arrangement with the debtor. The provisions of receive in the event of a liquidation of the Corporate Debtor. As SARFAESI Act also empower the lenders/ARCs to effect a change such, the Financial Creditors are able to influence the restructuring in management as a restructuring mechanism. under the IBC, 2016, thereby forcing the minority creditors to accept the settlement terms as consented to by the majority creditors. 3.3 What are the criteria for entry into each restructuring However, under the provisions of the IBC, 2016, immediately procedure? upon admission of the application by the Adjudicating Authority, a moratorium is declared under Section 13 of the Code with regard to Under the provisions of the Code, any of the Financial/Operational matters contained under Section 14 of the IBC, 2016, i.e. there is a Creditor or the Corporate Debtor itself may initiate the filing of an restraint on the continuation of any coercive recovery proceedings application before the Adjudicating Authority for initiation of the including: suits; execution of any judgment, decree or order in Corporate Insolvency and Resolution Process in the event of default any court of law, tribunal or other authority; restriction or transfer, by the Corporate Debtor in payment to its Financial or Operational encumbrance, alienation or disposal by the Corporate Debtor of any Creditors for a sum of Rs. 1.00 Lakh or more. Unlike the previous of its assets or any legal right or beneficial interest therein; and a legislation, the filing of an application under the provisions of the prohibition on or any action to foreclose, recover or enforce any

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security interest created by the Corporate Debtor in respect of its 31 of the Insolvency and Bankruptcy Board of India (Insolvency property, including any action under the SARFAESI Act. Resolution Process for Corporate Persons) Regulations, 2016, In an informal mechanism of restructuring, the decisions have to be which inter alia includes interim finance raised and the expenses taken collectively by all the secured lenders of the company in the incurred for raising such interim finance shall have the first priority Joint Lenders Forum (JLF) meeting. As per the recent notification in payments under a resolution plan or from the sale proceeds of the issued by the RBI, dated 05.05.2017, the decisions taken in the liquidation of assets of the Corporate Debtor, in case of liquidation. JLF meeting shall be based on the consent of secured lenders representing at least 60% of the total debt and at least 50% of the 4 Insolvency Procedures creditors in number, which shall be binding on all other secured creditors of the Corporate Debtor forming part of the JLF. India 4.1 What is/are the key insolvency procedure(s) available to wind up a company? 3.6 What impact does each restructuring procedure have on existing contracts? Are the parties obliged to perform outstanding obligations? Will termination and Under the provisions of the IBC, 2016, the overall CIRP period has provisions be upheld? been fixed at 180 days from the insolvency commencement date (extendable by another 90 days upon an application being made at The initiation of the restructuring process does not result in ipso the behest of the COC). In case no resolution plan is received by the facto termination of all pending contracts, and the company is free Adjudicating Authority within the maximum period permitted for to perform its obligations under the existing contract if the situation completion of the CIRP or if the Adjudicating Authority rejects the so permits. However, if the contractual terms amongst the parties resolution plan on grounds of its non-compliance with the requisites provide for termination of the contract upon commencement of any of the Code, then it shall, inter alia, pass an order for liquidation of of the stated procedures, then the contractual obligation may be the Corporate Debtor. terminated at the discretion of the other party. Further, even before the expiry of the maximum period permitted As per the provisions of the Code, the Resolution Professional in the for completion of the CIRP, if the Resolution Professional prompts exercise of his powers with regard to management of the operations the Adjudicating Authority regarding the decision of the COC to of the Corporate Debtor as a going concern, has the authority to liquidate the Corporate Debtor, then the Adjudicating Authority amend or modify the contracts or transactions which were entered shall pass an order for liquidation of the Corporate Debtor. Further into before the commencement of the CIRP, if he deems it fit in in terms of Section 59 of the IBC, 2016, a corporate person who order to protect and preserve the value of the property of the intends to liquate itself voluntarily may initiate voluntary liquidation Corporate Debtor and maintain continuity of operations of the proceedings under the Code, provided it has not committed Corporate Debtor as a going concern. any default and subject to compliance with such condition and The set-off provisions contained in terms of the contract if the same, procedural requirements as may be specified by the Insolvency and in the opinion of the Resolution Professional, are not prejudicial to Bankruptcy Board of India (‘Board’). the interest of the Corporate Debtor, shall be upheld. There are provisions under the Companies Act, 2013 relating to If the IRP/RP, upon examination, determines that there is a transfer compulsory winding up by the courts upon the occurrence or non- of property or an interest thereof of the Corporate Debtor for the occurrence of events as prescribed under the said act. benefit of a creditor or a surety or a guarantor for or on account of an antecedent financial debt or operational debt or other liabilities 4.2 On what grounds can a company be placed into each owed by the Corporate Debtor, and: the transfer has the effect of winding up procedure? putting such creditor or a surety or a guarantor in a more beneficial position than it would have been in the event of a distribution of As discussed in question 4.1 above, in case no resolution plan is assets; certain transactions were made during the relevant period received by the Adjudicating Authority within the maximum period which were undervalued; and the Corporate Debtor is a party to permitted for completion of the CIRP or if the Adjudicating Authority an extortionate credit transaction involving the receipt of financial rejects the resolution plan on grounds of its non-compliance with the or operational debt during the period of two years preceding the requisites of the Code, then it shall, inter alia, pass an order for the insolvency commencement date, then upon an application by the liquidation of the Corporate Debtor. IRP/RP to that effect, the Adjudicating Authority may pass orders Further, even before expiry of the maximum period permitted for for reversal of such transactions entered into by the Corporate completion of the CIRP, if the Resolution Professional prompts Debtor. the Adjudicating Authority regarding the decision of the COC to liquidate the Corporate Debtor, then the Adjudicating Authority 3.7 How is each restructuring process funded? Is any shall pass an order for liquidation of the Corporate Debtor. protection given to rescue financing? Voluntary liquation can be initiated only by a solvent corporate debtor who has not committed any default and subject to making In case an application for the initiation of the CIRP is made by the a declaration under an affidavit from a majority of the directors Corporate Debtor, the cost of the restructuring process is to be funded stating that either the company has no debt or it will be able to by the Corporate Debtor itself either through loans, internal accruals pay its debt in full from the proceeds of the assets to be sold and or infusion of funds by promoter/management/strategic investors. that the liquidation process is not being initiated with the intent to In case an application is made by a person other than the Corporate defraud any person. Further, within four weeks of the declaration, Debtor, then the cost of public announcement shall be borne by the a special resolution of the members of the company shall be passed, applicant, which may be reimbursed by the COC to the extent that it requiring the company to be liquidated voluntarily and appointing ratifies the same. Further, all insolvency resolution process costs, as an insolvency professional to act as a liquidator. defined under section 5(13) of the IBC, 2016 read with Regulation

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The circumstances under which a company can be wound up by the proceeds from the sale of assets by the liquidator or to stay outside tribunal, on grounds other than an inability to pay debts, have been the liquidation process and recover their dues by enforcement of clearly stated under Section 271 of Companies Act, 2013, being: their security interest. (i) passing of a special resolution to that effect; (ii) acting against the sovereignty and integrity of India, security 4.5 What impact does each winding up procedure have on of state, public relations with a foreign state, public order, existing contracts? Are the parties obliged to perform decency or morality; outstanding obligations? Will termination and set-off (iii) conducting its affairs in a fraudulent manner; provisions be upheld? (iv) default in filing the financial annual returns with the Registrar India of Companies for the immediately preceding five financial Subject to the directions of the Adjudicating Authority, the years; and liquidator shall, inter alia, have the power to carry on the business (v) if the tribunal is of the opinion that it is just and equitable that of the Corporate Debtor for its beneficial liquidation as he considers the company should be wound up. necessary. The liquidation process does not result in ipso facto termination of all pending contracts. However, if the contractual terms amongst the parties provide for termination of the contract 4.3 Who manages each winding up process? Is there any upon commencement of any of the stated procedures, then the court involvement? contractual obligation may be terminated at the discretion of the other party. In the event of an order for liquidation in respect of a Corporate Debtor, the Adjudicating Authority appoints the RP as the liquidator If the liquidator upon examination, determines that there is a transfer for the purposes of liquidation unless he is replaced by the of property or an interest thereof of the Corporate Debtor for the Adjudicating Authority. benefit of a creditor or a surety or a guarantor for or on account of an antecedent financial debt or operational debt or other liabilities Upon his appointment, all the powers of the board of directors, key owed by the Corporate Debtor, and: the transfer has the effect of managerial personnel or the partners of the Corporate Debtor cease putting such creditor or a surety or a guarantor in a more beneficial to have effect and vests with the liquidator. position than it would have been in the event of a distribution of Throughout the liquidation process until such time as the assets assets; certain transactions were made during the relevant period are realised and the sale proceeds are distributed, in the manner as which were undervalued; and the Corporate Debtor is a party to envisaged in the Code, the liquidator may approach the Adjudicating an extortionate credit transaction involving the receipt of financial Authority for such orders or directions as may be necessary for the or operational debt during the period of two years preceding the liquidation of the Corporate Debtor. insolvency commencement date, then upon an application by the In addition to the above, the liquidator is obligated to furnish a liquidator to that effect, the Adjudicating Authority may pass orders progress report periodically to the Adjudicating Authority in the for reversal of the transactions entered into by the Corporate Debtor. manner as prescribed under the provisions of the IBC, 2016, read with the relevant regulations. 4.6 What is the ranking of claims in each procedure, including the costs of the procedure? 4.4 How are the creditors and/or shareholders able to influence each winding up process? Are there any Upon a liquidation order being made in respect of a Corporate restrictions on the action that they can take (including Debtor, the proceeds from the sale of the assets comprised in the the enforcement of security)? liquidation estate of the Corporate Debtor shall be distributed in the following order of priority: Under the provisions of the IBC 2016, there is no term such as (a) the insolvency resolution process costs and the liquidation “winding up”, and instead it talks about “liquidation”. All the costs paid in full; provisions contained in the erstwhile laws with respect to initiation of (b) equal ranking between workmen’s dues for a period of 24 liquidation proceedings against the Corporate Debtor by its creditors months preceding the liquidation commencement date and on account of its inability to pay its debts or its shareholders in case the debts owed to a secured creditor in the event such secured of a voluntary winding up are now being dealt with in accordance creditor has relinquished security; with the relevant provisions of IBC, 2016. The manner in which the (c) wages and any unpaid dues owed to employees other than creditors may initiate CIRP or the Corporate Debtor may initiate a workmen for a period of 12 months preceding the liquidation voluntary liquidation have already been discussed in questions 4.1 commencement date; and 4.2 above. (d) financial debts owed to unsecured creditors; With respect to compulsory winding up by the court, this shall be (e) equal ranking between any amount due to the Central only in the circumstances mentioned under section 271(a) to (e) of Government and the State Government in respect of whole or the Companies Act, 2013. Upon initiation of the liquidation process, any part of the period of two years preceding the liquidation no suit or other legal proceeding may be instituted by or against commencement date and debts owed to a secured creditor for the Corporate Debtor; however, the liquidator may initiate a suit or any amount unpaid following the enforcement of security other legal proceedings on behalf of the Corporate Debtor subject to interest; prior approval of the Adjudicating Authority, but there shall be no (f) any remaining debts and dues; restriction on any legal proceeding in relation to such transactions (g) preference shareholders, if any; and as may be notified by the Central Government in consultation with (h) equity shareholders or partners, as the case may be. any financial sector regulator. Upon commencement of the liquidation process, the secured creditors have two options for the recovery of their dues i.e. either to relinquish their security interest to the liquidation estate and receive

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4.7 Is it possible for the company to be revived in the 7 Cross-Border Issues future?

7.1 Can companies incorporated elsewhere restructure Once a liquidation order is passed by the Adjudicating Authority or enter into insolvency proceedings in your and a liquidator is appointed, there is no provision under the IBC, jurisdiction? 2016 for submission of any resolution plan before the Adjudicating Authority for the revival of the Corporate Debtor. The liquidator is The provisions of the IBC, 2016 do not have any extraterritorial obligated to take charge over the assets (liquidation estate) of the jurisdiction and as such they are not applicable for companies

Corporate Debtor as a fiduciary for the benefit of all the creditors. incorporated outside India. India The liquidator is obligated to follow the procedure of law and realise However, a company incorporated in a foreign country may be the liquidation estate and utilise the proceeds from the sale of the wound up as an unregistered company as per the provisions of liquidation estate of the Corporate Debtor for distribution in the Sections 375–376 of the Companies Act, 2013, if it has its office order of priority as prescribed under Section 53 of the Code. and assets in India, and the pendency of a foreign liquidation does not affect the jurisdiction to make winding up orders. 5 Tax 7.2 Is there scope for a restructuring or insolvency process commenced elsewhere to be recognised in 5.1 Does a restructuring or insolvency procedure give your jurisdiction? rise to tax liabilities?

As per the provisions of Section 234 of the IBC, 2016, the Central There is no exemption from applicability of any tax liabilities either Government may enter into an agreement with the government directly or indirectly during any of the procedures. However, upon of any country outside India for enforcing the provisions of this the consent of the respective tax authority, relief may be granted by Code. Further, the Code also provides that the Central Government the Adjudicating Authority from the applicability of tax on waivers may by notification in the official gazette direct the application of of principal/interest, etc., and if the restructuring envisages any provisions of the IBC, 2016 in relation to assets or property of the merger/de-merger as a revival mechanism, the tax liability thereof Corporate Debtor, including the personal guarantor of a Corporate shall be dealt with in accordance with the applicable tax laws in Debtor, situated at any place in a country outside India with which force at the material time when the resolution plan is approved by reciprocal arrangements have been made, subject to such conditions the Adjudicating Authority. as may be specified. Accordingly, the Adjudicating Authority may The company is legally duty bound to pay all applicable taxes such issue a letter of request to a court or an authority of such country as Excise Duty, Customs Duty, Sales Tax, Income Tax, Capital Gain competent to deal with such request. Tax, etc., arising even during the pendency of any of the procedures. The entire restructuring procedure and the resolution plan must be in compliance with all applicable laws in force at the time of sanction 7.3 Do companies incorporated in your jurisdiction restructure or enter into insolvency proceedings in of the plan. other jurisdictions? Is this common practice?

6 Employees Indian companies may enter into restructuring of their foreign debts with foreign lenders on a bilateral basis, subject to compliance with the provisions of Foreign Exchange Management Act, 1999 6.1 What is the effect of each restructuring or insolvency and the regulations made thereunder and RBI procedures. Further, procedure on employees? the proceedings from sale of assets of Indian companies in other jurisdictions will be subject to the law of the respective land. A liquidation order passed under Section 33(7) of the IBC, 2016 shall be considered to be a notice of discharge to the officers, employees and workers of the Corporate Debtor except when the 8 Groups liquidator continues to carry on the business of the Corporate Debtor during the liquidation process. In such circumstances, the workmen 8.1 How are groups of companies treated on the shall file their claims with the liquidator and in accordance with insolvency of one or more members? Is there scope the provisions of the Code, the workmen’s dues for a period of 24 for co-operation between officeholders? months preceding the liquidation commencement date shall be paid on a pari passu basis along with the dues of the secured creditors. Each entity in the group company is a separate legal entity and Similarly, employees may also file their claims with the liquidator initiation of the insolvency proceedings in one of the group of and their dues for a period of 12 months preceding the liquidation companies does not adversely impact the operations in the other commencement date shall be paid in priority over any payments to group entities and there is no pooling of assets of the subsidiaries or be made to unsecured creditors in accordance with the waterfall the parent company. However, if there is an established liability of a mechanism as prescribed under the Code. group company to the entity undergoing the insolvency proceedings, However, in case of a Corporate Debtor undergoing CIRP where the same shall have to be discharged and if there is an amount a resolution plan is prepared and approved, the workmen and recoverable from the entity undergoing the insolvency proceedings employees may be retained, rationalised or they may opt for an then the necessary claim for the same shall be required to be filed amicable settlement or voluntary retirement, etc. before the RP / liquidator, as the case may be, and the amount shall be distributed as per the waterfall mechanism.

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(iii) Banks which are at a minority on the proposal approved by 9 Reform the JLF are required to either exit within the stipulated time or adhere to the decision of the JLF. 9.1 Are there any proposals for reform of the corporate (iv) Participating banks have been mandated to implement the rescue and insolvency regime in your jurisdiction? decision of the JLF without any additional conditionality. (v) The Boards of banks were advised to empower their It is also noteworthy to mention the recent developments, executives to implement the JLF’s decision without further amendments and measures that have been initiated by the Central reference to them. Government and the RBI to address the mammoth growth of It was made clear to banks that non-adherence would invite

India stressed assets in the banking system. Recently the Government enforcement action, i.e. monetary penalties on the concerned bank notified the amendments in the Banking Regulation Act, 1949, under the provisions of the Banking Regulations Act, 1949. which were introduced through an ordinance. The amendments From the above, it is well demonstrated that the Government and inter alia, empower the RBI to issue directions with regard to the RBI are also pushing lenders to be more proactive towards stressed assets and specify one or more authorities or committees the restructuring of stressed assets, wherever possible, and has to advise banking companies on the resolution of stressed assets. accordingly issued directions to banks for empowering their In exercise of the above power, the RBI has outlined an action plan executives and facilitating decision-making in JLFs by reducing the to implement the Banking Regulation (Amendment) Ordinance, requisite voting percentage. 2017 and has accordingly issued a directive bringing the following The above amendments coupled with the implementation of the changes to the existing regulations on dealing with stressed assets: provisions of the IBC, 2016 are likely to be a mile stone in the Indian (i) Clarified that a corrective action plan could include flexible legislation framework to deal with the insolvency and bankruptcy of restructuring, SDR and S4A. a Corporate Debtor, Partnership Firm and individual. Although the (ii) To facilitate decision-making in the JLF, the requisite law is at a very nascent stage of its implementation, the results are percentage for approval of a proposal has been reduced from highly encouraging. 75% to 60% (value-wise) and to 50% in number.

Alok Dhir Bhuvan Arora Dhir & Dhir Associates Dhir & Dhir Associates D-55, Defence Colony D-55, Defence Colony New Delhi-110024 New Delhi-110024 India India

Tel: +91 11 4241 0000 Tel: +91 11 4241 0000 Fax: +91 11 4241 0091 Fax: +91 11 4241 0091 Email: [email protected] Email: [email protected] URL: www.dhirassociates.com URL: www.dhirassociates.com

Alok is the Founder and Managing Partner of Dhir & Dhir Associates, Bhuvan Arora is a Senior Associate with Dhir & Dhir Associates. a leading full-service law firm in India. He is a qualified Chartered He is a law graduate and Masters in Business Administration. He Accountant & Lawyer with extensive experience of over three has nearly eight years' experience in banking, debt restructuring of decades in corporate, commercial and civil laws with special focus entities in distress, advisory on restructuring and insolvency issues, on Corporate and Financial Restructuring, Insolvency Laws, M&A/ negotiated settlements and representations before the Bankruptcy Takeovers, Banking Law, Real Estate, PE placements, structuring Courts/Tribunals. of transaction, turning around of financially stressed entities in the country and issues related to Asset Reconstruction & Securitisation. He has been consistently recognised as a leader in ‘Restructuring & Insolvency’ by most credited global rankings bodies.

Established in 1993, Dhir & Dhir Associates is a full-service law firm with a pan-India presence in the prime cities of New Delhi, Mumbai and Hyderabad and a strategic alliance with associate lawyers in more than 15 States. The firm also has an international presence with a representative office in Japan. This network of alliances gives the benefit of a single window service provider to the clients and enables the firm to deal with all kinds of matters within the country and cross-border transactions under one umbrella.

With over 100 professionals including lawyers, chartered accountants, company secretaries, cost accountants, MBAs and engineers, etc., the firm has been recognised as the leader in restructuring and insolvency laws and widely acclaimed for banking and finance, project finance, infrastructure, corporate advisory and dispute resolution by leading ranking bodies and publications including Chambers & Partners, The Legal 500, AsiaLaw Profiles, IFLR1000 and India Business Law Journal, to name a few.

The firm also specialises in various practice areas such as: anti-trust and competition; capital markets and securities; corporate advisory; cross- border transactions; dispute resolution and arbitration; telecommunication, employment; environment; FDI; IPR; JVs, takeovers/M&As and private equity.

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Indonesia Theodoor Bakker

Ali Budiardjo, Nugroho, Reksodiputro Herry N. Kurniawan

2.2 Which other stakeholders may influence the 1.2 Does the legislative framework in your jurisdiction company’s situation? Are there any restrictions on the allow for informal work-outs, as well as formal action that they can take against the company? restructuring and insolvency proceedings, and are each of these used in practice? There is no other stakeholder who may influence the company Indonesian law allows for informal work-outs to restructure a situation during the suspension of payments or bankruptcy company’s debt through mutual agreement between the company procedures. During the bankruptcy and suspension of payments and the creditor(s). procedures, there should be no action that the creditors take against the company. As for formal restructuring and insolvency proceedings, the Bankruptcy Law provides two procedures for companies having financial difficulties; namely: 2.3 In what circumstances are transactions entered a. bankruptcy procedures; and into by a company in financial difficulties at risk of challenge? What remedies are available? b. suspension of payments procedures. Both formal and informal work-outs are commonly used in practice. Certain transactions favouring one creditor over other creditors, entered into before the bankruptcy declaration, can be set aside under the fraudulent conveyance (actio pauliana) principles set out

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in the Bankruptcy Law. For a pre-bankruptcy transaction to be set A debt-for-equity swap is possible to be offered by the company in a aside, all of the following requirements must be met: composition plan to be agreed by the creditors in the suspension of ■ The transaction was voluntary. This means that the payment procedure. The debt-for-equity swap requires the approval transaction did not arise from a contractual obligation. of the existing shareholders, and thus the approval is required to be Examples of voluntary transactions include the: obtained before the debt-for-equity swap proposal is offered to the ■ granting of security to one particular creditor; creditors. ■ payment of a debt that is not yet due and payable; and Pre-packaged sale is also a possible scheme. An approval from ■ sale of an asset against non-cash payment or with set-off the supervisory judge (who supervises the suspension of payments of the purchase price against a debt. procedure) is required for the sale of the company’s assets. ■ The transaction harmed creditors’ interests. This includes Indonesia most situations where the condition of the bankrupt estate 3.3 What are the criteria for entry into each restructuring would have been better if the transaction had not been entered procedure? into; for example: ■ a sale of goods below their fair market value; or The company or the creditors can apply for a suspension of ■ transactions resulting in the increase of the company’s payments if: liabilities (for example, the granting of a guarantee or ■ the company either cannot pay its debts; or other form of security by a subsidiary for the debt of its parent company). ■ the company or the creditors foresee that the company will not be able to pay its debts. ■ The company and the contracting party had knowledge of the harm caused to other creditors. Knowledge of harm to other creditors is presumed in a number of circumstances. 3.4 Who manages each process? Is there any court Generally, there is a rebuttable presumption of knowledge involvement? where the following categories of transaction are performed less than one year before the bankruptcy: The suspension of payment procedure is managed by the court- ■ transaction for which the value received by the company appointed administrator, who is supervised by the supervisory judge. is substantially less than the value of the asset sold; The company (or its creditors) must file a petition for suspension ■ payment of a debt that is not yet due and payable, or of payment with the relevant Commercial Court. The Commercial granting security for such debt; Court must: (i) grant a temporary suspension of payment; (ii) ■ transaction between the company and related parties (that appoint an administrator who, together with the directors of the is, relatives or companies controlled by relatives, insiders company, will manage the assets of the company; and (iii) appoint a and legal entities belonging to the same group); and supervisory judge to supervise the suspension of payment process. ■ donations. The payment of a debt that was due and payable can also be set aside if it is shown that either: 3.5 How are creditors and/or shareholders able to influence each restructuring process? Are there any ■ the recipient of the payment knew that, at the time of restrictions on the action that they can take (including receipt, a bankruptcy petition had been submitted; or the enforcement of security)? Can they be crammed ■ payment was the result of a consultation between the down? company and the creditor with the intention of preferring that creditor over other creditors. It is generally believed Creditors’ Influence that this requirement is only fulfilled if some measure of collusion between the parties is established. The creditors play substantial roles in a suspension of payment procedure, as follows: a. the creditors can file a suspension of payments petition 3 Restructuring Options against the company with the Commercial Court; and b. the creditors have voting rights to agree or not with the proposal/composition plan offered by the company; the 3.1 Is it possible to implement an informal work-out in rejection of the composition plan by the creditors will result your jurisdiction? in a bankruptcy declaration by the company. The secured creditors could not enforce its security right during the Yes. It is possible to implement an informal work-out in Indonesia. stay period in bankruptcy procedure. Unsecured creditors who vote against the composition plan are 3.2 What formal rescue procedures are available in your crammed down if the composition plan is approved by the secured jurisdiction to restructure the liabilities of distressed and unsecured creditors and ratified by the Commercial Court. companies? Are debt-for-equity swaps and pre- packaged sales possible? Shareholders’ Influence The Bankruptcy Law does not specifically discuss the powers of the The suspension of payments procedure is the formal procedure shareholders during the suspension of payment procedure, but it is to achieve a restructuring of debts. The suspension of payments understood that the shareholders are still entitled to pass resolutions procedure is provided for a company that faces temporary liquidity with respect to the company’s matters except for those which pertain problems and is unable to pay its debts but may be able to pay them to assets and management. Moreover, shareholders’ approval is some time in the future. It gives the company temporary relief in required for voluntary filing petition for suspension of payment and order for it to reorganise and continue its business, and ultimately to for the debt-for-equity swap. satisfy the creditors’ claims.

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The receiver manages the bankruptcy process after declaration of Indonesia Notwithstanding the foregoing, if the contract expressly stipulates that the contract will be expired or terminated in the event of bankruptcy by the Commercial Court. The administrator, together company’s suspension of payment, then such provision will prevail. with the directors of the company, manage the suspension of payment process after the granting of suspension of payments by In a suspension of payment procedure, the creditors can set off the Commercial Court. sums owed by them to the company against amounts owed by the company to them. However, the said set-off right can only be exercised if: (i) the claim and the debt already existed prior to the 4.4 How are the creditors and/or shareholders able to suspension of payment proceedings; or (ii) the claim and the debt influence each winding up process? Are there any exist as a result of transactions/actions carried out by the company restrictions on the action that they can take (including before the suspension of payment proceedings. the enforcement of security)? A person who has taken over the debt or receivables from a third Creditors’ Influence party prior to the pronouncement of suspension of payment cannot exercise a set-off if: (i) the taking over of the debt and receivables In a bankruptcy procedure, the creditors are entitled to submit a was not based on good faith; and/or (ii) the taking over of the debt petition for bankruptcy against the company with the Commercial or receivables was done after the initiation of the suspension of Court. payment process. If, after the declaration of bankruptcy, the company proposes a composition plan, then the unsecured creditors are entitled to 3.7 How is each restructuring process funded? approve or reject the composition plan. Secured creditors are not entitled to take the vote regarding the composition plan and are not The costs incurred in a suspension of payment procedure, including affected by the result of the vote. If the majority of the unsecured but not limited to the administrator’s fees, must be paid by the creditors reject the composition plan, then the company becomes company. As stipulated under Article 240 paragraph (4) of Law No. insolvent and the bankruptcy procedure shall be concluded with the 37/2004, with prior approval from the administrator, the company liquidation and dissolution of the company. in suspension of payment process may obtain loan or credit from Shareholders’ Influence any third party for the sole purpose of increasing the value of the The Bankruptcy Law does not specifically discuss the powers of the company’s estate. However, if the company intends to obtain a shareholders during the bankruptcy procedure, but the shareholders secured loan, it should be previously approved by the supervisory are still entitled to pass resolutions with respect to the company’s judge. Also, security rights can only be encumbered over the matters, except for those which pertain to assets and management. The company’s asset which has not been encumbered with any security shareholders’ approval is required for the voluntary filing of a petition rights. The creditor providing the above-described loan shall be for bankruptcy by the company and for a debt-for-equity swap. treated the same as the other creditors involved in the suspension of payment process. 4.5 What impact does each winding up procedure have on existing contracts? Are the parties obliged to perform 4 Insolvency Procedures outstanding obligations? Will termination and set-off provisions be upheld?

4.1 What is/are the key insolvency procedure(s) available The bankruptcy of a company, in principle, does not change the to wind up a company? validity or the terms of a contract which has been validly entered into by the company. The rights and obligations of the parties to The insolvency procedure available to wind up a company facing such contracts remain unchanged. However, the receiver does not financial difficulties is the bankruptcy procedure. have the obligation to perform the contract. If the receiver confirms The bankruptcy shall be pronounced by the Commercial Court if it performance, he must guarantee performance; if he confirms fulfils the following requirements: (i) the company has at least two cancellation, the other party will have to submit a damages claim as creditors (plurality of creditors); and (ii) at least one of the two debts an unsecured creditor. could not be paid by the company when it becomes due and payable. The Bankruptcy Law stipulates that in a bankruptcy procedure, the If, following its bankruptcy declaration, (i) no composition plan is creditors can set off sums owed by them to the company against submitted by the company to the creditors, (ii) a composition plan amounts owed by the company to them. However, the said set-off is submitted but subsequently rejected by the creditors, or (iii) a right can only be exercised if: (i) the claim and the debt already composition plan is submitted and subsequently approved by the existed prior to the declaration of bankruptcy; or (ii) the claim creditors but is not ratified by the Commercial Court, then the and the debt exist as a result of transactions carried out before the company shall be declared insolvent. Where the company becomes declaration of bankruptcy. insolvent, the bankruptcy procedure shall be concluded with the These rules make a creditor’s set-off right in an event of bankruptcy liquidation and dissolution of the company. more favourable than its set-off right outside of a bankruptcy

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procedure, since there is no requirement for the debts to be currently If the employer is declared bankrupt, termination of employment due and payable. However, there is uncertainty as to whether the may be conducted by the employer, which triggers payment of the receiver must approve an intended set-off. severance package for the employees.

4.6 What is the ranking of claims in each procedure, 7 Cross-Border Issues including the costs of the procedure?

In bankruptcy and suspension of payment procedures, the ranking of 7.1 Can companies incorporated elsewhere restructure creditors’ claims is as follows: or enter into insolvency proceedings in your jurisdiction? ■ Preferred creditors (kreditur preferen). Preferred creditors Indonesia are entitled to receive payment in full from the bankruptcy estate. Preferred claims are tax claims and post-bankruptcy/ The Bankruptcy Law is only applicable for, and the Commercial suspension of payments claims, such as: Court is only authorised to, declare the bankruptcy and suspension ■ fees of the receiver/administrator; of payment of an Indonesian entity. Therefore, any foreign company would not be able to restructure or enter into insolvency proceedings ■ fees of experts appointed by the supervisory judge; in Indonesia. ■ costs of liquidation of the bankruptcy estate or costs incurred during the suspension of payments process; ■ post-bankruptcy/suspension of payments financing; 7.2 Is there scope for a restructuring or insolvency process commenced elsewhere to be recognised in ■ lease of the bankrupt’s house or offices; and your jurisdiction? ■ employees’ wages. ■ Secured creditors (kreditur separatis). These are the No, the Bankruptcy Law adopts the principle of territoriality creditors holding security rights over some or all of the assets and does not recognise cross-border bankruptcy or suspension of the company. of payment cases. Moreover, foreign court judgments cannot be ■ Unsecured creditors (kreditur konkuren). Unsecured enforced in Indonesia. Therefore, any court judgments, orders, or creditors rank as follows: reliefs made during foreign bankruptcy or suspension of payment ■ specific statutorily preferred creditors whose preference proceedings cannot be enforced in Indonesia and shall not affect the relates only to specific assets; status of assets situated in Indonesia. ■ general statutory priority creditors; and Foreign creditors may participate and register their claims in the ■ non-preferred unsecured creditors. bankruptcy or suspension of payment proceedings conducted in ■ Shareholders. Generally, the shareholders of the company Indonesia and shall have the rights and be treated the same with the rank behind all other creditors in the distribution of the proceeds local creditors. of the bankruptcy estate. Any distribution they receive is proportional to the shares that they hold in the company, if there are remaining assets after distribution to other creditors. 7.3 Do companies incorporated in your jurisdiction restructure or enter into insolvency proceedings in other jurisdictions? Is this common practice? 4.7 Is it possible for the company to be revived in the future? No, the Commercial Court does not recognise bankruptcy/ insolvency and suspension of payments/rescue procedures in other Yes, it is possible. The bankrupt company can be revived if the jurisdictions; insolvency proceedings outside Indonesia cannot composition plan proposed by the company is agreed by the affect the status of assets located in Indonesia. creditors and ratified by the Commercial Court, or if the claims of the creditors have been fully satisfied by the bankruptcy estate. 8 Groups 5 Tax 8.1 How are groups of companies treated on the insolvency of one or more members? Is there scope 5.1 Does a restructuring or insolvency procedure give for co-operation between officeholders? rise to tax liabilities? The Bankruptcy Law does not recognise the bankruptcy or Tax liabilities are ordinarily incurred during each of the procedures suspension of payment proceedings of a corporate group. Petition if the business is continued during each procedure. The written-off for bankruptcy or suspension of payment may only be submitted amounts in haircuts and debt write-offs are subject to income tax on against a company or legal person, but the bankruptcy of a company the part of the company. does not affect the status of other companies within the group. There is no scope for co-operation between officeholders. 6 Employees 9 Reform

6.1 What is the effect of each restructuring or insolvency procedure on employees? 9.1 Are there any proposals for reform of the corporate rescue and insolvency regime in your jurisdiction? Claims of employees fall into the classification of estate creditors, and as such they are entitled to payments in full of their claim on the There are no proposals for the reform of the corporate rescue and basis of the employment contract. insolvency regime in Indonesia.

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Theodoor Bakker Herry N. Kurniawan Ali Budiardjo, Nugroho, Reksodiputro Ali Budiardjo, Nugroho, Reksodiputro Graha CIMB Niaga, 24th Floor Graha CIMB Niaga, 24th Floor Jl. Jend. Sudirman Kav. 58 Jl. Jend. Sudirman Kav. 58 Jakarta 12190 Jakarta 12190 Indonesia Indonesia

Tel: +62 21 250 5125 Tel: +62 21 250 5125 Fax: +62 21 250 5001 Fax: +62 21 250 5136 Email: [email protected] Email: [email protected] URL: www.abnrlaw.com URL: www.abnrlaw.com

Mr. Theodoor Bakker graduated from Leiden University in the Mr. Herry N. Kurniawan joined ABNR as an associate in 1999 and Indonesia Netherlands, is admitted to the Amsterdam Bar and is a registered became a partner on 1 January 2012. His specified areas of practice Foreign Lawyer under the Indonesian Advocates Law. He has are mergers and acquisitions, foreign investment, project and worked in Southeast Asia since 1984, over time building up extensive corporate finance, restructuring and bankruptcy, in which fields he has experience in: direct foreign investment; project finance work, both intensive and extensive regulatory knowledge. He was involved including private power and petrochemical projects; aircraft finance; in the project for the monitoring of the implementation of the Indonesian infrastructure development; and general manufacturing investment. Bankruptcy Law in 1999, which gave him further in-depth regulatory During the Asian financial crisis, he was involved in many aspects of knowledge in bankruptcy and suspension of payments matters. He restructuring and insolvency, and has advised on foreign law issues of co-writes various articles and publications on bankruptcy, mergers and bankruptcy reform in Indonesia. His practice now also encompasses acquisitions, and speaks in seminars and workshops on bankruptcy and capital market transactions, structured finance, and mergers and suspension of payments, as well as on investment, and mergers and acquisitions. He has published various articles on insolvency and acquisitions. He has also acted as counsel in numerous bankruptcy/ cross-border investment issues and teaches at the Faculty of Law of suspension of payments and commercial litigation/arbitration. University of Indonesia and at the Ministry of Law and Human Rights.

Ali Budiardjo, Nugroho, Reksodiputro, usually abbreviated to ABNR, was established in Jakarta in 1967 as a partnership of legal consultants in Indonesian business law. The firm is one of Indonesia’s largest independent full-service law firms. The commitment we make to clients is to provide broad-based, personalised service from top-quality teams of lawyers with international experience that includes groundbreaking deals and projects. ABNR’s reputation has been recognised around the world by independent industry surveys and law firm guides. ABNR was selected, based on its high level of integrity and professionalism, to be the sole Indonesian member of the world’s largest law firm association Lex Mundi and of the prestigious Pacific Rim Advisory Council (PRAC).

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Ireland Michael Murphy

McCann FitzGerald Grace Armstrong

Troubled companies will typically resolve their financial difficulties 1 Overview either through examinership, or through consensual discussion and agreement with creditors. Failing such resolution, both receivership 1.1 Where would you place your jurisdiction on the and liquidation are commonly availed of under Irish law. spectrum of debtor to creditor-friendly jurisdictions? 2 Key Issues to Consider When the Corporate insolvency and restructuring law in Ireland has developed to respond to the needs of both creditors and debtors by balancing Company is in Financial Difficulties the protection of both parties’ rights. Our framework provides a broad range of flexible legislative remedies, with perhaps a marginal 2.1 What duties and potential liabilities should the emphasis on the stability engendered by the protection of the rights directors/managers have regard to when managing a of secured creditors. Where previously such secured creditors company in financial difficulties? Is there a specific overwhelmingly comprised regulated financial institutions, with the point at which a company must enter a restructuring recent advent of loan sales in the market, private institutions have or insolvency process? become the holders of security and have frequently been involved in restructuring and enforcement actions. Where such proceedings When a company is insolvent, or close to insolvent, its directors come before the courts, the courts are mindful to ensure careful owe fiduciary duties to the creditors of the company andnot adherence to contractual and statutory rights, to ensure that debtors to its shareholders. Recent amendments to company law have are protected notwithstanding that their obligations have been codified directors’ duties in a non-exhaustive list of formerly pre- assigned to third parties. existing common law (fiduciary), equitable and statutory duties. Unsecured creditors do not enjoy priority in a winding up. However, These include but are not limited to the duty to act honestly and retention of title clauses are valid as a matter of Irish law and may responsibly and in good faith in the interests of the company, to act permit the unsecured creditor to recover goods supplied. in accordance with the company’s constitution and the law, not to use the company’s property for his/her benefit, to avoid conflicts of 1.2 Does the legislative framework in your jurisdiction interest and to exercise due skill, care and diligence. allow for informal work-outs, as well as formal The thrust of Irish company law sanctions against directors (which restructuring and insolvency proceedings, and are includes shadow and de facto directors) of an insolvent company each of these used in practice? is to penalise individuals who are recklessly incurring credit or who deplete the company’s assets where the directors cannot, on There are a comprehensive range of procedures available to any reasonable or objective basis, believe that the company will be an insolvent Irish company. These include liquidation, either able to operate as a going concern, or who were knowingly party following a court order or a shareholders’ resolution, receivership to fraudulent trading. Personal liability may be imposed for all or (the appointment of a receiver by a secured creditor pursuant to part of the liabilities of the company. In addition, criminal sanctions contractual rights in a security document) and examinership, a may apply. court-managed restructuring procedure. Directors of companies in insolvent liquidation are at risk of being Examinership is a corporate rescue and restructuring procedure subjected to restriction orders where they cannot show that they whereby an insolvent company is provided with court protection acted honestly and responsibly in relation to the affairs of the for a limited period to enable it to negotiate with creditors, seek new company. If restricted, a director is prevented from continuing to investment and write down its liabilities. act as a director unless the company meets certain minimum paid up Irish company law also provides a mechanism for a company to share capital requirements. reach a compromise with its creditors on a less structured basis than examinership and the recently revised company legislation reduced No specific mandatory triggers exist under Irish law for entry the number of court appearances required for such compromises. into restructuring or insolvency procedures. There are two tests However, such arrangements provide no protection from creditors for insolvency: the balance sheet test and the cash flow test. If a during the period of restructuring, are not recognised under Council company is considered to be insolvent under either of the above regulation (EC) No 1346/2000 of 29 May 2000 on insolvency tests, its directors will need to keep their decision to continue to proceedings (the “Insolvency Regulation”) and, to date, have not trade under constant review. The difficulty with applying the been widely availed of. balance sheet test revolves around the valuation of the company’s

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assets. This test can easily be triggered, particularly if the company Where a company is being wound up, a floating charge created has significant bank borrowings. It is therefore more important for within 12 months of the commencement of the winding up can in directors to focus on the cash flow test in the short term while at the certain circumstances be declared invalid. same time planning how to reduce the balance sheet deficit in the longer term. 3 Restructuring Options

2.2 Which other stakeholders may influence the company’s situation? Are there any restrictions on the 3.1 Is it possible to implement an informal work-out in action that they can take against the company? your jurisdiction? Ireland Secured creditors, unsecured creditors and shareholders can directly Informal work-outs as between debtors and creditors frequently influence the company’s situation. An examinership is the only occur. While creditors may be willing to provide standstill means by which a company in financial difficulty can obtain a agreements during a period of negotiation, a company in financial moratorium from action by its creditors. An application for the difficulty will not be able to avail of immunity from suit during appointment of an examiner can be made by the company itself, its this period and will be vulnerable to actions by non-secured directors, a creditor or member. creditors, including the Revenue Commissioners. Accordingly, In an examinership, once a company has been placed under court where a company perceives a significant threat of liquidation or protection, the creditors of the company are prevented from taking receivership, but where it believes it has a reasonable prospect of any action to enforce their security or to take enforcement action of survival, examinership may be a more viable option. any kind against the company.

Secured creditors who apprehend a risk of examinership and wish to 3.2 What formal rescue procedures are available in your prevent the appointment of an examiner will typically move quickly jurisdiction to restructure the liabilities of distressed to appoint a receiver. The appointment of a receiver is the main companies? Are debt-for-equity swaps and pre- method by which a secured creditor will enforce its security. A packaged sales possible? court will refuse to hear a petition for examinership in relation to a company in respect of which a receiver has been appointed for Examinership is the main rescue procedure for an insolvent a period of three continuous days prior to the date of presentation company (or group of companies) which comprises three main of the petition and a receiver will be removed if a petition for the components: new investment into the company; a forced write down appointment of an examiner is presented within three days of his of the company’s current liabilities; and a ‘legal stay’ or protection appointment. period which prevents any enforcement action being taken against A winding up petition may be presented by the company itself, the company for a period of up to a maximum of 100 days. During its creditors, any of its creditors or contributories, the Director of the period of examinership, no enforcement action can be taken by Corporate Enforcement and any person entitled to bring shareholder creditors, including secured creditors or against guarantors of the oppression proceedings. company’s liabilities. Shareholders who can show the affairs of the company are being Debt-for-equity swaps and pre-packaged sales do occur, and while conducted in a manner which is oppressive to their interests may in practice the appointment of a receiver or examiner may take place apply to the court for relief. on the basis that a pre-ordained outcome is to be implemented, there is no current legislative basis for a pre-packaged sale. 2.3 In what circumstances are transactions entered into by a company in financial difficulties at risk of 3.3 What are the criteria for entry into each restructuring challenge? What remedies are available? procedure?

Certain transactions to which an insolvent company is party may be The criteria for entry into examinership are threefold: the company attacked by, among others, a liquidator appointed to the company is insolvent or likely to become insolvent; no resolution has been and where such challenge is successful, the transactions may be set passed (nor has any order been made) to wind up the company; and aside. there is a reasonable prospect of survival of the whole or part of the Where property is disposed of and it is possible to show that the business as a going concern. An application for the appointment of an effect of such disposal was to perpetrate a fraud on the company, examiner must (save in exceptional circumstances), be accompanied its creditors or members, the court may direct the return of such by an independent expert’s report which verifies that the company property. There is no prescribed period within which an application has a reasonable prospect of survival as a going concern. must be brought.

Irish company law prohibits certain transactions where a company 3.4 Who manages each process? Is there any court provides financial assistance in connection with the acquisition of involvement? shares in that company. Such transactions are voidable at the option of the company against a third party with notice and a breach of An examinership is commenced by way of a petition to the High the legislation is a criminal offence. Directors are also restricted Court (or in certain circumstances, the Circuit Court) and the from entering transactions with the company except within certain process is closely monitored by the court. The directors of the specified conditions. In the event of a breach, such a transaction is company remain in place and the company continues to trade, while voidable and a director may risk personal liability. the examiner analyses the company’s finances, establishes which Transactions in favour of a creditor taking place within six months parts of the business can be rescued and negotiates with investors, of the commencement of a winding up (or within two years if in creditors and shareholders to prepare proposals for a scheme of favour of a connected person) made with a view to giving such arrangement which, if implemented, will facilitate the company’s creditor a preference are liable to be set aside. survival. Once he has formulated his proposals, the examiner must

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convene meetings of each class of creditors who may vote in favour of or against the proposals. The examiner will then prepare a report 3.7 How is each restructuring process funded? Is any which is filed in court. In order for a scheme to become binding protection given to rescue financing? on the members and creditors of a company, the court must make an order confirming the proposals. It may only do so if at least one The costs of an examinership can be significant and will be met class of impaired creditors has voted in favour of the proposals and out of the assets of the company. An examiner has the power to the court will not approve a scheme if its purpose is to avoid tax or certify a liability at the time it is incurred if he forms the view that if it is unfairly prejudicial to any class of creditors. it is necessary for the survival of the company that the debt should be incurred. Such certification affords priority to any such liability over other creditor claims in the event of the subsequent liquidation Ireland 3.5 How are creditors and/or shareholders able to of the company. No specific protection exists under Irish law for influence each restructuring process? Are there any any new finance provided to a company by way of rescue funding. restrictions on the action that they can take (including the enforcement of security)? Can they be crammed down? 4 Insolvency Procedures As stated in question 3.4, once the examiner has formulated proposals for a scheme of arrangement, he is obliged to convene 4.1 What is/are the key insolvency procedure(s) available and preside at meetings of members and creditors during which they to wind up a company? will consider the examiner’s proposals. Each class of member and creditor will have a separate meeting and may then vote in favour An insolvent company may be wound up by the Irish courts where, of or against the proposals. The proposals will be deemed to be amongst other things, its members by special resolution have approved by a class of member or creditor if a majority in number resolved that the company be wound up by the court or where the representing a majority in value of the creditors represented and company is unable to pay its debts. The petition for a compulsory voting at the meeting has voted in favour of them. It is possible for liquidation can be made by the company itself, any creditor(s) creditors to propose modifications at the meetings. and/or, subject to some restrictions, any members. In limited Creditors are prevented from taking any enforcement action during circumstances, the Director of Corporate Enforcement (who has a the period of protection, including from taking any action to realise supervisory role in respect of liquidations and insolvent companies), secured assets. The examiner may obtain court approval to dispose the Central Bank of Ireland and the Registrar of Companies may of property subject to a fixed or a floating charge on the basis that also petition for a compulsory liquidation of the company. this would facilitate the survival of the company. The market value A company may also be placed in a creditors’ voluntary liquidation of the property sold must be accounted to the holder of the charge. where, amongst other things, the members by ordinary resolution The liabilities of a secured creditor can in certain circumstances be resolve that the company cannot by reason of its liabilities continue crammed down. its business and that it be wound up voluntarily. During an examinership, no proceedings may be commenced against guarantors or other third parties liable in respect of debts of the The appointment of a receiver by a secured creditor pursuant to company. Particular rules govern the enforcement of guarantees in contractual rights contained in a security document is the main an examinership and certain steps must be taken by secured creditors method by which a secured creditor enforces its security. However, to preserve their rights under the guarantees, thereby protecting the receivership is not a process for the dissolution of a company. creditor’s right to pursue the guarantor, even if the underlying debt is crammed down in the examinership. An examiner’s proposals 4.2 On what grounds can a company be placed into each should result in a more favourable outcome for creditors than would winding up procedure? be the case in a liquidation or receivership. A company can be placed in compulsory liquidation by the court if 3.6 What impact does each restructuring procedure have the company is insolvent, or on just and equitable or public interest on existing contracts? Are the parties obliged to grounds. A creditors’ voluntary liquidation may be initiated by perform outstanding obligations? Will termination and the company in general meeting resolving that it cannot by reason set-off provisions be upheld? of its liabilities continue its business, and that it be wound up as a creditors’ voluntary liquidation. A company may be placed in a Examinership does not itself terminate contracts, albeit most solvent liquidation if its directors are in a position to confirm that it contracts provide that examinership activates a right of termination. will be in a position to meet its liabilities in full within a period of However, where a company is under the protection of the court, its 12 months. creditors are prevented from exercising rights against the company, such as any claim for damages which may arise. 4.3 Who manages each winding up process? Is there any The company in examinership may, with the approval of the court, court involvement? repudiate any contract under which some element of performance other than payment remains to be rendered by both parties. Any A liquidator is appointed to manage the realisation of the company’s person who suffers loss as a result of the repudiation becomes an assets and distribution of claims. While compulsory liquidations unsecured creditor in the examinership and the court may assess were previously actively managed by the High Court, recent the value of his loss. This provision is frequently availed of by legislative change altered this position. A committee of inspection tenant companies to repudiate expensive leaseholds. The landlord (comprising creditors of the company) may now be formed and becomes an unsecured creditor, the liability to him being discharged the liquidator is obliged to report to the committee throughout the under the scheme. liquidation. The committee can authorise the exercise of certain Set-off provisions will be upheld and can be applied, notwithstanding powers and sanction payment of the liquidator’s fees, costs and that a company is in examinership. expenses.

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The Director of Corporate Enforcement is tasked with ensuring monies returned and following the application of set-off rights which compliance with company law and a liquidator is obliged to report to may apply, the order of priorities in a liquidation are as follows: the Director in relation to the conduct of the directors of a company (1) the costs and expenses of the liquidation; in liquidation. (2) preferential creditors (comprising employee entitlements and Voluntary liquidations take place without court involvement. A unpaid taxes); solvent voluntary liquidation can be controlled by the company’s (3) floating charge holders; shareholders, in contrast to an insolvent voluntary liquidation, which (4) unsecured creditors; and is managed by a liquidator but may be overseen by a committee of (5) members and contributories. inspection, if such a committee is formed by the company’s creditors. In the event of a liquidation following an examinership, the

As in the case of a court liquidation, the committee can authorise the Ireland exercise of certain powers by the liquidator and sanction payment of examiner’s costs and expenses have priority over all over claims, the liquidator’s fees, costs and expenses. including those of secured creditors. Any expenses certified by an examiner will rank in priority to a floating charge creditor. The order of priority of claims in a receivership will be set out 4.4 How are the creditors and/or shareholders able to influence each winding up process? Are there any in the security document pursuant to which the receiver has been restrictions on the action that they can take (including appointed. the enforcement of security)? 4.7 Is it possible for the company to be revived in the Typically, the liquidator is nominated by the petitioning creditor or future? the company, if it is initiating the winding up process. Following the appointment of a liquidator or a provisional liquidator, the leave of Where a company has been dissolved, the court may within a the court is required in order to commence or continue proceedings two-year period on an application being made by the liquidator or against the company. another interested party, make an order declaring the dissolution to The rights of secured creditors are unaffected by a liquidation, have been void. It is also possible to apply for the annulment of a assuming such rights do not fall foul of any avoidance provisions winding up order or resolution. In practice, both such applications and the secured creditor may elect to appoint a receiver or to are rare. allow the liquidator to realise its security and account to it for the proceeds. However, the claims of preferential claims will rank 5 Tax ahead of floating charge realisations.

4.5 What impact does each winding up procedure have on 5.1 Does a restructuring or insolvency procedure give existing contracts? Are the parties obliged to perform rise to tax liabilities? outstanding obligations? Will termination and set-off provisions be upheld? The commencement of insolvency proceedings does not per se give rise to a tax liability; however, tax liabilities will continue to Contractual provisions which allow for termination of the contract be incurred in the ordinary way in an insolvency or restructuring on the entry by the company into an insolvency or restructuring procedure, including for example corporation tax, VAT, employee process are common and are enforceable against a liquidator. withholding taxes, capital gains tax and stamp duty. The liquidator may, with court approval, within 12 months after A liquidator or receiver will register for tax on their appointment and the commencement of the liquidation, disclaim any property of the any pre-existing tax liabilities will be dealt with in the liquidation or company being wound up which consists of, amongst other things, receivership and are likely to have preferential status. (a) unprofitable contracts, or (b) any property which is unsaleable In an examinership, liabilities to the Revenue Commissioners can be or not readily saleable by reason of its binding the possessor to crammed down; however, the court will not confirm a scheme which the performance of any onerous act or to the payment of money. is unfairly prejudicial to any creditor, including the Revenue. A The liquidator’s hand may be forced – any person interested in the liquidator appointed pursuant to a solvent voluntary liquidation will property may require him to decide whether or not he will disclaim be obliged to obtain tax clearance before finalising the liquidation. and if the liquidator wishes to disclaim in such circumstances, he A key question is whether trade has ceased in a liquidation or a must give notice within 28 days that he intends to apply to court to receivership. If a liquidator or receiver is simply realising trading disclaim. assets, trade is likely to a have ceased, in which case income received Under statutory insolvency set-off rules, set off of “mutual credits is currently taxed as a post-cessation receipt at a corporation tax rate and debts” is permitted, but not mandatory. In addition, contractual of 25%, as opposed to the standard rate of 12.5%. set-off will survive insolvency and is enforceable against a liquidator. 6 Employees 4.6 What is the ranking of claims in each procedure, including the costs of the procedure? 6.1 What is the effect of each restructuring or insolvency The key principle of distribution of property of a company under procedure on employees? Irish law is that claims, subject to certain exceptions, shall rank pari passu. Where a liquidator realises assets on behalf of a fixed charge In a receivership, the appointment of a receiver will not terminate holder, his costs and expenses in respect of such realisation will by employment contracts. However, a receiver may choose to terminate agreement be retained out of such realisation. Once assets have employment contracts and any claims by employees (for example, been distributed to the holders of a fixed charge, super preferential in respect of unpaid wages) which accrued prior to his appointment creditors (comprising unpaid employee withholding tax), trust will have preferential status in the receivership.

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Similarly, in an examinership, the appointment of the examiner will not terminate employment contracts as the business of the company 8 Groups will continue to be traded. Pre-existing claims by employees, including prospective or contingent claims, can be crammed down 8.1 How are groups of companies treated on the in the examiner’s proposals. insolvency of one or more members? Is there scope In a compulsory liquidation, the making of the court order winding for co-operation between officeholders? up the company has the effect of terminating employment contracts. By contrast, employment contracts are not automatically terminated Each Irish company will be dealt with as a separate legal entity and where a liquidator is appointed in a creditors’ voluntary liquidation. accordingly the assets and liabilities of a company in liquidation will Certain claims by employees (in respect of for example unpaid not automatically be taken on by another group company. However, Ireland wages, holiday pay and redundancy payments up to certain where two or more related companies are being wound up, and if a thresholds) which cannot be met by the insolvent company will court is satisfied that it is just and equitable to do so, both companies be paid out of a government-funded insolvency fund (the “Fund”). may be wound up together as if they were one company. This is The Fund is then entitled to claim in the liquidation for all amounts known as a pooling order. paid to employees and will rank as a preferential creditor in the In deciding whether it is just and equitable to make a pooling order, liquidation. a court will have regard to (among other things): the extent to which Where a transfer is effected or proposed to be effected of the any of the companies took part in the management of any of the business of the company in liquidation, the employees and the other companies; the conduct of any of the companies towards employers’ liabilities to its employees may under specific legislation the creditors of any of the other companies; the extent to which automatically transfer to the purchaser. The legislation provides the circumstances that gave rise to the winding up of any of the companies are attributable to the actions or omissions of any of certain exemptions for insolvency proceedings which may be the other companies; and the extent to which the businesses of the applicable depending on the circumstances. companies have been intermingled. An order will not be made simply because one company is related 7 Cross-Border Issues to another, or because the creditors of the company being wound up have relied on the fact that another company is or has been related to the first company. 7.1 Can companies incorporated elsewhere restructure or enter into insolvency proceedings in your Where an examiner is appointed to a company, either at the same jurisdiction? time or later, an application may be made to appoint him to one or more related companies. The court must have regard to whether the appointment would facilitate the survival of the company By virtue of the Insolvency Regulation, subject to certain exclusions, or the related company or both and must be satisfied that there where a foreign insolvent company (whether or not the insolvent is a reasonable prospect of survival of the related company. The company is Irish incorporated) has its “centre of main interests” protection period of the related company is limited to the period (“COMI”) in Ireland, “main proceedings” can only be instituted before available for the first company. an Irish court. Under the Insolvency Regulation, “main proceedings” have, subject as otherwise provided in the Regulation, universal scope The Insolvency Regulation when recast (see question 9.1 below) and as such encompass all of the debtors’ assets and creditors located will contain a new chapter on group insolvency proceedings, in the EU (with the exception of Denmark). In the case of Ireland, including provisions on cross-border cooperation of insolvency main proceedings for the purposes of the Insolvency Regulation courts and insolvency practitioners from various insolvent group include compulsory winding up by the Irish court, examinership and companies and a new coordination procedure to afford a greater creditors’ voluntary winding up (with confirmation by the Irish court). chance of rescuing the group as a whole, where possible. Insolvency Further, a foreign company incorporated in a country which is not practitioners will be able to coordinate a joint restructuring plan and subject to the provisions of the Insolvency Regulation may, in certain seek a stay of asset realisation measures. circumstances, be wound up by the Irish Court. 9 Reform 7.2 Is there scope for a restructuring or insolvency process commenced elsewhere to be recognised in 9.1 Are there any proposals for reform of the corporate your jurisdiction? rescue and insolvency regime in your jurisdiction?

Ireland has not adopted the UNCITRAL Model Law on cross- Irish company law was recently modernised, resulting in the border insolvency and domestic legislation does not contain a consolidation of 12 acts into one, including all provisions which mechanism for the recognition of restructuring or insolvency deal with corporate rescue and insolvency. Accordingly, substantive processes commenced elsewhere. Where the proceedings are those legislative reform is not anticipated. Irish insolvency law has to which the Insolvency Regulation applies, such proceedings will recently been amended to incorporate so-called “Alternative A” automatically be recognised in Ireland. Where the proceedings contained in Article XI of the Aircraft Protocol to the Cape Town fall outside the scope of the Insolvency Regulation, the insolvency Convention. The most significant change arising from this will be officeholder may apply to the High Court for recognition ofthe seen in examinership. In the event of an examinership of an airline process under common law principles. or a company which owns or leases or has mortgaged aircraft under interests that fall within the scope of the Cape Town Convention, the 7.3 Do companies incorporated in your jurisdiction examiner will have, at most, 60 days to cure all defaults and agree restructure or enter into insolvency proceedings in to perform the company’s obligations in full. If he does not do that other jurisdictions? Is this common practice? then he must deliver possession of the aircraft to the creditor at the end of the examinership or 60-day period, whichever is the earlier. The range of remedies and procedures available under Irish law As mentioned above, Ireland is party to the Insolvency Regulation, means that in practice this is rare. which will be recast in June 2017.

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Michael Murphy Grace Armstrong McCann FitzGerald McCann FitzGerald Riverside One, Sir John Rogerson’s Quay Riverside One, Sir John Rogerson’s Quay Dublin 2 Dublin 2 Ireland Ireland

Tel: +353 1829 0000 Tel: +353 1829 0000 Email: [email protected] Email: [email protected] URL: www.mccannfitzgerald.com URL: www.mccannfitzgerald.com Ireland Michael is head of the Insolvency and Restructuring team. He has Grace is a senior associate on the Insolvency and Restructuring wide experience of advising in a number of significant restructurings, team at McCann FitzGerald. As such, Grace has experience acting examinerships, receiverships and liquidations on behalf of all on behalf of a range of parties in restructuring matters, insolvency stakeholders including companies, directors, officeholders, banks proceedings including liquidation, receivership and examinership and and other creditors. As well as advising when financial difficulties are bankruptcy and debt collection proceedings. identified, Michael advises on solvent reorganisations and on mitigating insolvency risk in transactions in the making. Michael is a member of the Irish Society of Insolvency Practitioners and Insol Europe. He has written and lectured extensively in the area of corporate recovery and insolvency.

McCann FitzGerald is one of Ireland’s premier law firms, with 69 partners and almost 350 lawyers and professional staff.

The firm is consistently recognised as being the market leader in many practice areas and its pre-eminence is endorsed by clients and market commentators alike. Our principal office is located in Dublin and we have overseas offices in London, Brussels and New York. We provide a full range of legal services, primarily to commercial, industrial and financial services companies. Our clients include international corporations, major domestic businesses and emerging Irish companies. We also have many clients in the State and semi-State sectors.

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Italy Vittorio Lupoli

BonelliErede Lucio Guttilla

(b) formal restructuring and insolvency proceedings with 1 Overview limited court involvement: (i) debt restructuring agreement (accordi di ristrutturazione dei debiti) (see question 3.2, point 1, below); and (ii) pre-bankruptcy agreement 1.1 Where would you place your jurisdiction on the (concordato preventivo) (see question 3.2, point 2, below); spectrum of debtor to creditor-friendly jurisdictions? and (c) formal restructuring and insolvency proceedings with 1. The reforms of the Italian Bankruptcy Law of 2005–2012 full court involvement: (i) bankruptcy (fallimento) (see were mainly aimed at granting the debtor with instruments to question 4.2, point 1 and question 4.3 point 1 below); recover from a crisis and prosecute the business. In particular (ii) bankruptcy agreement (concordato fallimentare) (see these reforms introduced, inter alia: (i) “certified” restructuring question 4.2, point 2 and question 4.3, point 2 below); plans; (ii) debt restructuring agreements; (iii) possibility to (iii) compulsory administrative liquidation (liquidazione split creditors into classes in pre-bankruptcy agreements; coatta amministrativa) (see question 4.2, point 3 and (iv) particular incentives for the debtor who proposes a question 4.3, point 3 below); (iv) Prodi’s extraordinary pre-bankruptcy agreement based on the prosecution of the administration proceeding (amministrazione straord- business; and (v) “blank” filing of pre-bankruptcy agreement inaria) (see question 3.2, point 3 and question 3.3, point petition (with immediate automatic stay). 2 below); and (v) Marzano’s extraordinary administration 2. Then, the reforms of Italian Bankruptcy Law of 2013–2015 proceeding (amministrazione straordinaria Marzano) introduced specific provisions aimed at granting adequate (see question 3.2, point 4 and question 3.3, point 3 consideration to the interests of creditors. These provisions below). include: (i) specific duties of information to the court and 2. Under a different perspective: mandatory appointment of a commissioner in the “blank” pre- bankruptcy agreement proceedings; (ii) “competing bids” and (a) “certified” restructuring plans and Prodi’s and Marzano’s “competing proposals” in pre-bankruptcy agreements; and extraordinary administration proceedings are aimed at (iii) minimum thresholds of payment in the pre-bankruptcy rescuing the debtor company; agreement aimed at liquidating the business. (b) debt restructuring agreements and pre-bankruptcy 3. The result is a jurisdiction which conserves a debtor agreements can be aimed at winding up or at rescuing the friendly approach, but also contains mitigations aimed at debtor company; and giving adequate consideration to the creditors’ interests. (c) bankruptcy, bankruptcy agreement and compulsory The Italian Bankruptcy Law of 2005–2012 were mainly administrative liquidation are aimed at winding up the aimed at granting the debtor with instruments to recover debtor company. from crisis and prosecute the business. In particular these 3. Each of the above-listed informal work-outs and formal reforms introduced, inter alia: (i) “certified” restructuring restructuring and insolvency proceedings are used in practice. plans; (ii) debt restructuring agreements; (iii) possibility to split creditors into classes in pre-bankruptcy agreements; (iv) particular incentives for the debtor who proposes a 2 Key Issues to Consider When the pre-bankruptcy agreement based on the prosecution of the Company is in Financial Difficulties business; and (v) “blank” filing of pre-bankruptcy agreement petition (with immediate automatic stay). 2.1 What duties and potential liabilities should the 1.2 Does the legislative framework in your jurisdiction directors/managers have regard to when managing a allow for informal work-outs, as well as formal company in financial difficulties? Is there a specific restructuring and insolvency proceedings, and are point at which a company must enter a restructuring each of these used in practice? or insolvency process?

1. The Italian legislative framework allows informal work-outs, 1. Under Italian law, directors’ duties can be classified as: as well as formal restructuring and insolvency proceedings (a) general duties, notably (i) the “duty of care” which with a different level of court involvement. includes the duty to act with adequate information, and In particular: (ii) the “duty of loyalty” to the company; and (a) informal work-outs with no court involvement are (b) specific duties set out by law and the company by-laws. generally carried out using a “certified” restructuring plan In the event of breach of the above duties, the directors are (piano attestato di risanamento) (see question 3.1 below); liable for damages towards: (i) the company itself; (ii) the

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shareholders of the company or – under certain circumstances As to the debtor’s employees, if the proceeding involves a sale of – any third party damaged directly as a result of the action of going concern, consultations between the parties involved in the the director; and (iii) the creditors of the company. transaction and the relevant trade union organisations must precede 2. In the event of insolvency proceedings, the court-appointed – but cannot stop – the sale. administrator frequently brings the actions on behalf of the creditors against the directors of the insolvent companies. 2.3 In what circumstances are transactions entered 3. Specific duties apply in case of reduction of corporate capital into by a company in financial difficulties at risk of due to losses: challenge? What remedies are available? (a) If the corporate capital is reduced by more than one-third as a consequence of losses, the directors must convene a 1. Certain transactions entered into by a company in financial Italy shareholders’ meeting to take the necessary measures. difficulties during a specific period (suspect period) before In this case directors must submit to the shareholders’ the bankruptcy declaration (or before the publication of the meeting a report on the financial condition of the company petition to be admitted to the pre-bankruptcy agreement with the observations of the statutory auditors. proceedings, if the debtor is then declared bankrupt) may be If the loss is not reduced to less than one-third within clawed back. the subsequent financial year, the shareholders’ meeting In particular: must reduce the corporate capital in proportion to the (a) transactions entered into for no consideration (suspect ascertained loss. period: two years); If the shareholders’ meeting does not approve such (b) payment of debt, whose date of expiry is simultaneous reduction, the directors and the statutory auditors must or subsequent to the date of declaration of bankruptcy request the court to order the reduction of the corporate (suspect period: two years); capital. (c) “anomalous” transactions: transactions which may be (b) If the corporate capital is reduced below the minimum clawed back unless the third party proves that, at the time set under the law due to loss of more than one-third of of the transaction, it was unaware of the insolvency of the the corporate capital, the directors must convene without debtor (suspect period: six months/one year); and delay a shareholders’ meeting to resolve upon the (d) “normal” transactions: transactions which may be clawed reduction of the corporate capital and its simultaneous back provided that the official receiver proves that the increase to an amount not less than the minimum or upon third party was aware of the insolvency of the debtor at the transformation of the company. the time of the transaction (suspect period: six months). If the shareholders’ meeting does not approve the Conversely, these transactions are expressly excluded from reduction and the subsequent raise of the corporate bankruptcy claw-back: capital, the company is dissolved. (a) payments for goods and services in the normal course of 4. In case of winding up, until the appointment of the business on standard terms; liquidator(s), the directors must manage the company for the (b) payment on a bank account, not substantially and sole purpose to preserve the value of the assets. permanently reducing the exposure of the debtor towards 5. Following the admission of the debtor to insolvency the bank; proceedings, directors may be held criminally liable for (c) sales and preliminary contracts of sale of real estate for certain actions/omissions (“bankruptcy crimes”), in addition adequate consideration (to be used as the residence of the to civil liability for damage, if they breached: purchaser or of his relatives); (a) the duty not to delay the declaration of bankruptcy (so- (d) acts, payments and securities made or granted on the called deepening insolvency); and/or debtor’s assets on the basis of a “certified” restructuring (b) the duty to avoid payments and/or creations of securities plan, a debt restructuring agreement or a pre-bankruptcy in favour of a particular creditor to the detriment of agreement; the others (violation of the so-called principle of “par (e) payments of salaries to employees; and condicio creditorum”). (f) consideration for services necessary for the debtor’s Directors often try to avoid filing for insolvency proceedings admittance to restructuring/insolvency proceedings. and are more inclined to investigate the possibility of 3. Transactions entered into by distressed companies may also restructuring, which is usually also more aligned to the be clawed back under the rules governing the ordinary claw- creditors’ interests. However, an excessive delay in filing back actions, which, for their successful conclusion, call for for insolvency proceedings may entail criminal and civil more rigorous requirements. liability. 4. Finally, transactions entered into between companies In general, the directors are justified in seeking a restructuring belonging to the same group may be clawed back under the so far as they deem it to be achievable, according to a rules governing extraordinary administration proceedings. In judgment based on reasonable criteria. Conversely, when the such a case, the suspect period is extended to three/five years. insolvency becomes, according to such judgment, definitive and irreparable, the directors have the actual duty to file for an insolvency proceeding. 3 Restructuring Options

2.2 Which other stakeholders may influence the 3.1 Is it possible to implement an informal work-out in company’s situation? Are there any restrictions on the your jurisdiction? action that they can take against the company? 1. In principle, the debtor and its creditors may enter into work- In restructuring and insolvency proceedings, key decisions are taken out agreements which are freely negotiable, are binding only by the directors of the debtor company, by the creditors themselves on creditors who have entered into them and, in any case, do or by the public bodies appointed in order to represent them, with not prevent acts or payments, made during their execution, limited/no power to different stakeholders. from claw-back actions.

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2. In practice, informal work-outs are usually implemented basis on the terms set forth in the restructuring plan (in the on the basis of a restructuring plan, whose feasibility is case of restructuring plan). “certified” by an independent expert. The expert shall also 4. Marzano’s extraordinary administration proceeding is aimed certify the truthfulness of the debtor’s financial statements. at the preservation of the business of even larger companies The “certified” restructuring plan has the main effect of (for thresholds, see question 3.3, point 3, below). preventing the risk of claw-back actions and to exclude the Marzano’s extraordinary administration proceedings are application of certain bankruptcy crimes in relation to acts roughly equivalent to the second phase of Prodi’s extraordinary and payments made in accordance with such plan. administration proceedings: the extraordinary commissioner(s) 3. The process is not supervised by the court, which however take(s) full control of the company immediately after the

Italy can be subsequently involved if the plan fails. beginning of the proceedings and promptly begins working on the dismissal/restructuring plan. Marzano’s extraordinary administration proceedings may end 3.2 What formal rescue procedures are available in your jurisdiction to restructure the liabilities of distressed with a composition agreement, which needs to be approved companies? Are debt-for-equity swaps and pre- by the creditors. packaged sales possible? * * * Debt-for-equity swaps are generally carried out by converting Distressed companies may pursue restructuring through the the debtor’s indebtedness into: (i) ordinary shares; (ii) special following formal procedures: category shares (with different economic/administrative rights and 1. Debt restructuring agreement. This is entered into between representing 50% of the corporate capital maximum); and (iii) quasi the debtor and creditors representing at least 60% of the equity instruments (strumenti finanziari partecipativi). indebtedness. The truthfulness of the financial statements, Further to the debt/equity swap, the shareholders may have their the feasibility of the plan and the debtor’s ability to reimburse shareholding reduced and they even lose the control of the company. all creditors not party to the agreement have to be assessed by an independent expert. The terms and conditions are freely * * * negotiable, and limited involvement of the court is required In practice, pre-packaged business sales may be arranged by (the court has only to approve the agreement). This then the directors of the debtor company prior to the filing for a pre- prevents the risk of claw-back actions for payments and acts bankruptcy agreement. carried out in accordance with the plan. However, according to 2015 reform, when the debtor intends to sell In general, the debtor must ensure full reimbursement to significant assets/businesses to a third party (investor), the court creditors that are not parties to the agreement: (i) within 120 must launch a tender for “competing bids” to reach other possible days from the court’s approval for claims due and payable on the approval date; and (ii) within 120 days from the maturity investors and, ultimately, obtain the highest purchase price possible, date for all claims not matured on the approval date. in order to maximise the reimbursement of the creditors. 2. Pre-bankruptcy agreement. The debtor is admitted by the Therefore, nowadays the success of a pre-packaged sale depends on Court to this procedure when: (i) it is in a state of crisis/ the fairness of the price: if the price in not fair, the purchaser risks a insolvency; and (ii) it proposes to its creditors a plan, which third party to raise a better offer prevailing in the acquisition of the may provide for debt restructuring and payment of claims by significant assets/business. any possible means.

The creditors may be divided into different classes according 3.3 What are the criteria for entry into each restructuring to their legal status (i.e., seniority) and economic interests, procedure? and may then be treated differently (but without affecting priority of payment of priority claims). 1. Debt restructuring agreement and pre-bankruptcy agreement: The plan must be supported by an independent expert’s report the debtor may enter into a debt restructuring agreement or attesting the feasibility of the pre-bankruptcy agreement. file a pre-bankruptcy agreement petition when it is in a state The proposed pre-bankruptcy agreement has to be approved of crisis/insolvency. by the majority of the creditors (if divided in classes, by the The debtor cannot be placed into a pre-bankruptcy agreement majority of classes). Priority claims to be paid in full do (and, according to case law, cannot enter into a restructuring not carry voting rights, unless the creditors partially or fully agreement) when none of the “bankruptcy” thresholds waive their right of priority. mentioned in question 4.2 are met. The court is then called on to grant final approval. The debtor is placed into pre-bankruptcy agreement upon the 3. Prodi’s extraordinary administration proceeding is aimed at filing with the court of a petition. preserving the business of large companies (for thresholds, In order to obtain the approval of the debt restructuring see question 3.3, point 2, below) on the basis of a plan which agreement, the debtor must file with the court a petition may also entail the sale of the business as going concern. together with the signed debt restructuring agreement and The proceeding starts with a first phase, in which the court with the expert’s certification. declares the insolvency and appoints one (or three) judicial 2. Prodi’s extraordinary administration proceeding: a company commissioners. is placed into this proceeding when it has more than 200 employees and a total indebtedness of not less than two- During the second phase, the Ministry of Economic thirds of the aggregate of the total assets and the revenues of Development appoints (i) one (or three) extraordinary the preceding financial year. commissioners to be responsible of the preparation and implementation of the plan, and (ii) a surveillance committee Prodi’s extraordinary administration proceedings may begin (which includes creditors’ representatives). upon request of the debtor, one or more creditors or the public prosecutor. The plan needs to be approved by the Ministry of Economic Development. 3. Marzano’s extraordinary administration proceeding: a company may be placed into this procedure when it (alone, Creditors are paid pro-rata on the basis of the proceeds from or on a group basis) has more than 500 employees and a total the sale of the business (in case of dismissal plan) or on the indebtedness of not less than EUR 300 million.

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Marzano’s extraordinary administration proceedings may Debtor benefits of a 120-day moratorium vis-à-vis creditors begin upon request of the debtor only. which are not party to the agreement. These creditors must be reimbursed in full: (i) within 120 days from the court’s approval, in respect of any claims due and payable on such 3.4 Who manages each process? Is there any court date; and (ii) within 120 days from the relevant maturity date involvement? in respect of any receivable not yet matured on the date of the relevant approval. 1. “Certified” restructuring plan: the directors manage the Shareholders do not have to approve the debt restructuring debtor company and the restructuring process with no court agreement, unless otherwise specified under the company’s involvement. bylaws. Italy 2. Debt restructuring agreement: the directors manage the debtor Creditors cannot be crammed down. However, under the 2015 company and the restructuring process. The involvement of reforms, if the debtor’s financial indebtedness is at least 50% the court is limited to the approval of the debt restructuring of the debtor’s total indebtedness and the debtor enters into agreement. a debt restructuring agreement with financial creditors that 3. Pre-bankruptcy agreement: the directors manage the debtor represent at least 75% of the financial claims, the dissenting company and the restructuring process under the control of financial creditors are also bound by the agreement, subject the judicial commissioner(s). Until the court approval of to certain conditions. the pre-bankruptcy agreement, acts exceeding the ordinary 3. The pre-bankruptcy agreement proposal has to be approved course of the business must be authorised by the court. by the majority of the creditors (if divided in classes, by the If the pre-bankruptcy agreement is aimed at winding up the majority of the classes). Dissenting creditors are crammed company, different provisions apply (see question 4.3, point down. 4 below). Once the pre-bankruptcy agreement proposal is approved by 4. Prodi’s extraordinary administration proceeding: the court the creditors and by the court, its provisions are binding also directs the procedure. upon dissenting creditors. In the first phase, the judicial commissioner(s) has(ve) to: Creditors whose rights accrued prior to the date of filing (a) supervise the management of the company (the judicial of the pre-bankruptcy agreement cannot take legal action commissioner(s) may also be charged by the court of the against the debtor to enforce their claims until the court’s management of the company, until the approval of the approval becomes definitive. extraordinary administration procedure by the court); and Shareholders have to approve the pre-bankruptcy agreement (b) express its opinion on the existence of the conditions for only if: (i) the debtor company is an unlimited liability the approval of such procedure. company; or (ii) such approval is expressly provided under the bylaws when the debtor company is a limited liability company. In the second phase, the Ministry of Economic Development appoints the extraordinary commissioner(s) and the 4. Once the competent authority admits the debtor to Prodi’s surveillance committee and supersedes the procedure. The or Marzano’s extraordinary administration proceedings extraordinary commissioner(s) only is/are in charge of the the creditors, whose rights accrued prior to the date of the management and administration of the company; admission, cannot take legal action against the debtor in order to enforce their claims. 5. Marzano’s extraordinary administration proceeding: the extraordinary commissioner(s) is/are in charge of the Marzano’s extraordinary administration proceeding may end management of the company. with a composition with creditors, which must be approved by the majority of creditors (if divided in classes, by the majority of the classes). Dissenting creditors are crammed down. 3.5 How are creditors and/or shareholders able to influence each restructuring process? Are there any restrictions on the action that they can take (including 3.6 What impact does each restructuring procedure have the enforcement of security)? Can they be crammed on existing contracts? Are the parties obliged to down? perform outstanding obligations? Will termination and set-off provisions be upheld? 1. The “certified” restructuring plan usually entails the execution of an agreement between the debtor and its main financial 1. “Certified” restructuring plans and debt restructuring creditors in order to implement the plan. The agreement is agreements do not affect pending contracts. binding only upon the relevant parties, with no effect on third 2. As a general rule, pre-bankruptcy agreements do not affect parties. pending contracts. However: (i) the debtor may apply Shareholders do not have to approve the restructuring plan, with the court for the termination or temporary suspension unless otherwise specified under the company’s bylaws. of pending contracts (the counterparty is entitled to fair No protection is provided by the law in respect of enforcement compensation); and (ii) the prosecution of the self-liquidating proceedings. lines must be specifically approved by the court. Creditors cannot be crammed down. 3. Subject to exceptions provided by law, in Prodi’s and Marzano’s extraordinary administration proceedings the 2. The debt restructuring agreement has to be approved by commissioner(s) is/are entitled to terminate contracts not creditors representing at least 60% of the indebtedness. completely performed by both parties. The law provides a 60-day statutory moratorium for the 4. The commencement of the abovementioned plan/proceedings benefit of the debtor commencing on the date of filingof does not prevent the counterparty from terminating the restructuring agreement with the competent companies’ unperformed agreements under the general provisions of the register. Such moratorium may also be requested if the Italian Civil Code. debtor files – during the negotiations of the restructuring agreement with creditors – with the competent court a 5. “Certified” restructuring plans and debt restructuring proposal of a restructuring agreement together with the agreements do not impact the possibility of the parties to set- ancillary documentation required by law. off reciprocal debt/credits under the general provisions of the Italian Civil Code.

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6. Pre-bankruptcy agreements, Prodi’s and Marzano’s patrimoniale annuo); (b) more than EUR 200,000 of annual extraordinary administration proceedings allow creditors to revenue in each of the last three financial years; or (c) more set off sums owed to the distressed company against amounts than EUR 500,000 of debts (including no overdue debts). owed by the distressed company to them, though their credits In any case, a company cannot be placed into a bankruptcy are not overdue before the opening of the procedures. procedure when the amount of the debts overdue and not paid Nevertheless, in case of credits which are not yet overdue, is less than EUR 30,000, irrespective of the above-mentioned set-off operations are not allowed where the credit has been thresholds. assigned to creditors by means of an inter vivos act executed 2. Bankruptcy agreement. The debtor, already placed in after the debtor has been placed into the concerned procedure bankruptcy proceedings, can be admitted into this procedure or during the previous year before the beginning of said when one or more creditors, a third party, or the debtor Italy procedure. propose a plan, which may provide: (a) the restructuring of debts and the reimbursement of creditors by any possible means; (b) the assignment of the debtor’s assets in favor of 3.7 How is each restructuring process funded? Is any an assignee (assuntore); (c) the subdivision of the creditors protection given to rescue financing? into different classes on the basis of their legal status (i.e. seniority) and economic interests; and/or (d) different 1. In general, the debtor company bears the costs of the treatment for creditors belonging to different classes. restructuring process and claims arising from restructuring 3. Compulsory administrative liquidation. A company is placed process are considered “super-priority”. into this procedure when (i) it is insolvent, and (ii) it is a 2. Specific provisions are aimed at granting “super-priority” to company which, in accordance to Italian law, may be placed claims arising from rescue financings in debt restructuring into a compulsory administrative liquidation procedure (i.e. agreements and pre-bankruptcy agreements, provided that banks, insurance companies). the specific requirements set out by Italian law are met. 4. Pre-bankruptcy agreement and debt restructuring agreement: More specifically, “super-priority” is granted to claims see question 3.3, point 1, above. arising from: (a) financing granted to provide the company the financial 4.3 Who manages each winding up process? Is there any means necessary to access to a debt restructuring court involvement? agreement or a pre-bankruptcy agreement. In this case the Italian law requires that: (i) the relevant financing is envisaged by the restructuring plan; and (ii) the “super- 1. Bankruptcy. The court appoints the judge in charge of the priority” is subsequently granted by the court; procedure and the official receiver. The judge supersedes the whole procedure, authorises the extraordinary administration (b) financing requested by a debtor that has already submitted/ acts proposed by the official receiver and appoints the is in the process of submitting a request for a debt creditors’ committee (which watches over the official restructuring agreement or a pre-bankruptcy agreement. receiver’s activity, and authorises and expresses its opinion In this case, Italian law requires that: (i) an independent on the official receiver’s acts, when required by the law). expert certifies that the financing is functional to creditors’ The official receiver is in charge of the management of the best interests; and (ii) prior to the granting of the financing, bankrupt company. “super-priority” is expressly recognised by the court; 2. Bankruptcy agreement. Once the bankruptcy agreement is (c) financing granted to a debtor that has already submitted/is in approved by the court, the directors manage the company the process of submitting a request for a debt restructuring to implement the agreement. The judge in charge of the agreement or a pre-bankruptcy agreement in order to procedure, while the official receiver and the creditors’ address company’s urgent needs related to the corporate committee supervise the procedure. activities. In this case no certification by an independent expert is required, but the court shall expressly authorise 3. Compulsory administrative liquidation. The Public Authority the financing before it can be granted; and directs the whole procedure and authorises the extraordinary administration acts proposed by the commissioner. The (d) financing granted to implement the restructuring plan commissioner is in charge of the management of the company. relating to a debt restructuring agreement or a pre- bankruptcy agreement homologated by the court. 4. Pre-bankruptcy agreement and debt restructuring agreement. See question 3.4, point 3, above. Please note that, when the pre-bankruptcy agreement is aimed at winding up the 4 Insolvency Procedures business, the court appoints a judicial liquidator.

4.4 How are the creditors and/or shareholders able to 4.1 What is/are the key insolvency procedure(s) available influence each winding up process? Are there any to wind up a company? restrictions on the action that they can take (including the enforcement of security)? The key insolvency procedures available to wind up a company are: bankruptcy; compulsory administrative liquidation; and bankruptcy 1. There is no centralised process to ascertain claims before agreements. the bankruptcy court; in bankruptcy and compulsory However, pre-bankruptcy agreements and debt restructuring administrative liquidation, creditors have to file a petition with the bankruptcy court or the commissioner(s), indicating: agreements can be aimed at winding up the company as well. (i) the amount of the claim; (ii) the facts and the evidence supporting the claim; and (iii) the indication of any security. 4.2 On what grounds can a company be placed into each The bankruptcy court or the commissioner(s) decide on the winding up procedure? admittance of the claim to the procedure estate. The decision may be appealed by the creditor. 1. Bankruptcy. A company is placed into this procedure when Once the debtor is admitted to any of the winding up it is insolvent and any of the following thresholds is passed: procedures described above (or following the filing within (a) more than EUR 300,000 of its annual assets (attivo the company’s register of a “blank” petition for the admission

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to the pre-bankruptcy agreement proceedings), the creditors, whose rights accrued prior to the date of such decision, 4.6 What is the ranking of claims in each procedure, cannot take legal action against the debtor in order to enforce including the costs of the procedure? their claims. Specific rules apply to the enforcement of securities. In The ranking depends on the fact that the relevant proceeds arise particular: from the sale of (a) real estate assets, or (b) movable assets. (a) Pledge: the creditor can sell the pledged asset if: (i) he As to point (a), the order of priority is the following: has been admitted to the procedure estate as a secured (i) claims and financings that are pre-deductedvis-à-vis all other creditor; and (ii) the judge has authorised the sale of the claims (except for claims granted by mortgage, unless the

pledged asset. pre-deductible claim is connected with expenses suffered in Italy Alternatively, the judge can order the official receiver to relation to the mortgaged asset); redeem the pledged asset against payment to the creditor (ii) privileged claims arising in connection with the relevant real of the full amount of its claim. estate asset: (i) judicial costs incurred to preserve the asset or (b) Mortgage: following a bankruptcy declaration, the to proceed with enforcement against such asset in favour of mortgagee creditor cannot continue the foreclosure all mortgaged creditors; (ii) sums due in respect of various proceeding and the official receiver intervenes in the claims for taxes on real estate assets; (iii) claims against the pending foreclosure proceeding and exercises any related relevant promissory note for failure to perform a preliminary right in the interest of all the creditors. contract (if certain conditions, laid down by law, are met); and (iv) all other privileged claims the priority of which is not (c) Fondiario mortgage: in case of a “fondiario” loan (i.e. a set by law; loan granted for the purchase or the development of real estate assets), the mortgagee creditor can start and/or (iii) claims secured by mortgage; continue the enforcement proceeding against a bankrupt (iv) other privileged claims, in the order of priority provided by borrower over the mortgaged properties. law; and (d) Privileges (including floating charge): the creditor does not (v) unsecured claims (paid pro rata in compliance with the have right to foreclose and can only obtain recognition of principle of equal treatment of creditors (par condicio his privileged (senior) status at the time of the distribution creditorum)). of the bankruptcy estate. As to point (b) above, the order of priority is the following: (e) Financial guarantees: in case of a financial guarantee (i.e. (i) claims and financings that are pre-deducted vis-à-vis all a pledge, a credit assignment agreement or a transfer of other claims (except for claims granted by pledge, unless the financial activities with guarantee function), the creditor pre-deductible claim is connected with expenses suffered in can start and/or continue the enforcement proceeding relation to the pledged asset); against a debtor which has started a restructuring or (ii) other privileged and secured claims, in the order of priority a winding up procedure, provided that the specific provided by law; and conditions set out by Italian law are met. (iii) unsecured claims (paid pro rata in compliance with the 2. Shareholders do not have to approve the petition of admission principles of equal treatment of creditors (par condicio to the abovementioned procedures, unless otherwise specified creditorum)). under the bylaws of the company.

4.7 Is it possible for the company to be revived in the 4.5 What impact does each winding up procedure have on future? existing contracts? Are the parties obliged to perform outstanding obligations? Will termination and set-off provisions be upheld? Although it is not possible for the bankrupt company to be revived in the future, if its business is sold as a going concern, such business 1. Subject to certain exceptions provided by law, the may continue its activity within a different legal entity. commencement of bankruptcy and compulsory administrative liquidation suspends pending contracts, until the official receiver (or the commissioner) – upon the approval of the 5 Tax creditors’ committee (or of the surveillance committee) – approves their performance or termination. 5.1 Does a restructuring or insolvency procedure give 2. The impact of pre-bankruptcy agreements and debt rise to tax liabilities? restructuring agreements on pending contracts is referred to under question 3.6 above. From a direct tax standpoint, companies placed in bankruptcy, 3. The commencement of bankruptcy and compulsory compulsory administrative liquidation, bankruptcy agreement, or administrative liquidation does not prevent the counterparty from terminating unperformed agreements under the general Prodi’s or Marzano’s extraordinary administration proceedings are provisions of the Italian Civil Code. subject to specific rules regarding the calculation of the taxable income and the filing of the income tax return. In particular, the first 4. Bankruptcy and compulsory administrative liquidation allow creditors to set off sums owed to the distressed company tax period ranges from the beginning of the ordinary tax period of against amounts owed by the distressed company to them, the company and the declaration of the beginning of the procedures. though their credits are not overdue before the opening of the During such period, the company shall determine its taxable income procedures. according to the ordinary rules provided by the Italian Tax Law. Nevertheless, in case of credits which are not yet overdue, Starting from the beginning of the procedure, the company shall set off operations are not allowed where the credit has been determine a single taxable period for the entire procedure period, assigned to creditors by means of an inter vivos act executed even if it lasts more than 12 months. During such period, the after the debtor has been placed into the concerned procedure company is not subject to corporate income tax. However, if – at the or during the previous year before the beginning of said end of the procedure period – a positive difference between: (i) the procedure. remaining equity; and (ii) the company’s net equity at the beginning

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of the procedure arises, such difference is subject to taxation in the hands of the company according to ordinary rules. 7.2 Is there scope for a restructuring or insolvency process commenced elsewhere to be recognised in In case of a “certified” restructuring plan, debt restructuring your jurisdiction? agreement, or pre-bankruptcy agreement, companies are subject to the ordinary rules provided by the Italian Tax Law. 1. Under EC Regulation 1346/2000 and EU Regulation From an indirect tax standpoint, ordinary rules apply. 848/2015 (which will replace Regulation 1346/2000 from June 2017), the opening of an insolvency proceeding in an EU Member State will be recognised in all other Member 6 Employees States. In any case, the recognition of the procedure will Italy not preclude the opening of an insolvency proceeding in another Member State; such proceeding will be a “secondary 6.1 What is the effect of each restructuring or insolvency proceeding” and will only concern the assets of the debtor procedure on employees? situated in the territory of this Member State. 2. As to procedures opened in States outside the EU, Italian 1. “Certified” restructuring plans, debt restructuring agreements, Law N. 218/1995 applies: the competent court of appeal will and pre-bankruptcy agreements do not have formal effects on declare the foreign judgment enforceable in Italy provided employment contracts. that: 2. The commencement of a bankruptcy, compulsory (a) the foreign court was competent to issue the judgment administrative liquidation and extraordinary administration according to Italian law on jurisdiction; procedure (so-called amministrazione straordinaria) does (b) the defendant received adequate notice and was afforded not constitute a cause for dismissal. In these cases, according sufficient time to appear in accordance with the law of the to the most recent case law, the performance by employees foreign tribunal; of their activity is suspended until the official receiver or the commissioner – upon approval of the creditor’s committee or (c) the parties in the foreign action actually appeared or the of the surveillance committee – approve their performance or absence of either party was properly taken into account in termination, but during this period employees are however, accordance with the law of the foreign tribunal; entitled to receive a salary. (d) the foreign judgment was final (i.e. not subject to appeal); If companies are placed in an extraordinary administration (e) the foreign judgment is not in conflict with a final procedure, the employees have the right to benefit for a judgment handed down by an Italian court; specific period of time from employees’ salary integration (f) the parties are not litigating the same matter before an (so-called “CIGS”). Italian court in a proceeding started before the beginning When the business cannot be continued, the official receiver of the foreign proceeding; and and the commissioner(s) are empowered to start a collective (g) the foreign judgment is not contrary to Italian rules of dismissal procedure to terminate the employees’ relationships. public policy and public order.

7 Cross-Border Issues 7.3 Do companies incorporated in your jurisdiction restructure or enter into insolvency proceedings in other jurisdictions? Is this common practice? 7.1 Can companies incorporated elsewhere restructure or enter into insolvency proceedings in your The possibility for an Italian company to restructure or enter into jurisdiction? insolvency proceedings in other jurisdictions outside the EU depend on the specific legal provisions of the foreign jurisdiction. For EU 1. According to the Italian Bankruptcy Law, without prejudice jurisdictions, the same principles referred to under question 7.1 are to international conventions and EU legislation, the debtor applicable. It is not common for Italian companies to restructure or that has its registered office abroad may be declared bankrupt in Italy even if it has been declared bankrupt abroad. enter into insolvency proceedings in other jurisdictions. 2. Under EC Regulation 1346/2000 and EU Regulation 848/2015 (which will replace Regulation 1346/2000 from 8 Groups June 2017), the courts of the Member State in whose territory the centre of a debtor’s main interests (so-called “COMI”) is located will have jurisdiction for the insolvency proceedings. 8.1 How are groups of companies treated on the For companies, in absence of proof to the contrary, the place insolvency of one or more members? Is there scope of the registered office will be presumed to be the centre of for co-operation between officeholders? main interests. 3. The concept of COMI has been used many times in The Italian Bankruptcy Law does not set out specific provisions restructuring of groups of companies in order to attract concerning groups of companies. However, special provisions foreign companies to Italian insolvency proceedings. The are set out in Prodi’s and Marzano’s extraordinary administration various cases include many (Dutch, Luxembourg, German, Maltese, Irish) companies of the Parmalat Group, Mariella proceedings law, particularly with reference to: Burani, Cirio, Giacomelli, and others. (i) the criteria to enter into the proceedings: once the holding is subject to the proceedings, the insolvent subsidiaries may also enter into the proceedings even if the thresholds for the admission to the proceedings (see question 3.3, points 2 and 3) are not met; (ii) the law provides that the same individuals shall be appointed as holding proceedings officer and subsidiary proceedings officer;

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(iii) the extraordinary commissioner shall draft a proceedings programme which is supplementary to the holding 9 Reform proceedings programme; and (iv) claw-back actions (see question 2.3, point 3). 9.1 Are there any proposals for reform of the corporate The draft law published by the commission recently appointed by rescue and insolvency regime in your jurisdiction? the Italian Government (see question 9.1 below) contains specific provisions relating to group insolvency. Those provisions include: The Italian Parliament is currently discussing a proposal, filed by (a) the possibility for companies belonging to same group to file a the government supported by a technical commission, to define the sole petition for the admission to the pre-bankruptcy agreement or guidelines for the reform of the Italian bankruptcy law (the specific for the approval of a debt restructuring agreement (however, assets timing for its entry into force is not yet clear). Italy and liabilities of the single companies cannot be confused); (b) duties The reform will address: (a) grounds for commencing insolvency of cooperation and information among the bodies of the insolvent proceedings; (b) effects of commencing insolvency proceedings companies belonging to the same group; and (c) subordination of on the debtor, on the relevant acts and on contracts in force; (c) intergroup claims. insolvency of groups; (d) “alert” proceedings; (e) administrative proceedings to eliminate insolvency; (f) amendments to the thresholds to access to a debt restructuring agreement and the cram down of dissenting creditors; and (g) crises of “small” debtors.

Vittorio Lupoli Lucio Guttilla BonelliErede BonelliErede 1 Via delle Casaccie 1 Via Barozzi 16121, Genoa 20122, Milan Italy Italy

Tel: +39 010 84621 Tel: +39 027 71131 Email: [email protected] Email: [email protected] URL: www.belex.com URL: www.belex.com

Vittorio Lupoli is a partner in BonelliErede’s Genoa office and focuses Lucio Guttilla is a managing associate at BonellErede’s Milan office. on commercial law issues and financial markets law. He has extensive He focuses on debt restructuring transactions and insolvency experience in corporate consultation, restructuring companies in proceedings and also advises on various commercial, banking and crisis, management of extraordinary corporate finance transactions, other civil matters. public purchase offers and bid requests. Mr. Guttilla joined the firm in 2005 after having graduated with honours Mr. Lupoli joined Bonelli e Associati in Genoa in 1990 and became a from the Luiss University in Rome in the same year. He was admitted partner at Bonelli Erede Pappalardo in 2000. to the Italian Bar in 2008. Mr. Lupoli graduated from the University of Genoa in 1990 and was Between 2010 and 2011, he worked in London as a “Visiting Foreign admitted to the Italian Bar in 1993. Lawyer” at Slaughter and May, focusing on M&A and extraordinary operations.

BonelliErede is one of the largest independent law firms in Italy, with offices in Milan, Rome, Genoa, London, and Brussels. BonelliErede has also two offices in Africa: one in Cairo, in cooperation with Kosheri, Rashed & Riad, and one in Addis Ababa, in cooperation with Teshome Gabre-Mariam Bokan Law Office.

It offers a full range of commercial legal services, combining business acumen with academic excellence. BonelliErede is not only a leading law firm in Italy but also a successful independent international law firm; an essential part of its international strategy is to forge relationships with a wide number of other distinguished independent law firms in Europe and worldwide.

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Japan Yoshinori Ono

Nishimura & Asahi Hiroshi Mori

The SMTSC and the TADR are used by companies in financial 1 Overview difficulty with creditors who are financial institutions. The debtor and the creditors conduct negotiations for debt restructuring with 1.1 Where would you place your jurisdiction on the guidance from neutral special advisors. These procedures are not spectrum of debtor to creditor-friendly jurisdictions? open to the public and serve as a kind of private restructuring process for financial institutions as creditors. A financial support plan (e.g. We think that Japan is a debtor-friendly jurisdiction in light of the amendment of the conditions of repayment, release of debt and following systems. Under Japanese insolvency and restructuring debt-for-equity swap) is decided with the unanimous acceptance of laws, the debtor is not obligated to file a petition for a bankruptcy financial institution creditors. or restructuring process in court even when it is insolvent (except in (b) Formal Court Proceedings case of a liquidator of a stock company). The relevant laws provide The court procedures in Japan for companies facing financial for a voluntary filing for restructuring and insolvency processes. difficulties are categorised into: (I) the rehabilitation process, According to a report by the Japan Federation of Bar Associations consisting of (a) Civil Rehabilitation Proceedings, and (b) Corporate in 2014, more than 96% of the natural persons who filed for Reorganisation Proceedings; and (II) the liquidation process, bankruptcy proceedings received relief from debt obligations in consisting of (c) Bankruptcy Proceedings, and (d) Special Liquidation the bankruptcy process. In addition, it is quite uncommon for a Proceedings ((a), (b), (c) and (d), collectively: “Court Procedures”). bankrupt person to be punished in connection with the bankruptcy The main characteristics of these procedures are as follows. process. However, there is an exception for cases where a person has (1) Civil Rehabilitation Proceedings (“Civil RP”): Debtor- committed fraudulent bankruptcy acts specified in the Bankruptcy in-possession proceedings with the purpose of reducing Act. Also, there is a special bankruptcy process for an individual creditors’ claims through a rehabilitation plan that is approved person or small/midsize company at many Japanese courts where a by the creditors’ meeting and confirmed by the court in order bankruptcy filing is permitted with a small deposit (e.g. JPY200,000) to rehabilitate the debtors’ business. (See question 3.5 as to (Small Amount Trustee System). Under the Civil Rehabilitation Act the conditions for approval by a creditors’ meeting.) (enforced in April 2000), it is possible for individuals and business (2) Corporate Reorganisation Proceedings (“Corporate RP”): enterprises to restructure their debts expeditiously. Rehabilitation proceedings for stock companies which are mainly conducted by a trustee appointed by the court. Moreover, there are several private methods for restructuring debts owed to financial institutions without using a court process. Such (3) Bankruptcy Proceedings (“BP”): Liquidation proceedings conducted by a bankruptcy trustee appointed by the court. procedures include, among others, the procedures conducted by the Small and Medium-sized Turnaround Support Committee and the (4) Special Liquidation Proceedings (“SLP”): Debtor-in- possession liquidation proceedings for a stock company procedures under Turnaround Alternative Dispute Resolution. conducted by a liquidator. The directors of the company become its liquidators unless otherwise determined by the 1.2 Does the legislative framework in your jurisdiction articles of incorporation or the shareholders’ meeting. This allow for informal work-outs, as well as formal procedure is aimed for the distribution of the liquidation restructuring and insolvency proceedings, and are company’s assets by agreement among the debtor’s creditors each of these used in practice? according to the rules under the Companies Act.

(a) Informal Work-outs 2 Key Issues to Consider When the For the purpose of restructuring a company’s debt, it is possible Company is in Financial Difficulties to reduce the amount of debt with the unanimous consent of all of the company’s creditors under Japanese law. In addition, there are formal procedures established by law to obtain each creditor’s 2.1 What duties and potential liabilities should the consent. Such procedures include, among others, the procedures directors/managers have regard to when managing a conducted by the Small and Medium-sized Turnaround Support company in financial difficulties? Is there a specific Committee (“SMTSC”) and the procedures under the Turnaround point at which a company must enter a restructuring or insolvency process? Alternative Dispute Resolution (“TADR”). These procedures are available to achieve a restructuring of a company’s debts and Directors of stock companies who continue to trade while the stock conducted without court supervision.

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company has financial difficulties should note the following issues (b) An act conducted by a debtor that is detrimental to its concerning their potential liability: creditors after suspension of payments or the filing (1) if a director neglects his/her duties as a company director, he/ of a petition for commencement of any of the Court she will be liable to the company for damages arising as a Procedures (collectively, a “Suspension of Payments”) result of such neglect. If a director acts with wilful intent or took place (this does not apply where the person who has with gross negligence in neglecting such duties, such director benefitted from such act did not know that a Suspension of is liable to third parties for damages arising as a result of such Payments had taken place or that the act was detrimental neglect. In addition, if a director causes damages to third to the debtor’s creditors). parties in the course of business by negligence or intentionally, (c) An act to extinguish debt in exchange for giving property he/she is also liable to third parties for such damages; if the value of property exceeds the amount of the debt (2) if a director commits an act of malfeasance, there is a extinguished and such act satisfies either of conditions Japan possibility that such director will be criminally liable for (a) and (b) above. Such act may be avoided only for the breach of trust stipulated in the Criminal Code or aggravated portion of the property which exceeds the value of the breach of trust stipulated in the Companies Act; and cancelled debt. (3) there are specific procedures for pursuing director’s liability (d) Any gratuitous act conducted by the debtor within six in an expedited process in Civil RP, Corporate RP, BP and months prior to, or after, a Suspension of Payments. SLP. A petition for an assessment of director’s liability can be (2) Disposal of Assets with the Intention to Conceal the Proceeds filed in such proceedings asserting damages to the company by an illegal act by a director. An act of disposal of property (in exchange for reasonable value) from another party in which both of the following Under Japanese law, it is possible for a stock company to file a conditions apply: petition for restructuring or insolvency court proceedings when its (i) The act creates an actual risk that the debtor may conceal financial conditions meet certain conditions stipulated under the or otherwise dispose of the property in a manner which law. However, filing such a petition is not mandatory except when a is detrimental to creditors (“Concealment”) by changing liquidator of a stock company which is going through a liquidation real property to cash or any other manner. process under the Companies Act finds that the company may be (ii) The debtor had the intention of conducting a Concealment insolvent. In such a case, the liquidator is obligated to file a petition and the other party knew of this intention. for a special liquidation process supervised by the court. (3) Preferential Act concerning Provision of Security or Extinguishment of Debt 2.2 Which other stakeholders may influence the (a) An act to provide security or extinguish debt after the company’s situation? Are there any restrictions on the debtor becomes unable to pay its debts, or a petition for action that they can take against the company? commencement of any of the Court Procedures has been filed. A creditor may file a petition to commence BP at court by providing (b) An act to provide security or extinguish debt within 30 prima facie evidence to show (i) the existence of the creditor’s claim, days prior to the date when the debtor becomes unable and (ii) the fact constituting the grounds for commencement of BP to pay its debts if such act is not based upon the debtor’s for the debtor. A creditor may file a petition to commence Civil RP legal obligation. in court by providing prima facie evidence to show the existence (These do not apply where the creditor did not know the of (i) the creditor’s claim, and (ii) the risk that facts constituting relevant fact as mentioned above.) grounds to commence BP of the debtor will occur. (4) Perfection In addition, as to a stock company: (i) a creditor who holds claims An act of perfection to assert the establishment, transfer that account for one-tenth or more of the amount of the stated capital or modification of a right against a third party (including a of the stock company; and (ii) a shareholder who holds one-tenth or provisional registration) may be avoided if (a) the perfection more of the voting rights of all shareholders of the stock company, action occurs after a Suspension of Payments, (b) the may file a petition to commence Corporate RP at court by providing perfection action occurs 15 or more days after the date of prima facie evidence to show the existence of (i) the creditor’s establishment, transfer or modification of the right, and (c) claim, and (ii) the risk that facts constituting grounds to commence the perfection action was attempted with a knowledge of the BP of the debtor will occur. Suspension of Payments. A creditor, liquidator, company auditor or shareholder may file a The Trustee and Supervisor may exercise the right of petition in court to commence SLP. avoidance in court. Depending on the type of voidable action (as described above), the right of avoidance would allow them to petition the court for a court judgment for restoration 2.3 In what circumstances are transactions entered of the estate of the debtor (e.g. return of property or payment into by a company in financial difficulties at risk of or cancellation of mortgage which may be avoided under the challenge? What remedies are available? applicable law).

The trustee in Corporate RP or BP (“Trustee”) or the supervisor in Civil RP (“Supervisor”) may exercise the right of avoidance against 3 Restructuring Options certain acts as listed below. Note that there is no right of avoidance under Special Liquidation Proceedings. 3.1 Is it possible to implement an informal work-out in (1) Fraudulent Act your jurisdiction? (a) An act conducted by the debtor that is detrimental to its creditors while the debtor has knowledge that it is Under Japanese law, it is possible to implement an informal work- detrimental (this does not apply where the person who out in addition to restructuring or insolvency court proceedings. has benefited from such act did not know that the act was detrimental to the debtor’s creditors).

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In Civil RP or Corporate RP, if the proposed rehabilitation plan 3.2 What formal rescue procedures are available in your is approved at a creditors’ meeting, the court will examine the jurisdiction to restructure the liabilities of distressed pertinent conditions required by law and approve the rehabilitation companies? Are debt-for-equity swaps and pre- plan. Upon the approval of the rehabilitation plan, the reduction packaged sales possible? of debts will become effective and the debtor shall pay the debts according to the plan. As explained in question 2.1 above, a company with financial difficulties may utilise Civil RP or Corporate RP in orderto The requirements for approval of a proposed reorganisation plan by restructure the liabilities. the creditors meeting are as follows: A debt-for-equity swap (Debt-Equity Swap or “DES”) is permitted (1) Civil RP Japan as one of the restructuring schemes. DES reduces debt and provides (a) Consent of the majority (by number of creditors who creditors with an opportunity to obtain capital gains and income exercise a vote), and (b) consent of creditors who hold claims in an amount not less than a half (½) of the total amount of from the equity after the rehabilitation of the company. claims owed by the debtor. A “pre-packaged sale” is also possible. It refers to a type of procedure (2) Corporate RP where a debtor selects its potential sponsor before the commencement Approval of both (a) the unsecured claim creditors’ group, of Civil RP or Corporate RP. By such arrangement, it is possible to and (b) the secured claim creditors’ group are necessary as avoid the impairment of the debtor’s business due to announcement per the conditions below: of insolvency procedure by publication of the existence of the (a) unsecured claims: consent of the persons who hold more sponsor after Civil RP or Corporate RP is commenced. than half of the total amount of unsecured claims; and (b) secured claims: conditions for approval varies according 3.3 What are the criteria for entry into each restructuring to the content of the proposal as set forth below. procedure? (i) A proposed reorganisation plan which provides for the extension of the terms of secured claims: consent of As a common practice in Japan, when a company has financial the secured creditors who hold secured claims that are difficulties, an informal work-out is conducted with creditors that not less than two-thirds (⅔) of the total amount of the are financial institutions without involving other types of creditors, secured claims. such as trade creditors. In such cases, it is possible for the company (ii) A proposed reorganisation plan which provides for to continue to conduct its business during the work-out process the reduction and release of debts for secured claims whereby the company can avoid the damages to its business which or provides for measures that may affect the rights of would be caused if the company goes through Civil RP or Corporate secured creditors other than the extension of terms: RP. consent of secured creditors who hold secured claims that are not less than three-fourths (¾) of the total On the other hand, in the case of Civil RP and Corporate RP, all amount of the secured claims. types of creditors are involved. The grounds for commencement (iii) A proposed reorganisation plan which aims for of these procedures are (a) when there is a risk that grounds for the discontinuation of the entire business of the commencement of BP will occur to a debtor (see question 4.2), and reorganisation company: consent of secured creditors (b) when it is extremely difficult for a debtor to continue its business who hold secured claims that are not less than nine- if the debtor pays its debts that are due. tenths (9/10) of the total amount of the secured claims. (Notes: (a) “Cramdown” is permitted by the law. Even if 3.4 Who manages each process? Is there any court one creditor group disapproves the reorganisation plan, the involvement? court may approve the reorganisation plan by creating new provisions to the plan which protect the interest of the creditor group who disapproved the plan; and (b) in exceptional cases In the case of an informal work-out, the executive directors of the where a Corporate RP is used for a company which is not company continue to manage the company. Such directors also insolvent, consent of the shareholders who hold the majority control the informal work-out process with assistance from legal of shares is also required.) counsel specialised in insolvency cases. In Civil RP, secured creditors can enforce their security interests In case of Civil RP, the executive directors of the company outside of the proceedings. However, upon petition by the debtor, continue to manage the company and control the Civil RP under the court may cancel the security interests in exchange for the the supervision of the court. On the other hand, as a basic rule payment of the fair value of the subject property which is essential in Corporate RP, a trustee appointed by the court takes over the for continuance of the debtor’s business even if the amount of the positions of the executive directors and control the management of creditor’s claim exceeds such fair value of the subject property. It the company and the process of the Corporate RP. is a common practice for a debtor in Civil RP to negotiate and enter into an agreement with its key creditor who has security over the 3.5 How are creditors and/or shareholders able to core property of the debtor’s business (e.g. its factory) whereby influence each restructuring process? Are there any the creditor shall refrain from enforcing the security in exchange restrictions on the action that they can take (including for instalment payments of the fair value of the property agreed to the enforcement of security)? Can they be crammed between the parties. down? In Corporate RP, secured creditors cannot enforce their security outside of the proceedings. Their claims may be paid pursuant to the In an informal work-out, creditors that are financial institutions reorganisation plan with priority. However, if the subject property is participate in the process. In certain cases, business entities who clearly unnecessary for the reorganisation of the debtor’s business, a are major trade creditors also participate in the process. In order to secured creditor can enforce its security outside of the proceedings achieve a successful work-out, unanimous consent of all creditors after obtaining court approval. is necessary.

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3.6 What impact does each restructuring procedure have 4.3 Who manages each winding up process? Is there any on existing contracts? Are the parties obliged to court involvement? perform outstanding obligations? Will termination and set-off provisions be upheld? In BP, a trustee appointed by the court has the power to manage and dispose of the assets of the company and manage the BP under In principle, even if Civil RP or Corporate RP have commenced, the supervision of the court. In most cases of SLP, the executive contracts between the company and others will not be terminated director of the company may become the liquidator and manage the merely because of the commencement of proceedings. process under the supervision of the court. If a debtor is a party to an executory contract at the commencement Japan of Civil RP or Corporate RP, the debtor may choose (i) to reject the 4.4 How are the creditors and/or shareholders able to contract in which case it is terminated and the counterparty may influence each winding up process? Are there any seek damages as a rehabilitation creditor and demand the return of restrictions on the action that they can take (including what the counterparty has provided to the debtor under the contract, the enforcement of security)? or (ii) to assume the contract in which case the company must perform its obligations and may demand performance by the other In BP, the trustee will distribute the remaining cash to the creditors party. When a debtor chooses to assume a contract, further claims on a pro rata basis after the liquidation of the assets of the debtor by the counterparty shall take priority over other creditors. and payment of the claims with priorities. Therefore, the creditors Under Japanese law, it is necessary for the debts of two parties to and the shareholders are not able to influence the BP. become due in order to be eligible for set-off. In Civil RP and Corporate In SLP, a liquidation agreement may be proposed in a creditors’ RP, creditors can exercise the right of set off subject to the exceptions meeting. The requirements for approval of a liquidation agreement under the relevant law. The exceptions for set-off are (i) where the by the creditors’ meeting is: (i) consent of the majority of creditors person has acquired another person’s claim after the commencement (by the number of creditors who exercise a vote); and (ii) consent of such proceedings, and (ii) where the person has acquired a claim of the creditors who hold claims that are not less than two-thirds after the company became unable to pay debts, the company suspended (⅔) of the total amount of unsecured claims owed by the debtor. payments, or the petition for commencement of such proceedings was If the liquidation agreement is approved at the creditors’ meeting, filed, and the person knew, at the time of acquisition of the claim, of the court will examine the pertinent conditions required by law such fact. In addition, creditors can exercise the right of set off only and approve the agreement. According to the approved liquidation within the period for the filing of their claims specified by the court. agreement, the reduction of debts, payment of debts and liquidation of the company will be implemented. In SLP, it is also possible and 3.7 How is each restructuring process funded? Is any common for a company to enter into separate settlement agreements protection given to rescue financing? with each of the creditors with court approval instead of holding a creditors’ meeting. The expenses for the restructuring process are paid by the debtor. In In BP and SLP, secured creditors can enforce their securities outside case of Civil RP and Corporate RP, (a) the debtor pays the expenses of the proceedings. for the process to the court before the process is started, and (b) court approval (Corporate RP) or the consent of the supervisor 4.5 What impact does each winding up procedure have on (Civil RP) is required in order for the company to borrow funds to existing contracts? Are the parties obliged to perform finance the proceedings. The claims arising from such financing outstanding obligations? Will termination and set-off with court approval or with consent of the supervisor are treated as provisions be upheld? priority claims under Corporate RP or Civil RP. In principle, even if a winding up procedure has commenced, contracts between the company and others will not be terminated 4 Insolvency Procedures merely because such procedure has commenced. However, the Civil Code provides for automatic termination of (a) an agent’s authority 4.1 What is/are the key insolvency procedure(s) available in case of bankruptcy of the agent, and (b) a mandate contract in to wind up a company? case of bankruptcy of the engaged party or the engaging party. If a debtor is a party to an executory contract at the commencement As explained in question 1.2 above, BP and SLP are available to of BP, the debtor may choose (i) to reject the contract in which wind up an insolvent company. case it is terminated and the counterparty may seek damages as a bankruptcy creditor and demand the return of what the counterparty has provided to the debtor under the contract, or (ii) to assume the 4.2 On what grounds can a company be placed into each winding up procedure? contract, in which case the company must perform its obligations and may demand performance by the other party. When a debtor The grounds for commencement of BP are (a) the debtor is unable chooses to assume a contract, further claims by the counterparty to pay its debts, or (b) the debtor is insolvent. In addition, when a shall take priority over other creditors. debtor has suspended payments, the debtor is presumed to be unable In SLP, there are no such rules which enable the company to assume to pay its debts. or reject the contracts. In case of SLP, the grounds for commencement of the procedures If a contract provides that (i) the contract shall be automatically are: (a) that implementation of ordinary liquidation procedures terminated, and (ii) the monetary obligations of both parties shall would be extremely difficult due to certain circumstances which be automatically set off upon commencement of BP or SLP, such apply to the company; or (b) the company is suspected of being clauses are effective. insolvent.

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tax claims which fall within the scope of expenses regarding 4.6 What is the ranking of claims in each procedure, management, realisation and distribution of a bankruptcy including the costs of the procedure? estate are regarded as priority claims and are paid outside the procedure. (1) BP (a) The following types of claims are paid with priority outside of BP. Namely, these creditors are not subject to the restrictions 6 Employees under BP and the debtor has to pay the debt when it is due. (x) Common benefit claims: 6.1 What is the effect of each restructuring or insolvency

Japan (i) Expenses for court proceedings performed for the procedure on employees? common interest of creditors. (ii) Expenses for the administration and disposition of the In rehabilitation procedures such as Civil RP and Corporate RP, debtor’s business and assets after the commencement employment relationships will not be directly affected by the of proceedings. commencement of the procedures. However, employees are (y) Claims with general priority. often dismissed according to a restructuring plan approved within (z) Claims with priority under other laws. For example, a tax the procedures. In liquidation procedures such as BP and SLP, claim or a claim to wages. all employees will be dismissed eventually because the company (b) Creditors may execute claims secured by security interests will continue to exist only for a short time for the purposes of the outside of the procedure. liquidation proceedings. (c) Claims with general priority other than those stated in (1) In each procedure, employees will be reimbursed for their rights to (a) above have preferential status within the procedure for wages with priority. dividend distribution. (d) Claims other than those above will be paid on a pro rata basis. 7 Cross-Border Issues (2) SLP (a) Claims as stated in (1)(a) above are paid with priority outside 7.1 Can companies incorporated elsewhere restructure of the procedure. or enter into insolvency proceedings in your (b) Creditors may execute claims secured by security interests jurisdiction? outside of the procedure. (c) Claims other than those above will be paid on a pro rata A foreign company incorporated in a country other than Japan may basis. file a petition for commencement of BP or Civil RP at Japanese court if such company has a business office, other office or property in Japan. A foreign company may also file a petition for 4.7 Is it possible for the company to be revived in the commencement of Corporate RP if it has a business office in Japan. future?

A stock company shall be dissolved upon the commencement of BP 7.2 Is there scope for a restructuring or insolvency under the Companies Act. SLP are applicable to a stock company process commenced elsewhere to be recognised in which has been dissolved and insolvent. Upon the completion of BP your jurisdiction? or SLP, the stock company ceases to exist. There is no legal system which makes it possible for such a company to revive in the future. According to the Act on Recognition of and Assistance for Foreign Insolvency Proceedings, the power and authority of a foreign trustee in foreign insolvency proceedings may be recognised in 5 Tax Japan through the recognition process in the Tokyo District Court (“TDC”).

5.1 Does a restructuring or insolvency procedure give If a debtor has a domicile, residence, business office or other rise to tax liabilities? office in the country where the foreign insolvency proceedings are petitioned against the debtor, a foreign trustee or the debtor (only if After the commencement of each procedure, a debtor will incur tax there is no trustee) may file a petition with the TDC for recognition liability for corporate income tax and consumption tax regarding of the foreign insolvency proceedings. the acts conducted by the company. It should be noted that if a If such a petition meets the requirements prescribed in law, the debtor is released of its debt to a creditor, the debtor will be subject court will issue an order for the recognition of foreign insolvency to tax liability for deemed income equal to the amount of forgiven proceedings. The court may dismiss the petition if there are grounds debt. Therefore, if the debtor has no deductible expenses applicable for dismissal which include, among others, the following: (a) it is to such income, the debtor may be subject to additional corporate obvious that the effect of the foreign insolvency proceedings does income tax. not extend to the debtor’s property in Japan; (b) it is contrary to Tax claims which arise after the commencement of each procedure public policy in Japan to render a disposition of assistance for the are recognised as follows: foreign insolvency proceedings pursuant to the Act on Recognition of and Assistance for Foreign Insolvency Proceedings; or (c) it is (a) Civil RP, Corporate RP, and SLP: Claims with general obviously unnecessary to render a disposition of assistance for the priority. foreign insolvency proceedings. (b) BP: Subordinate claim which is paid only after full payment of ordinary claims which exist at the time of the The court may, when it finds it necessary in order to achieve the commencement of proceedings. The creditor usually may not purpose of recognition and assistance, give an order such as (i) an receive any dividends for such subordinate claim. However, order to stay other court procedures, (ii) an order prohibiting the

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disposition of property, as well as prohibiting payments and other dispositions, (iii) an order to stay procedures to exercise security 9 Reform interests, (iv) an order prohibiting compulsory execution, (v) an order permitting the disposition of property by the debtor, and (vi) 9.1 Are there any proposals for reform of the corporate an administration order to appoint a “recognised trustee” who has an rescue and insolvency regime in your jurisdiction? exclusive power to administer the business and assets of the debtor within Japan. A recognised trustee may move the assets of the Japan experienced a long-term depression in 1990s after the “bubble debtor out of Japan after obtaining court approval. Such approval economy” of the 1980s. During this long-term depression, one of may be given by the court if the court recognises that there is no risk the most important problems facing Japan was the restructuring and that the interests of creditors in Japan would be harmed. liquidation of many companies facing financial difficulties. In order Japan to cope with the situation, the Japanese government implemented a 7.3 Do companies incorporated in your jurisdiction fundamental reform of the insolvency laws. As the first step of such restructure or enter into insolvency proceedings in reformation, in April 2000, the Civil Rehabilitation Act came into other jurisdictions? Is this common practice? force. In April 2003, a fundamental amendment to the Corporate Reorganisation Act was implemented. Then, the Bankruptcy Act We understand that it is quite uncommon for a company incorporated was materially amended in January 2005. The Special Liquidation in Japan to enter into restructuring or insolvency proceedings in Process was also fundamentally amended when the Companies other jurisdictions. However, it is common practice for Japanese Act was newly enacted in May 2006. Because these fundamental companies to apply for recognition of Japanese insolvency reforms took place in relatively recent years, it is not expected proceedings in a foreign court in order to deal with assets existing in for Japan to enact new reform of its corporate restructuring and a foreign country or contracts with a foreign party. insolvency regime in the near future.

8 Groups

8.1 How are groups of companies treated on the insolvency of one or more members? Is there scope for co-operation between officeholders?

Even in case of a group of companies, restructuring or insolvency proceedings are conducted for each company as a separate court case. However, it is common practice that the same person is appointed as trustee or supervisor so that such court cases for a group of companies may proceed simultaneously and efficiently.

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Yoshinori Ono Hiroshi Mori Nishimura & Asahi Nishimura & Asahi Otemon Tower, 1-1-2 Otemachi Otemon Tower, 1-1-2 Otemachi Chiyoda-ku, Tokyo 100-8124 Chiyoda-ku, Tokyo 100-8124 Japan Japan

Tel: +81 3 6520 6200 Tel: +81 3 6520 6200 Fax: +81 3 6520 7200 Fax: +81 3 6520 7200 Email: [email protected] Email: [email protected] URL: www.jurists.co.jp URL: www.jurists.co.jp Japan

Yoshinori Ono is a partner of Nishimura & Asahi. Since he started Hiroshi Mori is a partner of Nishimura & Asahi. He has been practising practising law in 1986, he has been advising foreign clients on various in an extensive range of corporate reorganisation cases and finance aspects of corporate restructuring cases and insolvency cases matters. Mr. Mori has acted as a court-appointed trustee in many under Japanese law. He has deep experience and knowledge as a corporate liquidation proceedings. He frequently advises clients bankruptcy trustee in bankruptcy cases and as a supervisor in civil with respect to private corporate rehabilitation and civil rehabilitation rehabilitation cases appointed by the Tokyo District Court. His practice issues. He was involved in the first case in Japan in which a company focuses on cross-border matters including corporate restructuring/ in civil rehabilitation proceedings had its listing stayed on the stock insolvency, business crime, antitrust/antimonopoly, cross-border market. His background as a practitioner is unique in that, prior to investment/licensing, joint ventures, mergers and acquisitions, labour entering private practice, he worked for a Japanese government bank issues, real estate investment and cross-border dispute resolution. for 16 years and for a Japanese government agency for two years. Mr. Ono is a graduate of the University of Tokyo (LL.B., 1981) and was Mr. Mori graduated from the University of Tokyo (LL.B.) and Duke admitted to practise law in Japan in 1986. University School of Law (LL.M.).

Nishimura & Asahi is one of Japan’s premier full-service law firms, covering all aspects of domestic and international business and corporate activity. The firm currently has more than 500 Japanese and foreign lawyers and employs over 500 support staff, including tax accountants, and one of the largest teams of paralegals in Japan. Offices: Tokyo; Nagoya; Osaka; Fukuoka; Bangkok; Beijing; Shanghai; Hanoi; Ho Chi Minh City; Jakarta*; Singapore; Yangon; Hong Kong** and Dubai. Key areas of practice: Corporate: General Corporate; M&A; Compliance; Start-up Businesses; Labour Law; and Real Estate/Environmental. Finance: Banking; Capital Markets; Asset Management; Structured Finance/Securitisation; Asset Finance; Acquisition Finance; Insurance; and PFI/Project Finance. Restructuring/Insolvency. Cross-Border Practice: International Transactions; International Trade; International Disputes; and International Taxation. Dispute Resolution: Civil & Commercial Disputes; Administrative Disputes; and Specialised Disputes. IT/IP: IP Disputes; IP Transactions; Venture Capital/Entrepreneurial Services; and Telecommunications/Media. Corporate Crisis Management. Antitrust. Tax: Tax Counselling; and Tax Controversy and Litigation. Trusts & Estates. Natural Resources and Energy. Managing Partner: Mr. Masaki Hosaka. Languages: Japanese; English; Chinese (Mandarin); and French. Total number of lawyers: 569. Email: [email protected] *Associate Office **Affiliate Office

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Korea Thomas P. Pinansky

Barun Law LLC Joo Hyoung Jang

financial credits). This is a more formal process than the voluntary 1 Overview agreement because the Korean Financial Services Commission (the “FSC”) may impose corrective measures or administrative fines for 1.1 Where would you place your jurisdiction on the failure to proceed the work-out according to the requirements and spectrum of debtor to creditor-friendly jurisdictions? the provisions under CRPA. B. Formal proceedings under DRBA Restructuring proceedings available in Korea allow debtors to a) Rehabilitation proceeding recover in order to perform normal economic activities. Insolvency ■ Commencement proceedings available in Korea are procedures in which a debtor Under DRBA, a company may restructure its debts through whose economic condition is unlikely to be recovered in the future a court-supervised rehabilitation proceeding in which the is dissolved and liquidated after distributing its assets equitably company’s debts are restructured according to a rehabilitation to its creditors. Korea is more debtor-friendly in the sense that, plan approved by the interested parties (e.g., creditors) and except for certain restrictions on creditors’ rights to exercise their the court. claims and on debtors’ rights to manage the business and dispose A rehabilitation proceeding under DRBA may be voluntarily of its assets, there aren’t many restrictions and each proceeding has applied by a debtor that is unable to pay its debts when due several measures that aim to achieve above goals. without a significant impact on the continuity of its business or its total debt is larger than its total assets. This proceeding may be also be involuntarily applied by a creditor who has 1.2 Does the legislative framework in your jurisdiction credits in the amount of at least 10% of the debtor’s equity allow for informal work-outs, as well as formal or a shareholder of the debtor who owns at least 10% of the restructuring and insolvency proceedings, and are debtor’s ownership interests. each of these used in practice? ■ Overview of the process When the court renders a decision to commence a The legislative framework in Korea allows for informal work-outs, rehabilitation proceeding, the court will order the receiver as well as formal restructuring and insolvency proceedings. to submit a rehabilitation plan if the court determines that Informal work-outs include (a) Voluntary Agreements, and (b) Work- the debtor’s continuing value is larger than the debtor’s outs under the Corporate Restructuring Promotion Act (“CRPA”). liquidation value. Once the court and the interested parties approve the rehabilitation plan submitted by the receiver, Formal proceedings available under the Debtor Rehabilitation the receiver implements the restructuring the debtor’s debts and Bankruptcy Act (“DRBA”), which are supervised by the according to the rehabilitation plan. courts, include (a) rehabilitation proceedings, and (b) bankruptcy For your information, the receiver owes a fiduciary duty when proceedings. performing his/her duties and functions in the rehabilitation A. Informal work-outs proceeding. Typically, the courts appoint the debtor’s a) Voluntary Agreement representative director as the receiver in order to ensure that a person who is familiar with the debtor’s business is involved Upon the debtor’s request for financial support, its creditors that are in the rehabilitation proceeding. financial institutions will review whether the debtor could be revised b) Bankruptcy proceeding in the future. Based on such review, a voluntary agreement will be ■ Commencement entered into among the debtor and creditor-financial institutions. Based on the voluntary agreement, the creditor-financial institutions The debtor or the debtor’s creditor may petition for a bankruptcy in case a debtor is unable to pay its debts when can relieve the debtor’s financial stress by, for example, extending due or its total debt is larger than its total assets. However, the term of the loan. This is considered the most flexible work- the court may at its discretion declare the debtor bankrupt if a out programme, given that the restructuring procedures proceed debtor’s continuing value is less than its liquidation value. voluntarily by a group of creditors composed of the debtor’s ■ Overview of the process creditors that are financial institutions. When the court declares the debtor bankrupt, the debtor’s b) Work-out procedure under CRPA debts are examined and the debtor’s assets after being There is a work-out procedure governed by CRPA and it may be monetised are distributed to its creditors. The trustee who is commenced by a resolution of a committee composed of creditors appointed by the court implements the bankruptcy procedures who own financial credits (consent of at least 75% of the total with a fiduciary duty.

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B. Receiver’s (rehabilitation proceeding) or trustee’s 2 Key Issues to Consider When the (bankruptcy proceeding) right to challenge Company is in Financial Difficulties Prior to the commencement of a rehabilitation proceeding or declaration of bankruptcy under DRBA, the receiver for the 2.1 What duties and potential liabilities should the rehabilitation proceeding or the trustee for the bankruptcy directors/managers have regard to when managing a proceeding may petition to the court for the cancellation of the company in financial difficulties? Is there a specific debtor’s legal actions and restitution of the relevant assets under one point at which a company must enter a restructuring of the following cases: or insolvency process? (1) the debtor’s acts would be detrimental to other creditors at the

Korea time such acts were taken, provided that the beneficiary was Under the Civil Code, a director is obligated to perform his/her aware that such acts would be detrimental to other creditors; duties with a fiduciary duty. One of the director’s fiduciary duties (2) the debtor’s acts would be detrimental to other creditors recognised by the Supreme Court of Korea includes a director’s or repay any debt or provide collateral after a suspension duty to monitor the adequacy of other directors’ performance under of payment or the filing of rehabilitation proceedings the relevant laws, regulations and articles of incorporation and a (collectively, the insolvency event), provided that the payee director’s duty to take necessary measures to prevent illegitimate or the secured party was aware that the insolvency event activities. had occurred or that such acts would be detrimental to other creditors; Also, if a company suffers damages or loss due to a cause attributable to a director’s wilful misconducts or negligence in performing his/ (3) the debtor’s acts that repay debt or provide collateral after or within 60 days prior to an insolvency event when the her foregoing duties, the director is responsible to compensate such insolvent debtor was not obliged to do so at such time, damages to the company under the Commercial Code and the Civil provided that the payee or secured party was aware that the Code and could potentially be subject to criminal penalties for a insolvency event had occurred or that such acts will prejudice breach of fiduciary duty. the equal treatment of the insolvent party’s creditors; and As explained above, duties and potential liabilities of directors are (4) the debtor’s acts that took place after or within six months determined based on whether the director fulfilled his/her fiduciary of the occurrence of an insolvency event and that conferred duty. There is, however, no law, regulation or precedent to date benefits on the beneficiary in exchange for no or nominal that explicitly requires a director to petition for a rehabilitation or compensation. a bankruptcy proceeding when the company is in financial distress. 3 Restructuring Options 2.2 Which other stakeholders may influence the company’s situation? Are there any restrictions on the action that they can take against the company? 3.1 Is it possible to implement an informal work-out in your jurisdiction? ■ A debtor may enter into a voluntary agreement with its creditor-financial institutions or may petition for a As explained above in question 1.2, there are two types of informal rehabilitation proceeding or a bankruptcy proceeding. work-outs in Korea: (1) Voluntary Agreement among the debtor ■ Creditor-financial institutions may enter into a voluntary and the creditor-financial institutions, and (2) work-out procedures agreement or may commence a work-out procedure according under CRPA. to CRPA. The benefits of these informal work-out procedures include their ■ A creditor who has credits in the amount of at least 10% of flexibility, as the procedures are supervised by creditors (not by a the debtor’s equity value may petition for a rehabilitation court), and their relatively minimal impact on the debtor’s credit proceeding and any creditors may petition for a bankruptcy rating. proceeding. ■ A shareholder of a debtor who owns at least 10% of the debtor’s ownership interest may petition for a rehabilitation 3.2 What formal rescue procedures are available in your proceeding and any shareholder may petition for a bankruptcy jurisdiction to restructure the liabilities of distressed proceeding. companies? Are debt-for-equity swaps and pre- packaged sales possible?

2.3 In what circumstances are transactions entered As we explained above in question 1.2, a formal rescue procedure into by a company in financial difficulties at risk of challenge? What remedies are available? available in Korea to restructure the liabilities of distressed companies is a rehabilitation proceeding under DRBA. Both debt- for-equity swaps and pre-packaged sales are possible. A creditor may petition to the court for cancellation of a debtor’s legal action according to the Civil Code. Also, prior to the Of the two, debt/equity swaps whereby creditors’ rehabilitation commencement of a rehabilitation proceeding or declaration credits are swapped into the debtor’s equity according to the of bankruptcy under DRBA, the receiver for the rehabilitation rehabilitation plan are commonly used. This is a commonly used proceeding or the trustee for the bankruptcy proceeding may petition restructuring method because, from the creditor’s perspective, it is to the court for cancellation of the debtor’s legal action. more beneficial to receive in stocks (which may later be monetised) A. Creditor’s right to challenge than to reduce its credit amounts. From the debtor’s perspective, such restructuring method could prevent repaying the debts out of A creditor may petition to the court for cancellation of a debtor’s its own pocket. legal action and a restitution of the relevant assets as a fraudulent conveyance if such action has reduced the debtor’s assets and the Based on the August 30, 2016 amendment to DRBA, pre-packaged debtor committed such action knowing that such action would sales were adopted. According to the amended DRBA, a creditor impair the creditor. (who owns at least 50% of the debtor’s debts) or a debtor (who

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obtained consent from such creditor) may submit a plan to the court proceeding and any creditors may petition for a bankruptcy before the commencement of a rehabilitation proceeding and the proceeding. A shareholder of a debtor who owns at least court may expedite the process based on the plan. However, so far, 10% of the debtor’s ownership interest may petition for a it is rarely used in practice. rehabilitation proceeding. ■ Also, creditors and shareholders participate in the rehabilitation plan approval process. At least ⅔ of the rehabilitation 3.3 What are the criteria for entry into each restructuring creditors’ consent, at least ¾ of secured creditors’ consent procedure? and at least ½ of the shareholders’ consent are required to approve a rehabilitation plan; provided, however, that, in case A. Informal work-outs the approval requirement of any of the stakeholders is not A voluntary agreement is entered into among the debtor and its satisfied, the court may nevertheless approve the rehabilitation Korea creditor-financial institutions when the creditor-financial institutions plan with safety measures protecting the stakeholder who did not consent. recognise that there is a chance that the debtor may recover in the future. The work-out under CRPA may be commenced by a For your information, a secured creditor is a creditor who resolution of a committee composed of creditors who own financial has a security interest on the debtor’s assets at the time of the credits (consent of at least 75% of the total financial credits). commencement of the rehabilitation proceeding. The secured B. Formal proceeding (rehabilitation proceeding) creditor may be repaid its credit by exercising its security interests within the umbrella of the rehabilitation proceeding. On the other Under DRBA, a company may restructure its debts through a court- hand, secured creditors under the bankruptcy proceeding may supervised rehabilitation proceeding in which the company’s debts exercise its security interests outside the umbrella of the bankruptcy are restructured according to a rehabilitation plan approved by the proceeding. interested parties (e.g., creditors) and the court. A rehabilitation proceeding under DRBA may be voluntarily applied 3.6 What impact does each restructuring procedure have to the court by a debtor that is unable to pay its debts when due on existing contracts? Are the parties obliged to without a significant impact on the continuity of its business or its perform outstanding obligations? Will termination and total debt is larger than its total assets. This proceeding may also be set-off provisions be upheld? involuntarily applied by a creditor who has at credits in the amount of at least 10% of the debtor’s equity or a shareholder of the debtor A. Informal work-outs who owns at least 10% of the debtor’s ownership interests. There is no impact on the existing contracts entered into by the debtor. However, the voluntary agreement and/or the corporate 3.4 Who manages each process? Is there any court restructuring plan under CRPA may have an impact on the rights involvement? and obligations of the debtor’s existing contracts. B. Formal proceeding (rehabilitation proceeding) A. Informal work-outs a) General rule Informal work-outs are supervised and implemented by creditors In principle, there is no impact on the existing contracts entered into without the court’s involvement. However, the FSC may impose by the debtors (even in case the debtor is declared bankrupt). corrective measures or administrative fines for failure to proceed with the work-out according to the requirements and the provisions b) Exceptions under CRPA. According to DRBA, an executory contract that has not been B. Formal proceeding (rehabilitation proceeding) completely performed by the debtor and the counter-party at the time of the commencement of the rehabilitation proceeding may A court appointed receiver has the authority to manage the debtor’s be revoked or terminated by the receiver or may demand the affairs and to dispose its assets. Typically, court appoints the counterparty to perform its obligations after completing the debtor’s debtor’s representative director as the receiver in order to ensure obligations. The counterparty may demand the receiver to confirm that a person who is familiar with the debtor’s business is involved its position as to whether the receiver will revoke/terminate the in the rehabilitation proceeding. contract or to perform the contract and the receiver will be deemed to have waived its revocation/termination right if the receiver fails 3.5 How are creditors and/or shareholders able to to provide his/her position within 30 days after receipt of the notice. influence each restructuring process? Are there any restrictions on the action that they can take (including the enforcement of security)? Can they be crammed 3.7 How is each restructuring process funded? Is any down? protection given to rescue financing?

A. Informal work-outs A. Informal work-outs Because a voluntary agreement is entered into with creditor- Typically, the debtor funds the restructuring process. However, financial institutions and the work-out under CRPA is commenced it may be otherwise agreed under the voluntary agreement or the based on a resolution of a committee composed of creditors who corporate restructuring plan under the CRPA. own financial credits (consent of at least 75% of the total financial B. Formal proceeding (rehabilitation proceeding) credits), shareholders are not able to influence such restructuring The person who petitions for a rehabilitation proceeding must pay process. Specific restrictions on the exercise of credits maybe costs prescribed by the court in advance. On the other hand, in stipulated in the voluntary agreement or the corporate work-out plan case a stakeholder other than a debtor petitions for a rehabilitation under the CRPA. proceeding, the petitioner may be reimbursed for the costs paid by B. Formal proceeding (rehabilitation proceeding) the debtor out-of-pocket in case the court decides to commence the ■ A creditor who has credits in the amount of at least 10% of rehabilitation proceeding. the debtor’s equity value may petition for a rehabilitation

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B. Exceptions 4 Insolvency Procedures However, this general rule may not apply to the following cases: a) DRBA 4.1 What is/are the key insolvency procedure(s) available Under DRBA, if both the debtor and the other party to a bilateral to wind up a company? contract have yet to fulfil the contract at the time of bankruptcy declaration (the “Executory Contract”), the bankruptcy trustee The key insolvency procedure in Korea is bankruptcy proceedings may elect to rescind or terminate the Executory Contract or require under DRBA, which are led and supervised by the court. the fulfilment of the other party’s obligations after fulfilling the debtor’s obligations. Since the decision to rescind or terminate the Korea 4.2 On what grounds can a company be placed into each Executory Contract is made by the bankruptcy trustee, the other winding up procedure? party may demand the trustee to provide a definitive answer as to whether the Executory Contract is to be rescinded, terminated or If the debtor company cannot repay its debts when they become upheld. In such cases, when the bankruptcy trustee fails to provide due or has more liabilities than the total amount of its assets, either a definitive answer within a reasonable time from the date on which the debtor or a creditor may file an application for a bankruptcy such trustee is so notified, the relevant Executory Contract shall be proceedings. Further, the court has the authority to declare deemed to have rescinded or terminated by the relevant trustee. bankruptcy of the debtor during the rehabilitation proceedings b) Civil Code without the relevant application from the debtor or creditor if the If a lessee has been declared bankrupt, either the lessor or the value of the continuation of debtor’s business is deemed to be lesser bankruptcy trustee may terminate the relevant lease agreement. than the value of it when it is liquidated. If the lessor has been declared bankrupt, the bankruptcy trustee may terminate the relevant lease agreement if the lessee does not 4.3 Who manages each winding up process? Is there any meet the requirements to claim against a third party. In the case court involvement? of employment agreements, the employee or the bankruptcy trustee may terminate the employment agreements of the bankrupted The court-appointed bankruptcy trustee plays the pivotal managing employer. The contractor or the bankruptcy trustee may terminate role in the bankruptcy procedure including, but not limited to, the contract for work when the person who ordered the contracted exercising the avoidance power, managing and disposing the work has been declared bankrupt. debtor’s properties, and monetising such properties into cash to c) Commercial Code make distribution to creditors. The insurance contract shall lose its effect upon the lapse of three A person who is appointed as the bankruptcy trustee cannot be months after the declaration of bankruptcy of the insurance company dismissed without justifiable grounds, he/she must perform her or his and the policyholder may terminate her or his insurance contract duties with the fiduciary duty, and he/she may receive remuneration once the relevant declaration is made. Further, the bankruptcy and expenses from the debtor’s property in the amount determined trustee may terminate the insurance contract if the insurer has been by the court. declared bankrupt.

4.4 How are the creditors and/or shareholders able to 4.6 What is the ranking of claims in each procedure, influence each winding up process? Are there any including the costs of the procedure? restrictions on the action that they can take (including the enforcement of security)? In Korea, the creditors may be categorised into three different groups based on the priority of their claim: A. the holder of the right to As discussed in question 4.2, the creditor may apply for a enforce outside bankruptcy proceeding (the “Secured Creditor”); B. bankruptcy proceeding, and the relevant bankruptcy proceeding is the estate creditor; and C. the bankruptcy creditor. The bankruptcy commenced if the competent court which received the creditor’s creditors may be further divided into the following three categories: application declares the debtor bankrupt. However, once the bankruptcy creditors with preferred claims; bankruptcy creditors bankruptcy proceeding is commenced, the creditor cannot influence with general unsecured claims; and bankruptcy creditors with the bankruptcy proceeding and is only entitled to the payments subordinate bankruptcy claims. pursuant to the respective credit amounts. A. Secured Creditors Still, a holder of the security interests over the debtor’s properties The Secured Creditor who holds the security right over the debtor’s which has a right to enforce outside bankruptcy may enforce the properties is generally deemed as the highest priority creditor in security for the fulfilment of its obligations without resorting to the relation to the secured subject property, since the Secured Creditor bankruptcy proceeding. may enforce the security for the fulfilment of its obligation without resorting to the bankruptcy proceeding. 4.5 What impact does each winding up procedure have on B. Estate Creditors existing contracts? Are the parties obliged to perform outstanding obligations? Will termination and set-off Estate creditors are creditors with estate claims, such as costs of provisions be upheld? judicial proceedings, tax claims, wage and severance claims, management expenses incurred in connection with management, A. General Rule liquidation and distribution of the bankruptcy estate, or other claims In general, the declaration of bankruptcy does not impact the arising from the administration of the bankruptcy estate. These obligations, terms and effects of the preexisting contracts involving estate claims shall be reimbursed prior to the bankruptcy claims at the debtor. any time without resorting to the bankruptcy proceeding.

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C. Bankruptcy Creditors 6 Employees A bankruptcy claim is a property claim that accrues before the debtor is declared bankrupt and it shall not be exercised without resorting to bankruptcy proceedings. During bankruptcy proceedings, the 6.1 What is the effect of each restructuring or insolvency bankruptcy claims shall be repaid in proportion to the amount of procedure on employees? each claim. While the bankruptcy claims with preferential rights under the relevant Acts shall take precedence over other general A. Wages and severance payments bankruptcy claims, the claims for any interest accrued after the The wages and severance payment of the debtor’s employees shall declaration of the bankruptcy or any damages caused by the failure constitute either priority claims or estate claims in the rehabilitation to comply with any obligation after the declaration of the bankruptcy and bankruptcy proceeding, respectively, which shall be reimbursed Korea shall be deemed subordinate to the general bankruptcy claims. in preference to other claims. B. Dismissal 4.7 Is it possible for the company to be revived in the The commencement of a rehabilitation or a bankruptcy proceeding future? itself may not constitute a justifiable ground to dismiss the employee of the relevant employer. Instead, the employer must satisfy the A. Discontinuation of the bankruptcy proceeding following conditions set out in the Labor Standard Act in order The debtor may request the discontinuation of the bankruptcy to properly and legitimately dismiss its employees: (1) there is an proceeding if all bankruptcy creditors agree or if the debtor provides urgent managerial need; (2) the employer shall make every effort securities to the creditors from whom the debtor fails to obtain to avoid dismissal; (3) the employer shall establish and follow the consents. The court decision to discontinue the bankruptcy reasonable and fair criteria for choosing employees subject to proceeding invalidates the relevant bankruptcy procedure. dismissal; (4) the employer shall inform and consult with the B. Revocation of the declaration of the bankruptcy labour union or the representative of employees regarding intended dismissal; and (5) an employer that intends to dismiss more than The creditors or debtors may contest in relation to the declaration 10% of its total employees shall report such intention to the Minister of the bankruptcy within 14 days from the date of notification of Employment and Labor. regarding the relevant bankruptcy if the facts leading to bankruptcy do not or no longer exist. If the court revokes its declaration of the bankruptcy, the relevant declaration becomes void. 7 Cross-Border Issues C. Commencement of the rehabilitation procedure If the decision on commencement of rehabilitation proceeding is 7.1 Can companies incorporated elsewhere restructure made prior to or after the declaration of the bankruptcy, the relevant or enter into insolvency proceedings in your bankruptcy proceeding shall be suspended. When the rehabilitation jurisdiction? plan is approved, the suspended bankruptcy proceeding loses its effect. Under CRPA, the companies established under the laws of foreign nations shall not be subject to the work-out procedures under CRPA. 5 Tax However, under DRBA, foreigners and the companies established under the laws of foreign nations shall have the same statuses as that of peoples and corporations of Korea. Further, the district 5.1 Does a restructuring or insolvency procedure give court is deemed to have jurisdiction over the place of business of rise to tax liabilities? the foreign company as well as the location of its property. Thus, a foreign company which has its property in Korea may utilise the The commencement of the restructuring or insolvency procedure rehabilitation and bankruptcy proceeding of Korea without having itself does not give rise to special tax liabilities. Still, tax claims in an office in Korea. the rehabilitation proceedings receive different treatment based on their timing. In other words, if the liabilities for the tax were incurred before the commencement of the rehabilitation proceeding, the 7.2 Is there scope for a restructuring or insolvency process commenced elsewhere to be recognised in related tax claims shall be deemed to constitute rehabilitation claims. your jurisdiction? In such case, the relevant repayments shall be made according to the rehabilitation proceeding. Alternatively, the liabilities for the tax Under DRBA, a foreign bankruptcy proceeding may be recognised incurred after the commencement of the rehabilitation proceeding if there is a relevant petition and decision to approve the foreign shall constitute priority claims, and shall be reimbursed without bankruptcy proceeding. resorting to the rehabilitation proceeding. On the contrary, the liabilities for the tax incurred prior to the commencement of the A. Application for Approving Foreign Bankruptcy Proceeding bankruptcy proceeding is different from that of the rehabilitation proceeding, since they shall constitute estate claims which shall be The representative of the foreign bankruptcy proceeding may file an repaid in preference to other bankruptcy claims without resorting to application with the following statements with the Seoul Bankruptcy the relevant bankruptcy proceeding. Court for approving the foreign bankruptcy proceeding: ■ a written statement concerning the legal basis and a summary of the overall foreign bankruptcy proceeding; ■ a written statement attesting to the commencement of the foreign bankruptcy proceeding; ■ a written statement attesting to the qualification and authority of the representative of the foreign bankruptcy proceeding;

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■ a written statement concerning the main points of the foreign an application for commencement of rehabilitation proceeding bankruptcy proceeding for which an application is filed for or, for a bankruptcy proceeding, the court shall make a decision their approval (including statements of creditors, the debtor on commencement of rehabilitation proceeding or declaration of and interested parties); and bankruptcy and appoint a bankruptcy trustee or conductor for each ■ a written statement concerning all other foreign bankruptcy debtor. proceedings over the debtor, which are known to the representative of the foreign bankruptcy proceeding. B. Approval decision of the Seoul Bankruptcy Court 9 Reform The court shall decide whether to recognise and confirm the foreign

Korea bankruptcy proceeding within one month from the date on which 9.1 Are there any proposals for reform of the corporate the relevant application is filed, and the court shall dismiss such rescue and insolvency regime in your jurisdiction? application in any of the following cases: ■ where expenses determined by the court are not prepaid; In 2016 and 2017, there have been several proposals for reform or ■ where each written statement provided is not submitted or the modify CRPA as well as DRBA, and multiple amendments were establishment and contents of any such written statement is made in order to reflect and incorporate those proposals. not bona fide; or A. CRPA ■ where approving the foreign bankruptcy proceeding is The previous CRPA expired on December 31, 2015, but the demand contrary to the good public morals and social order of Korea. for the work-out procedure has not been diminished, especially in the vulnerable sectors. 7.3 Do companies incorporated in your jurisdiction Thus, the new CRPA was enacted as of March 31, 2016, to facilitate restructure or enter into insolvency proceedings in constant corporate restructuring, promote the stabilisation of other jurisdictions? Is this common practice? financial markets and the development of the national economy. Unlike the previous CRPA, the scope of companies subject to We are of the opinion that it is not common for companies the new CRPA was expanded to all companies, and the creditors incorporated in Korea to restructure or enter into insolvency participating in the work-out procedures procedure was expanded proceedings in other jurisdictions. from the credited financial institutions to any person who hasa Still, a domestic bankruptcy proceeding and a foreign bankruptcy financial claim. The new CRPA shall be effective until June 30, proceeding for the same debtor may be jointly and simultaneously 2018. pending in the court of Korea and foreign courts in order to protect B. DRBA the debtors in foreign countries. In such case, close coordination Since the global financial crisis in the late 2000s, there are constant between the two proceedings are required. When a domestic needs for the restructuring of debtors due to the economic stagnation. bankruptcy proceeding and a foreign bankruptcy proceeding for the In response to the demands of creditors and debtors who want to same debtor are jointly and simultaneously pending in the Korean implement fair and efficient restructuring procedures, the relevant court and foreign courts, DRBA stipulates that the court shall procedures were modified and improved. coordinate the progression of multiple proceedings in order to make sure that the domestic bankruptcy proceeding plays a central role. In order to secure constant stream of new funds to the debtor in For example, the Korean court has been leading the rehabilitation the rehabilitation proceeding, the rights of the creditors who and bankruptcy proceedings in connection with Hanjin Shipping, have provided new funds have been strengthened to induce new but the relevant proceedings are simultaneously pending in the fund support to the debtor, the Korean free package system was courts of the USA, UK, Singapore, Germany and six other countries. introduced, and the Bankruptcy Court was newly established.

Acknowledgment 8 Groups The authors would like to thank the following people for their invaluable assistance in the preparation of this chapter. 8.1 How are groups of companies treated on the Rieu Kim, Foreign Attorney insolvency of one or more members? Is there scope for co-operation between officeholders? Tel: +82 2 3479 5768 / Email: [email protected] Jungmin Hong, Associate DRBA does not stipulate a combined rehabilitation or bankruptcy Tel: +82 2 3479 7880 / Email: [email protected] proceeding for multiple debtors; thus each procedure must be conducted individually. In other words, each company must file

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Thomas P. Pinansky Joo Hyoung Jang Barun Law LLC Barun Law LLC Barun Law Building, 92 gil 7 Barun Law Building, 92 gil 7 Teheran-ro, Gangnam-gu Teheran-ro, Gangnam-gu Seoul 06181 Seoul 06181 Korea Korea

Tel: +82 2 3479 7517 Tel: +82 2 3479 7517 Email: [email protected] Email: [email protected] URL: www.barunlaw.com URL: www.barunlaw.com Korea

Thomas P. Pinansky is the Senior Foreign Attorney (Partner) at Barun Joo Hyoung Jang is a Partner Attorney of Barun Law LLC. His Law LLC. He plays a leading role in the firm’s international practice practice focuses on cross-border transactions, M&As, reorganisation and advises an extensive number of international and Korean clients proceedings, and general corporate matters. Particularly, he has on business and legal issues arising in the context of international accumulated a broad range of experience and expertise in the fields operations, including international transactions, reorganisation of cross-border acquisitions and M&As in reorganisation proceedings. proceedings, and cross-border disputes. Mr. Pinansky has been He graduated from Seoul National University (LL.B.) and Columbia involved in over 200 cross-border M&A transactions and in over 120 Law School (LL.M.). international arbitration matters, either as an arbitrator or as counsel. Mr. Pinansky recently completed a three-year term as a Vice Chairman of the American Chamber of Commerce in Korea. He serves on the Board of the Canadian Chamber of Commerce in Korea and as Special Advisor to the Kiwi Chamber of Commerce in Korea. He was appointed as the “Honorary Ambassador” of the US State of Maine to Korea. He served two terms as the Chairman of the Asia- Pacific Council of American Chambers of Commerce, an organisation comprised of over 25 American Chambers of Commerce throughout the Asia-Pacific Region. Prior to joining Barun Law LLC, Mr. Pinansky was the Senior Foreign Attorney and Member of the Executive Committee at Kim, Shin & Yu, Seoul, Korea, and he also practised at Vinson & Elkins in Austin, Texas and Hogan & Hartson (now Hogan Lovells) in Washington, D.C. Mr. Pinansky graduated from Harvard College, magna cum laude, and the University of Pennsylvania Law School.

Barun Law LLC is Korea’s fastest growing and most dynamic full-service law firm. Founded in 1998 and named after the Korean word for righteous or just, Barun Law has quickly taken its place among Korea’s top, full-service law firms. Conveniently located in Seoul’s Gangnam Business District, next to one of Asia’s largest and most prestigious convention centre complexes, Barun Law LLC is comprised of approximately 200 attorneys who, together with highly qualified support staff, provide a full range of legal services.

The firm’s partners include some of the most prominent and well-respected members of the Korean Bar, while a sophisticated and highly experienced team of foreign lawyers adds international savvy and recognised expertise, creating a substantial comfort factor for international clients.

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Netherlands Reinout Vriesendorp

De Brauw Blackstone Westbroek N.V. Ferdinand Hengst

If restructuring is not an option, a debtor can go into bankruptcy. 1 Overview This procedure is the most commonly used insolvency proceedings in the Netherlands and results in a winding up of the company (as a 1.1 Where would you place your jurisdiction on the legal entity) or in rescuing the business through an asset sale. spectrum of debtor to creditor-friendly jurisdictions? 2 Key Issues to Consider When the The Dutch jurisdiction is creditor-friendly for two reasons. The first reason is that secured creditors have a highly privileged position. Company is in Financial Difficulties Security (right of pledge and mortgage) can be obtained easily. It provides the secured creditor with an almost inviolable hold on 2.1 What duties and potential liabilities should the the debtor’s assets. Also, security can be enforced regardless of directors/managers have regard to when managing a the insolvency of the debtor (potentially subject to a cooling down company in financial difficulties? Is there a specific period). The second reason is that the Dutch jurisdiction is quite point at which a company must enter a restructuring debtor-unfriendly, in the sense that if a company suffers financial or insolvency process? distress, it has no formal possibilities to impose standstill measures without all (relevant) creditors’ consent, except for the very limited There is no specific point at which a company must enter a grounds of abuse of power. An additional, although predominantly restructuring or insolvency process. However, a director’s actions practical, benefit to creditors is the highly professional restructuring taken when a company is in distress will always be under scrutiny and insolvency environment in the Netherlands. With finance, in hindsight, by creditors as well as by any administrator or restructuring and insolvency knowledge abundantly available (bankruptcy) trustee. Therefore, a managing director of a distressed through law firms, financial advisors and the courts, most domestic company should have regard to at least the following, most common and foreign investors in need of recovery work will be able to have grounds for personal liability towards creditors or (the estate of) the their needs met. distressed company. Wrongful act (tort). A director may be held liable towards 1.2 Does the legislative framework in your jurisdiction creditors or other third parties on the basis of wrongful act. The allow for informal work-outs, as well as formal most common grounds for a wrongful act are: restructuring and insolvency proceedings, and are ■ letting the company enter into a contract while the director each of these used in practice? knows or should have known that the company would be unable to meet its obligations under the contract and would The informal work-out that is used most often, is an out-of-court not offer sufficient recourse; and settlement. This kind of settlement is entirely based on consensus ■ allowing or accomplishing a failure to perform by the and has no legal basis, other than that the Dutch tax authorities have company, thus causing damages to the counterparty for which provided some guidelines that are used by the authorities when they no sufficient recourse is offered. are asked to agree to an out-of-court settlement (in essence, the tax Manifestly improper management. In case of bankruptcy, authorities wish to receive twice the percentage that the unsecured managing directors may be personally liable towards the bankruptcy creditors receive of their claim). estate for the entire shortfall if the managing board has manifestly Dutch law provides for suspension of payment (SoP) as a formal improperly managed the company and such manifestly improper restructuring procedure for companies. This procedure is sometimes management is an important cause of the bankruptcy. If the used for true restructuring, but in the entire range of filings, most of annual accounts were not timely published or the company has not the time it ends within days (or weeks) and results in bankruptcy. complied with its accounting obligation, it is irrefutably established Despite this, the reason that a SoP may occur is that it does not that the managing board has improperly managed the company require a shareholders’ resolution, as is the case if a company and refutably presumed that such was an important cause of the wishes to file for bankruptcy. Recently, the possibility to request bankruptcy. the court to make an informal restructuring agreement binding on Distribution of dividend. The managing board of a limited all creditors and the relative flexibility of the SoP-procedure, have liability company needs to consent to the distribution of dividend. led to a renewed and increased (international) interest in the SoP Subject to joint and several liability of the managing directors, the (see below). managing board needs to withhold its consent if it foresees or should

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reasonably foresee that the company will not be able to satisfy its proposal for such a framework is being prepared; see question 9.1). due obligations. A managing director (including a shadow director) Recently, however, the Dutch Supreme Court confirmed previous can only escape personal liability if he proves that he cannot be case law stating that the refusal of a creditor to consent to an out-of- blamed for the distribution and that he has not been negligent in court settlement can, in extreme situations, constitute abuse of law. taking measures to avert the risk of the company becoming unable Then, the court can order the refusing party to consent on the basis to satisfy its payment obligations as they fall due because of the that he has no reasonable grounds to object. This case law provides distribution. a route for an out-of-court settlement to be implemented without the Prejudice of creditors. A company in financial distress may not existence of a true legal framework. enter into transactions which prejudice its creditors (see question 2.3). If a transaction is challenged based on prejudice to creditors, 3.2 What formal rescue procedures are available in your a director can be held liable for the company’s initiation of or co- jurisdiction to restructure the liabilities of distressed Netherlands operation with such a transaction. companies? Are debt-for-equity swaps and pre- Tax obligations. If a company is unable to pay certain taxes or packaged sales possible? premiums, a director can be personally liable for that debt if the company does not notify the tax authority of its incapability in a Distressed companies can be granted SoP. The SoP only affects timely fashion. unsecured creditors; secured creditors and those with a statutory preferential claim can continue to exercise their rights. SoP provides the debtor with a moratorium to sort out his finances with the help 2.2 Which other stakeholders may influence the company’s situation? Are there any restrictions on the of an administrator. The debtor can offer a composition plan to the action that they can take against the company? unsecured creditors (but is not under any obligation to do so). If the composition plan is accepted by a majority of the unsecured Any stakeholder may influence the company’s situation, including creditors, representing at least 50% of the outstanding unsecured financiers, suppliers, customers, employees and the media. Secured claims, it is reviewed for fairness and may be approved by the court creditors typically have a right to collect or enforce on collateral and thus become binding on all unsecured creditors (including hold- already upon a contract default, making them an important out creditors). stakeholder to manage. Financiers or banks have control over Debt-for-equity swaps, other balance sheet restructurings and pre- available liquidity (headroom and cash balances). Suppliers may packaged sales are not embedded in the legal framework, although demand upfront payment (or retain title) if they get uncomfortable, a proposal for a pre-pack is currently pending (see question 9.1). In with a liquidity effect. Any other creditor is allowed to seize the the meantime, such solutions can only be reached with the consent company’s goods (precautionary or executory). Extensive seizures of existing shareholders. or the enforcement of collateral or bankruptcy filings (aiming to put pressure on the debtor to pay) usually form a prelude to insolvency, as this typically triggers termination clauses in important contracts. 3.3 What are the criteria for entry into each restructuring Other than the limitation that one cannot abuse his rights (which is procedure? not easily assumed), there are no restrictions to the described actions. A debtor can apply for SoP if he foresees that he will be unable to keep up with the debt payments. It is unclear whether the new 2.3 In what circumstances are transactions entered regime (as envisaged, see question 9.1) will contain the same into by a company in financial difficulties at risk of criteria. challenge? What remedies are available?

A company in financial distress may not enter into transactions 3.4 Who manages each process? Is there any court which prejudice its creditors. A voluntary legal act undertaken by involvement? the company which results in its creditors being prejudiced can be annulled due to fraudulent preference if the company goes into The SoP is managed by a court-appointed administrator in bankruptcy. Certain evidentiary presumptions apply. If the company collaboration with the debtor. A court-appointed supervisory judge fulfils a due and payable obligation which prejudices its creditors, advises the administrator and can exercise certain authorities to annulment by the trustee is also possible but on limited grounds. enable the restructuring process (i.e., hear witnesses). Under certain Also, the distribution of dividend by a limited liability company can circumstances, creditors and other stakeholders can request the be at risk of challenge if the company becomes unable to pay its court to intervene in the process. due debt (within a year of the distribution). The receivers of the distribution, who foresaw or should have foreseen the inability of 3.5 How are creditors and/or shareholders able to the company to satisfy its due obligations, can be forced to repay influence each restructuring process? Are there any the money they received up to the amount that is lacking for the restrictions on the action that they can take (including payment of due debt. the enforcement of security)? Can they be crammed down?

3 Restructuring Options Creditors are able to influence a SoP procedure in three main ways. First of all, a debtor application will lead to a temporary SoP, which 3.1 Is it possible to implement an informal work-out in is subsequently voted on (and may be blocked) by more than one- your jurisdiction? third of the creditors, representing more than 25% of the qualifying (unsecured) debt. Furthermore, creditors can request the court to end The informal work-outs that occur most often are purely consensual. the SoP (based on five limited grounds), which in practice will mean There is no legal framework for implementation of an informal the bankruptcy of the company. Finally, creditors can influence the work-out or to make it binding on all creditors (although a legislative restructuring process by voting on a composition plan. If this plan

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is not accepted by the creditors or subsequently not confirmed by the court, the SoP will end and the creditors can resume exercising their 4.2 On what grounds can a company be placed into each rights, unless the court declares the debtor bankrupt. winding up procedure? During the SoP (both the provisional and definitive stage), unsecured creditors cannot exercise their rights in any other way than to file A debtor, who has ceased to pay his debts, can be declared bankrupt their claims with the administrator. Secured creditors can continue at his own request, at the request of a creditor or (under extraordinary to exercise their rights as if there were no SoP, unless a stay (of two circumstances) at the request of the Public Prosecution Services. A months maximum, extendable once) has been granted. requirement for the declaration of bankruptcy is that there are at least two creditors, of whose debts at least one needs to be due. Both the content and form of a composition plan have no prescribed form; however a haircut is usually part of the plan. 4.3 Who manages each winding up process? Is there any Netherlands court involvement? 3.6 What impact does each restructuring procedure have on existing contracts? Are the parties obliged to perform outstanding obligations? Will termination and Bankruptcy proceedings are managed by a court-appointed set-off provisions be upheld? (bankruptcy) trustee. As of the moment of the declaration of bankruptcy, only the trustee is authorised to perform acts of Theoretically, a restructuring process does not influence existing administration and disposition regarding the debtor’s assets. A contracts. Contractual termination and set-off provisions stay in supervisory judge is involved. This judge supervises the trustee, place. can order certain procedural measures (e.g. to hear witnesses) and under certain circumstances, may intervene in the process. If, at the start of the SoP, both parties have not completely fulfilled their obligations under the agreement, the counterparty can request the administrator and debtor (who manage the estate together) to 4.4 How are the creditors and/or shareholders able to confirm that the debtor’s obligations will be met. If this confirmation influence each winding up process? Are there any is not provided, the debtor loses his rights to claim performance by restrictions on the action that they can take (including the counterparty. In recent case law on the bankruptcy provision the enforcement of security)? regarding existing contracts, the Dutch Supreme Court has ruled that the refusal to confirm that the debtor’s obligations will be met A filing for bankruptcy requires a resolution of the general meeting does not mean that the debtor loses his rights to claim performance of shareholders. As a filing for SoPs is the authority of the board, of his counterparty’s obligations for which the debtor has already debtors sometimes use it to circumvent the requirement for carried out his counter-performance. We believe this decision also shareholder approval, with the SoP being converted into bankruptcy catches on the described rule for SoP. shortly afterwards. Once a debtor has been declared bankrupt, shareholders lose their influence. 3.7 How is each restructuring process funded? Is any Creditors can influence the winding up process by requesting the protection given to rescue financing? supervisory judge to intervene and order or prohibit the trustee to act in a certain way if this is in the interest of the joint creditors. The restructuring process is in theory generally financed by the Furthermore, if a composition plan is proposed by or on behalf debtor. His assets are first applied to the costs incurred during the of the debtor, creditors that are eligible to vote can influence the SoP (i.e. salary of administrator, advisors, etc.). Only after these process with their voting. costs are fully paid will the remaining assets be used for paying off During the bankruptcy, creditors cannot exercise their rights in the existing debt. If funds run dry at any moment during a SoP, the any other way than to file their claims with the trustee. However, process can be ended by the court on its own initiative, or at the secured creditors can enforce their security without limitation unless request of the supervisory judge, the administrator or the creditors. the trustee sets a period to exercise those rights (which has to be In practice, the debtor needs new financing from either collaborating reasonable or otherwise can be extended by the supervisory judge existing financiers or new parties. at the creditor’s request) and this period has expired, at which time Rescue financing does not receive legal protection if it is realised the trustee may dispose of the secured assets. If part of their claim prior to the formal start of the restructuring process. The same remains unsettled after the enforcement of the security rights, that rules regarding creditor prejudice apply (see question 2.3 above). part will need to be filed with the trustee and will be treated in the In practice, financing occurs on a super senior basis with turnover same manner as the claim of an ordinary creditor. provisions between the financiers. If rescue finance is provided after the formal start of the restructuring process, it is deemed to be an estate debt and is therefore highly privileged and cannot be 4.5 What impact does each winding up procedure have on challenged. existing contracts? Are the parties obliged to perform outstanding obligations? Will termination and set-off provisions be upheld? 4 Insolvency Procedures Please refer to question 3.6.

4.1 What is/are the key insolvency procedure(s) available to wind up a company? 4.6 What is the ranking of claims in each procedure, including the costs of the procedure? The key insolvency procedure available to wind up a company is bankruptcy. This procedure applies to all assets held by the debtor The following types of claims can be distinguished in bankruptcy other than (possibly) assets which are subject to security rights and proceedings. applies to all of his creditors with the exception of creditors with Estate claims. Claims which arise by virtue of law (i.e. continued security rights. lease payments and employee wages during the insolvency), claims

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originating from estate activities by the trustee and claims originating of termination that would apply without the SoP is longer. In the from acts by the trustee contrary to his duties or obligations. Estate latter case, this longer notice period has to be observed. Specific creditors have a direct claim on the estate and, consequently, get rules apply if the number of employees to be dismissed exceeds 20. paid (in accordance with their ranking, if any) before any non-estate In bankruptcy, the trustee is also authorised to dismiss all employees. creditor. In that case, the period of notice of termination is limited to a Pre-insolvency secured claims. Claims which are secured by maximum of six weeks, regardless of the notice period that would either a mortgage or a pledge before the debtor’s insolvency. have applied if the debtor has not been declared bankrupt. Again, a Creditors with secured claims (mortgagees and pledgees) can mass lay-off is subject to additional rules. foreclose on their collateral as if no bankruptcy exists. Suppliers In both procedures, the obligation to continue to pay wages is with retention of title may collect their assets but are in practice an estate claim. If the debtor is unable to pay salaries during the often confronted with trustees requiring clear proof of ownership notice period, the Employee Insurance Agency will take over this Netherlands of specific supplies and valuation issues. During a short period obligation as well as some other payment obligations over the period (maximum of two months, extendable by a further two months), leading up to the insolvency. An estate claim will be filed with the secured creditors may be stayed to enforce their rights, subject to administrator or trustee for any payment made by the Employee release by the supervisory judge. Insurance Agency. Pre-insolvency preferential claims. Claims of preferential In bankruptcy, the European rules on automatic transfer of creditors, such as the Dutch tax authorities and labour claims, as employee’s rights and obligations do not apply in an asset sale of far as they have come into existence prior to the declaration of the the enterprise. bankruptcy. They have to be filed with the trustee for verification. Pre-insolvency ordinary claims. Claims that have come into existence before the start of the bankruptcy or directly result from 7 Cross-Border Issues an agreement the debtor has entered into before the declaration of bankruptcy. These claims also need to be filed for verification 7.1 Can companies incorporated elsewhere restructure with the trustee. The creditors share pro rata in the amount of or enter into insolvency proceedings in your the net-proceeds that result from the liquidation of the estate after jurisdiction? the secured creditors have executed their security rights and all preferential claims have been paid in full. As long as a debtor’s centre of main interest (COMI) is located in the Post-insolvency claims. Claims that have come into existence Netherlands, the Dutch court that has jurisdiction over this COMI after the debtor has been declared bankrupt and do not qualify as will allow a debtor to enter into SoP or bankruptcy proceedings. estate claims. The same applies to interest claims accrued after bankruptcy. These claims are not eligible in the bankruptcy but remain due by the debtor, should he survive the bankruptcy (see 7.2 Is there scope for a restructuring or insolvency question 4.7). process commenced elsewhere to be recognised in your jurisdiction?

4.7 Is it possible for the company to be revived in the According to Dutch private international law, foreign insolvency future? proceedings (outside the scope of the European Insolvency Regulation, EIR) will, as such, generally not be recognised in the If a bankruptcy (declared in a final judgment) ends with approval by Netherlands. For example, a general seizure of assets pursuant the court of a proposed composition plan, the company continues to to foreign bankruptcy proceedings does not affect the assets of exist. The same applies if all debts are paid. In every other case, the the (bankrupt) debtor in respect of those assets located in the company ceases to exist and cannot be revived. Netherlands. However, the working assumption is that the authority of a foreign trustee over a company and its assets as a result of the foreign insolvency proceedings is recognised. 5 Tax Under the EIR, insolvency proceedings commenced within the EU Member States (except Denmark) are automatically recognised. 5.1 Does a restructuring or insolvency procedure give rise to tax liabilities? 7.3 Do companies incorporated in your jurisdiction restructure or enter into insolvency proceedings in Under Dutch law, a restructuring or insolvency procedure does not other jurisdictions? Is this common practice? change the debtor’s tax obligations. However, since in many cases a debtor will discontinue his business and will not pay all of this There are some cases in which a Dutch company entered a foreign debt, the tax obligations usually do change which make taxation in restructuring or insolvency procedure. It is not common practice insolvency proceedings an important point to consider when dealing for Dutch companies to restructure or wind up through foreign with (the possibility of) an insolvency proceeding. insolvency proceedings.

6 Employees 8 Groups

6.1 What is the effect of each restructuring or insolvency 8.1 How are groups of companies treated on the procedure on employees? insolvency of one or more members? Is there scope for co-operation between officeholders? If a company is granted a SoP, the administrator and debtor are jointly authorised to dismiss all employees. The period of notice The insolvency of a group company tends to have a snowball effect of termination is limited to six weeks, unless the period of notice on its group members. However, there is no legal framework for

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(dealings with) insolvency of group companies, with the exception ■ the insolvency practitioner in the main proceedings is assigned that some tax regulations do provide for changes to the applicable greater powers with regard to secondary proceedings; group regime (i.e. a tax entity can be terminated). Because Dutch ■ a duty is imposed on Member States to provide information law does not provide any rules regarding the insolvency of groups on insolvency proceedings; and of companies, insolvencies of group companies must be dealt with ■ new provisions apply to the coordination of insolvencies of separately. However, in most cases where more group companies company groups. have entered insolvency proceedings, these proceedings are handled Composition. A draft for a voluntary composition plan is expected to by one and the same administrator/trustee and supervisory judge be presented to Parliament in the second half of 2017. The proposal because of the practical and financial advantages this way of will introduce an arrangement that can be confirmed by the court handling group insolvencies provides. and become binding on all creditors (including secured creditors As there is no legal framework for the treatment of the insolvency and shareholders) affected by the composition plan, irrespective of Netherlands of group members, there is no duty for co-operation between whether they voted in favour or against the arrangement. administrators or trustees. Pre-pack. A legislative proposal for a pre-packed restructuring is in its final stage. Under this proposal, before filing for bankruptcy, 9 Reform the company may request the court to appoint (on an undisclosed basis) the person who would be the trustee if the company entered into bankruptcy. Under close observation by the intended trustee, 9.1 Are there any proposals for reform of the corporate the company silently prepares for a restart, which is ultimately rescue and insolvency regime in your jurisdiction? realised when, a few days later, the company is declared bankrupt and the intended trustee is appointed as actual trustee. Please note, The main three points of reform of the Dutch corporate rescue and however, that an anticipated judgment from the European Court of insolvency regime are the following. Justice on automatic transfer of employees to a pre-packed buyer EIR Recast. As of June 26, 2017, the recast of the EIR will apply. may hinder the approval of Parliament. The recast contains self-executory provisions that have a direct EU proposal for harmonisation of insolvency law. In November effect on the Dutch legal framework. Its main changes will be: 2016, the European Commission announced legislation that aims to ■ the scope of the EIR recast is extended to certain specific pre- harmonise the insolvency proceedings currently available in the EU. insolvency proceedings;

Reinout Vriesendorp Ferdinand Hengst De Brauw Blackstone Westbroek N.V. De Brauw Blackstone Westbroek N.V. Claude Debussylaan 80 Claude Debussylaan 80 1082 MD, Amsterdam 1082 MD, Amsterdam Netherlands Netherlands

Tel: +31 20 577 1060 Tel: +31 20 577 1956 Email: [email protected] Email: [email protected] URL: www.debrauw.com URL: www.debrauw.com

Reinout Vriesendorp is one of the most influential thinkers in the area of Ferdinand Hengst specialises in international debt restructuring, insolvency law and security rights in the Netherlands. He is a partner cross-border finance work and finance-driven corporate transactions. at De Brauw and was professor of civil and commercial law at Tilburg He has particular expertise in insolvency-sensitive and other high- University (the Netherlands) from 1992–2016. As of 2016, he is part- stakes financing transactions for multinational companies. time professor of insolvency law at Leiden University (Department of In addition to an international corporate client base, Ferdinand Company Law, and Department of Business Studies). From 1985 to regularly acts for private equity firms and their portfolio companies, 1992, he was based at De Brauw offices in The Hague and New York. shareholders and creditors. Recent instructions include complex debt In addition to his positions at Leiden University and De Brauw, Reinout restructurings, corporate reorganisations, asset-based (re)financings, is a member of the editorial boards of both the Dutch Insolvency Law acquisition financings and debt capital markets transactions. Review and the International Insolvency Review. He has educated His practice spans the full range of finance transactions, often in an insolvency practitioners in their post-graduate INSOLAD/Grotius unstable or strained setting. Ferdinand regularly advises management specialisation courses for more than two decades. He is also and boards of directors on the corporate, corporate governance, INSOLAD fellow and long-time member of INSOL Europe (Academic fiduciary duties and liability considerations affiliated with certain Wing) and INSOL International (Academic Group). transactions, scenario planning, and their corporate funding.

De Brauw is a law firm with a global reach. The firm has a robust corporate practice, a centre of excellence in litigation and arbitration, and an unparalleled team of regulatory experts. De Brauw is part of the Best Friends network, a European network of law firms. The members are all renowned firms and market leaders in their jurisdictions: Slaughter and May (UK); Bredin Prat (France); BonelliErede (Italy); Hengeler Mueller (Germany); and Uría Menéndez (Spain).

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Norway Stine D. Snertingdalen

Kvale Advokatfirma DA Ingrid E. S. Tronshaug

company’s equity is less than half of the share capital. Such actions 1 Overview include, within a reasonable time, calling for a General Assembly to inform it of the situation and suggest improvement measures. If 1.1 Where would you place your jurisdiction on the the General Assembly decides against the suggested measures, or spectrum of debtor to creditor-friendly jurisdictions? if the board of directors finds that there are no available or feasible improvement measures, the board of directors shall suggest that the Many debtors in Norway are reluctant to enter into a formal company is dissolved, or ultimately file for formal judicial insolvency restructuring proceeding, as it appears creditor-friendly rather proceedings. Corresponding statutory provisions are in force for other than debtor-friendly, at least compared to similar proceedings in company structures, such as companies listed on the stock exchange. certain common law jurisdictions. There is a general perception There is no specific point in time or a final deadline forwhen that the market frowns upon business failure and a fresh start for a company must enter a restructuring process or winding up companies that cannot satisfy their creditors; a matter which should proceedings. Failure to comply with their statutory duties may lead be addressed now that the Norwegian restructuring regime is being to the directors being held liable for damages and/or criminally liable. reformed with an aim to become more attractive and effective, and Most directors’ (and general managers’) liability cases in Norway with a higher success rate. concern claims for damages from single creditors who delivered goods or services on credit without being informed that the debtor might not be able to pay. There have also been a few cases where 1.2 Does the legislative framework in your jurisdiction allow for informal work-outs, as well as formal bankruptcy estates have been awarded damages from directors who restructuring and insolvency proceedings, and are failed to petition for bankruptcy or who petitioned for bankruptcy too each of these used in practice? late, resulting in increased loss for the creditors as a group. Another important duty for the board of directors is to make sure Norwegian legislation allows for informal work-outs as well as that the company pays government tax claims, and in particular formal restructuring and winding up proceedings. Restructuring employees’ tax deduction. Failure to comply with such duties may proceedings are often handled out of court, while insolvent winding lead to the directors being held liable for damages or criminally liable. up proceedings are handled in formal, judicial proceedings. The board members in an insolvent company may be held criminally liable if they deliberately or negligently have disposed over an asset 2 Key Issues to Consider When the in a way that prevents the creditors/estate from seizing that asset. Company is in Financial Difficulties Further, the board members may – subject to certain provisions in the Norwegian penal code – be held criminally liable for disposing of assets in an irresponsible way which leads to the debtor becoming 2.1 What duties and potential liabilities should the insolvent. The administrator of a winding up proceeding may directors/managers have regard to when managing a recommend to the court that a board member, the CEO, or anyone company in financial difficulties? Is there a specific with a leading role in the bankrupt company is quarantined from point at which a company must enter a restructuring establishing new companies or serving as a board member or a CEO or insolvency process? for a period of two years. The court decides whether the debtor is quarantined or not after hearing the debtor’s written or oral pleadings. A company may continue its operations even though it is illiquid, or even insolvent, as long as the continued operations and restructuring work are in the creditors’ best interest and have a reasonable chance 2.2 Which other stakeholders may influence the company’s situation? Are there any restrictions on the of success. Unless the creditors consent, an insolvent company must action that they can take against the company? not take on new financial obligations which it is unable to fulfil, and the board of directors must ensure that creditors are treated The shareholders may influence the company’s situation through the equally and fairly and that no further loss is inflicted on any of them. General Meeting, by instructing the board of directors. Only the Accounts must be kept and taxes must be reported and paid. board of directors of the debtor has the right to petition for debt The board of directors in a limited liability company is obliged by negotiation proceedings, while winding up proceedings may be law to take immediate action if the company’s equity is considered petitioned either by the debtor’s board of directors or by one or more insufficient for the size and risk of the business operations, or if the creditors (including employees).

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2.3 In what circumstances are transactions entered 3.3 What are the criteria for entry into each restructuring into by a company in financial difficulties at risk of procedure? challenge? What remedies are available? A company that is “illiquid”, meaning in a position where it is The Satisfaction of Claims Act of 1984 regulates a bankruptcy continuously unable to meet its financial obligations as they fall due, estate’s right to reverse transactions carried out within certain time may deliver a petition for judicial debt negotiation proceedings to limits prior to the date of filing for formal winding up or compulsory the court. The petition shall be made in writing, and is assessed by debt restructuring proceedings, aiming to annul transactions that in the court which decides whether the conditions to open proceedings certain ways are contrary to the principle of treating all creditors are met or not. The creditors are not heard.

Norway equally (often referred to as “clawback”, avoidance or annulment). There are several provisions regulating different kinds of transactions that may be avoided; for example transactions considered to be 3.4 Who manages each process? Is there any court involvement? extraordinary payments, gifts, security for old debt and certain cases of set-off. In general, the transaction in question must have been performed within three months prior to the date when the court The court appoints an administrator to manage the judicial debt received the bankruptcy petition (for gift transactions, the general negotiation proceedings. The administrator is in practice always an time limit is one year). However, older transactions may also attorney-at-law. A creditors’ committee is usually also appointed, be annulled if the beneficiary and the debtor were related parties consisting of one or a few representatives of the creditors. The (applying a two-year time limit) or the beneficiary has not acted in administrator and the creditors’ committee have more of a good faith with regard to the debtor’s poor financial state and the supervisory function, with full transparency as regards to the unfairness of the transaction (applying a more subjective assessment company’s economy and financial affairs. The board of directors and a 10-year time limit). keeps its duties and the company retains legal power over its assets, while the company’s operations are carried on “as usual”. An auditor may be appointed by the court to audit the estate and to assist 3 Restructuring Options the administrator in supervising the company’s business operations and investigating the company. Any findings will be presented in a report to the court with a copy for all creditors. 3.1 Is it possible to implement an informal work-out in your jurisdiction? 3.5 How are creditors and/or shareholders able to influence each restructuring process? Are there any A Norwegian company may implement an informal work-out at restrictions on the action that they can take (including any point in time; however, an out-of-court restructuring must be the enforcement of security)? Can they be crammed accepted by all creditors affected by the plan. down?

3.2 What formal rescue procedures are available in your All debt incurred prior to the opening of judicial debt negotiation jurisdiction to restructure the liabilities of distressed proceedings is “frozen” and may not be paid by the debtor unless as companies? Are debt-for-equity swaps and pre- part of an approved rescue plan. Furthermore, there is an automatic packaged sales possible? stay against both bankruptcy petitions based on such debt (lasting three months with the possibility of extension), and a creditor’s right There are two main categories of formal bankruptcy proceedings in to attach an execution lien to the debtor’s assets (lasting throughout Norway, both regulated by the Bankruptcy Act of 1984: winding up the proceedings). proceedings; and judicial debt negotiation proceedings. Judicial debt If compulsory composition proceedings or winding up proceedings negotiation proceedings can be either “voluntary” or “compulsory”, are opened, the automatic stay against bankruptcy petitions based on subject to slightly different legislation. A rescue plan in a voluntary “old debt” lasts throughout the proceedings. proceeding must obtain consent from all creditors. In compulsory Secured creditors may not enforce any security rights during the proceedings, however, creditors might be crammed down, enabling first six months from the opening of judicial debt negotiation the debtor to impose a partial debt release on the unsecured creditors proceedings, unless the administrator and the creditors’ committee if a majority of them (see question 3.5 below) accept the plan. give their consent. There is an exception from the automatic stay Normally, a rescue plan under each of the two regimes focuses on with regard to “financial collateral”, i.e. where security is provided reducing the “old debt”. However, the debtor may also initiate a to a financial institution in an asset that is deemed to be financial sale of assets while under judicial debt negotiation proceedings, collateral (e.g. bank accounts and shares). though subject to the approval of the administrator, the creditors’ In voluntary judicial debt negotiation proceedings, an objecting committee and any security holder. creditor or class of creditors cannot be crammed down, meaning that There are no rules on debt-for-equity swap as part of a rescue plan in the debtor’s proposal for a debt restructuring must be accepted by a formal restructuring proceeding. Furthermore, there is no concept all creditors in order to be successful. In compulsory composition of “pre-packaged” sales in Norwegian bankruptcy law. Thus, a sale proceedings, however, creditors may be crammed down. The voting of the debtor’s assets or business operations prior to the opening of requirements are (the numbers referring to creditors/claims that are formal bankruptcy proceedings is carried out at the parties’ risk with granted voting rights): regard to, inter alia, rules on clawback and directors’ liability. ■ if the dividend payment is a minimum of 50%, the plan must The judicial restructuring scheme in Norway is currently under review, be accepted by at least three-fifths of the creditors with a total and a report with suggestions for legislative changes was delivered to of at least three-fifths of the total debt; or st the Norwegian Justice Department on 1 March 2016. The report ■ if the dividend payment is less than 50% but a minimum of included discussions of whether or not to implement rules on debt- 25%, the plan must be accepted by at least three-quarters of for-equity swap and more flexible rules with respect to layoffs. There the creditors with a total of at least three-quarters of the total was, however, no suggestion to introduce “pre-packaged” sales. debt.

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Claims ranking in priority and claims that are fully secured may not A petition for winding up proceedings shall be made in writing to be crammed down as they are entitled to full payment. the court, and may be filed by either the debtor or by a creditor. While a company is under judicial debt negotiation proceedings, If the petition is filed by the debtor, the court will decide whether the debtor must respect the secured creditors’ interests and ensure to open proceedings based on the petition alone. If the petition is that their position is not lessened from the continued business filed by a creditor, the court summons the parties to a court hearing. operations. A compulsory composition must give full payment The court may allow the parties to deliver written pleadings to to claims ranking in priority, which are mainly employees’ claims further enlighten the case before deciding on whether or not to open for wages and recent governmental claims for taxes and VAT. Tax winding up proceedings. and VAT claims older than six months have no priority, and the tax authorities will for such claims vote as an unsecured creditor with

4.3 Who manages each winding up process? Is there any Norway a regular claim in the estate. However, the tax authorities’ internal court involvement? guidelines as to what dividend percentage or extension of payment they may accept are often stricter than the legislative minimum In winding up proceedings, the bankruptcy estate is established as requirements for a compulsory composition. a separate legal entity. The estate automatically seizes all of the debtor’s assets. The court appoints an administrator, which in 3.6 What impact does each restructuring procedure have practice is always an attorney-at-law, who controls and has legal on existing contracts? Are the parties obliged to powers over the bankruptcy estate and over the debtor’s assets perform outstanding obligations? Will termination and and rights. A creditors’ committee may be appointed, with one or set-off provisions be upheld? a few representatives from the body of creditors. The creditors’ committee’s function towards the bankruptcy estate is comparable Any termination provision in the debtor’s contracts may be upheld to that of a board of directors in a company, with the administrator in a restructuring process, except termination based on payment as chairman. An auditor may be appointed by the court to audit the default of the old, “frozen” debt or provisions giving the other party bankruptcy estate and to assist the administrator in investigating the a wider termination right due to the debtor’s insolvency. bankrupt company. In voluntary judicial debt negotiation proceedings, any set-off The court’s involvement in winding up proceedings is usually rights are subject to general rules. In compulsory composition limited. The administrator, the debtor or a creditor may choose to proceedings (and winding up proceedings), a creditor may set off further involve the court by demanding court hearings during the their claim against the debtor in sums owed to them by the debtor, proceedings, but this rarely happens in practice. as long as both claims existed when the proceedings were opened by the court. If the debtor’s claim against the creditor fell due prior 4.4 How are the creditors and/or shareholders able to to the opening of proceedings, but the creditor’s claim had not fallen influence each winding up process? Are there any due at that time, the claims cannot be set off. restrictions on the action that they can take (including the enforcement of security)? 3.7 How is each restructuring process funded? Is any protection given to rescue financing? The shareholders lose their control over the debtor company when winding up proceedings are opened, and have little or no Judicial debt negotiation proceedings must be financed by the opportunity to influence the proceedings, except to raise objections company’s available equity and/or revenue from its business to the supervising court and demand that the court reviews how the operations. As a requirement to open proceedings, the court may process is handled, the administrator’s disposal over assets, etc. ask that the debtor pays a fee as security for the initial costs of the The creditors have the same opportunity to object to the supervising proceedings. Thus, a successful restructuring under the current court, and in addition they have influence through any appointed Norwegian regime is in most cases due to financial funding from members of the creditors’ committee. one or more creditors, and usually the debtor’s bank, or from the Upon the opening of winding up proceedings, there is an automatic shareholder(s). stay of any bankruptcy petitions against the debtor and against any Rescue financing is not given any protection by law. creditors attaching an execution lien to the debtor’s assets in order to secure claims which arose prior to the opening of the proceedings. The stay lasts throughout the proceedings. Furthermore, secured 4 Insolvency Procedures creditors may not enforce any security rights during the first six months from the opening of winding up proceedings, unless the administrator and the creditors’ committee give their consent. 4.1 What is/are the key insolvency procedure(s) available to wind up a company? 4.5 What impact does each winding up procedure have on The only available procedure to wind up an insolvent company is existing contracts? Are the parties obliged to perform outstanding obligations? Will termination and set-off through formal, judicial winding up proceedings (Nw: “konkurs”). provisions be upheld?

4.2 On what grounds can a company be placed into each The bankruptcy estate is its own legal entity, and may choose winding up procedure? whether to disregard or to become a party to the debtor’s contracts (“cherrypicking”). Exceptions are provided for employment It is a condition for the opening of winding up proceedings that the contracts and tenancy agreements, to which the estate is automatically company is insolvent, meaning that the debtor is both illiquid and a party unless the administrator, within three and four weeks from with negative net assets (i.e., the value of the company’s assets and the opening of proceedings, respectively, actively declares that the income are in sum insufficient to satisfy the company’s obligations). estate will not become a party to the contract. Should the estate

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choose to become party to a contract, the estate has, as a general rule, a right to terminate the contract without cause and with a 5 Tax customary notice period, or alternatively with a three-month notice period, regardless of any provision stating that the contract may not 5.1 Does a restructuring or insolvency procedure give be terminated or is of a set, longer duration. rise to tax liabilities? The estate’s and the contract parties’ rights and duties once the estate has become a party to the debtor’s contract(s), differ somewhat In judicial debt negotiation proceedings, the business operations of between the various types of contracts. However, the estate is only the company continue as usual, and the debtor may incur tax and bound by the contractual obligations with effect from the point in VAT liabilities. In winding up proceedings, any further operations time when the estate became a party to the contract. Any contractual of the bankrupt company’s business is carried out by the bankruptcy Norway claim the other party might have against the debtor may be filed estate and not by the debtor, and thus any tax liability from such as a claim in the estate. When bankruptcy proceedings have been operations is incurred by the estate itself. However, the estate will opened, a contract party to the debtor may not terminate the contract only be liable for taxes on the rare occasion that the estate should solely on the basis of the debtor’s insolvency or non-payment, operate the business for a considerable period of time and for a long- except if the administrator of the estate explicitly states (within a term economic gain, and not merely for the time it will take to sell reasonable time from a request by the creditor) that the estate will the assets/business. not become a party to that contract. If the debtor was registered in the VAT register, the bankruptcy If a contract party terminates the contract, it is not obliged to perform estate, as a separate legal entity, will as a general rule also be registered in the VAT register. outstanding obligations except to pay any outstanding debt to the debtor. Furthermore, a contract party’s claim for performance may be converted to a monetary claim and filed in the estate. A creditor 6 Employees may set off its claim against the debtor in sums owed to them by the debtor, as long as both the claim and counterclaim existed when proceedings were opened. However, if the debtor’s claim against 6.1 What is the effect of each restructuring or insolvency the creditor fell due prior to the opening of proceedings, but the procedure on employees? creditor’s claim had not fallen due at that time, the claims cannot be set off. A creditor may not set off its claim against the debtor in any There are no particular rules in Norwegian law regulating employees’ claim on the estate’s hand, e.g. claims for clawback or for payment rights/protection and obligations under voluntary or compulsory of goods sold by the estate. judicial debt negotiation proceedings. In winding up proceedings, the administrator must notify the employees within three weeks if the estate does not want to become 4.6 What is the ranking of claims in each procedure, a party to the employment contracts, or else the estate automatically including the costs of the procedure? becomes a party. In addition, the administrator must give notice to the employees that their employment with the debtor is terminated. The ranking of claims in winding up proceedings is as follows: the Some of the employees’ claims for wages are protected by the costs of the proceedings and any expenses/obligations brought on Norwegian governmental wages guarantee fund in the case of by the estate are preferential claims, and should be covered in full winding up proceedings. There are several rules limiting which before any of the debtor’s debts are paid. claims are covered by the wages guarantee scheme, and the most After preferential claims have been covered in full, employees’ important is that the notice period is only covered with one month’s claims for unpaid wages, with certain limitations, rank first in pay from the opening of the proceedings regardless of the conditions priority. Some of the outstanding wages will also be covered by of the employment contract, and that there is a maximum payment the governmental wages guarantee scheme, and if so the Wages of approximately NOK 180,000 to each employee. Guarantee Fund subrogates the amounts paid to the employees and files them as first priority claims in the estate. Certain tax and VAT 7 Cross-Border Issues claims less than six months old rank second in priority. The vast majority of claims fall within the group that has no priority. Finally, interests accrued after the opening of winding up proceedings and 7.1 Can companies incorporated elsewhere restructure certain other claims rank last in priority. or enter into insolvency proceedings in your jurisdiction?

4.7 Is it possible for the company to be revived in the future? Norwegian courts may open winding up proceedings in a foreign company if that company’s actual centre of business is in Norway. Norwegian courts regularly open winding up proceedings in A company may be revived after winding up proceedings if the branches of foreign companies based on this principle. In practice, creditors are paid in full (with certain exceptions for secured the foreign companies are taken under winding up proceedings in creditors) or if they expressly agree to the estate being returned to Norway, and the proceedings are registered on the branch’s entity the shareholders/the company being “revived”, and if the costs of number in the Company Register. the proceedings are covered in full. If the winding up proceedings were based on a breach of the legislative requirements to, inter alia, register annual accounts or 7.2 Is there scope for a restructuring or insolvency have a correctly registered board of directors, the breach needs to process commenced elsewhere to be recognised in your jurisdiction? be remedied in addition to the abovementioned requirements for a revival. There has been a Nordic Convention on Bankruptcy in place since 1933 between Norway, Denmark, Finland, Iceland and Sweden.

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This convention provides regulation on cross-border insolvencies within these Member States, including rules on recognition, 8 Groups enforcement and choice of law in various situations. Norway is a member of the EEA but not the EU, and has not ratified 8.1 How are groups of companies treated on the the EC Insolvency Regulation. In a judgment in 2013, the Supreme insolvency of one or more members? Is there scope Court of Norway held that restructuring or insolvency proceedings for co-operation between officeholders? commenced elsewhere will usually not be recognised in Norway unless there is a convention or agreement in place with the country There are no rules on group insolvencies in Norway. It is common where the proceedings have been opened. The Supreme Court for the courts to appoint the same administrator for all the group stated that the administrator of the foreign estate must pursue the companies taken under winding up proceedings; however, there is Norway estate’s rights as a creditor representative; typically applying for an no general rule stating that the bankruptcy estates of companies in the same group should have the same administrator. attachment in the debtor’s assets in Norway. There have been written hearings and opinions on whether Norway should implement the EC Insolvency Regulation. In June 2016, 9 Reform the Norwegian Parliament approved a preposition for amendments in Norwegian insolvency law concerning international insolvency 9.1 Are there any proposals for reform of the corporate matters, cf. section 9 below. The preposition does not suggest rescue and insolvency regime in your jurisdiction? implementation of the EC Insolvency Regulation, but is influenced by some of its principles. The judicial restructuring scheme in Norway is currently under review, subject to a mandate given by the Ministry of Justice to Judge 7.3 Do companies incorporated in your jurisdiction Leif Villars-Dahl with the Oslo Court of Probate and Enforcement. restructure or enter into insolvency proceedings in Mr. Villars-Dahl delivered his report on 1st March 2016. The other jurisdictions? Is this common practice? mandate included, inter alia, to evaluate whether the current rules should be amended to facilitate a more flexible restructuring Norwegian companies in general do not enter into insolvency scheme, aimed at saving more businesses and preserving more jobs. proceedings in other jurisdictions. There are exceptions, however, Further, in June 2016, the Norwegian Parliament approved a and there have been a few cases over the years where Norwegian proposition for changes in the Bankruptcy Act, implementing companies have opened Chapter 11 proceedings in the United new rules on international bankruptcies. The changes include States, as the company has considered the US proceedings a better amendments to jurisdiction and choice of law rules and the effects alternative than Norwegian proceedings. of foreign insolvency proceedings in Norway, including recognition and enforcement rules. The new rules are not yet in effect, and a date has not yet been set for the new rules to enter into force.

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Stine D. Snertingdalen Ingrid E. S. Tronshaug Kvale Advokatfirma DA Kvale Advokatfirma DA Pb. 1752 Vika Pb. 1752 Vika 0122 Oslo 0122 Oslo Norway Norway

Tel: +47 22 47 97 00 / +47 92 28 99 21 Tel: +47 22 47 97 95 / +47 95 21 01 26 Email: [email protected] Email: [email protected] URL: www.kvale.no URL: www.kvale.no Norway Stine D. Snertingdalen is a partner at Kvale specialised within Ingrid E. S. Tronshaug is a senior associate at Kvale, specialising insolvency and restructuring and banking and finance. Stine gives mainly in insolvency law, including restructuring, bankruptcy, legal aid to some of the largest banks in Norway, and assists clients debt recovery and mortgage law. In addition to a vast number of with restructuring their businesses. bankruptcies and other insolvency and restructuring matters, she has worked on some of the largest bankruptcy and judicial debt negotiation Stine is frequently appointed as bankruptcy administrator by Oslo proceedings in Norway. Further, she has experience with real estate Court of Probate and Enforcement, and has worked on a number and construction law and especially with cases related to the interface of the largest bankruptcy and judicial debt restructuring cases in between construction and bankruptcy law. Ingrid also assists clients Norway. She regularly lectures for the Norwegian Law Society and with various acts of enforcement of Norwegian and foreign claims. As financial institutions, and has published several articles on Norwegian part of her LL.M. in corporate and commercial law from the University of insolvency law in international publications. Furthermore, Stine Southampton she wrote a dissertation on international insolvency law, is appointed by the Justice Department as a member of the expert and in 2016 she worked as a judicial intern to the Honorable Elizabeth group of four persons assisting Judge Villars-Dahl in the evaluation S. Stong, a judge on the United States Bankruptcy Court, Eastern and reform of the Norwegian rules on judicial restructuring, and as a District of New York. Ms. Tronshaug holds several directorships and member of the Norwegian Advisory Board on Bankruptcy. frequently lectures and publishes articles on insolvency law. Stine is highly ranked both in Norwegian and international rankings such as The Legal 500 and Chambers and Partners.

Kvale Advokatfirma DA is a business law firm giving advice on all aspects of business law. Our insolvency team is one of the largest in Norway with 23 team members, of which 16 are lawyers with insolvency as their key practice area. Five partners in our team are regularly appointed by the courts as administrators of bankruptcy estates and judicial debt negotiations. The team also handles out-of-court insolvency matters, and is a preferred legal advisor to several large banks. Kvale’s insolvency team is especially well-known for administrating complex bankruptcy proceedings including cross-border cases, assisting banks in securing and recovering values from customers in financial distress, and judicial debt restructuring proceedings for large companies and company groups. Kvale is top-ranked in ratings such as The Legal 500 and Chambers and Partners within insolvency. Visit us on LinkedIn at: https://www.linkedin.com/company/kvale-advokatfirma-da?trk=top_nav_home.

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Poland Dominik Gałkowski

Kubas Kos Gałkowski Konrad Trzaskowski

the bankruptcy procedure was often taken advantage of in practice 1 Overview and the rehabilitation (restructuring) procedure was in reality a dead letter, which was the main reason for a substantial amendment of 1.1 Where would you place your jurisdiction on the the law. spectrum of debtor to creditor-friendly jurisdictions? New regulations provide for a significantly broader catalogue of procedures. The Restructuring Law provides for four types of Polish law regulations on bankruptcy and restructuring were restructuring procedures, starting from the maximally informal substantially altered due to changes which entered into force on 1st proceedings on approval of composition, through gradually more January 2016. formalised restructurings (usually connected with the worst situation The fundamental functions of the new regulation are: possible for an entrepreneur at the moment of initiation of proceedings ■ Realising a ‘new chance’ policy, i.e. guaranteeing an or the contentious nature of multiple claims) in expedited composition opportunity for a new start to entrepreneurs whose enterprises proceedings, composition proceedings or recovery proceedings. As failed in connection with deteriorating economic conditions. these provisions have been newly implemented, it is still too early to ■ Separating restructuring procedures, aimed at preventing a be able to predict the popularity of these procedure types, in particular debtor’s enterprise from reviling (or stigmatising) bankruptcy in connection with the fact that entrepreneurs must become convinced procedures; examination of the effectiveness of the law in of their value following the period when, in practice, previous force heretofore has demonstrated that the very declaration of provisions on restructuring constituted a dead letter. The adaptation bankruptcy in the majority of cases precluded any restoration of new provisions to the diverse needs of various entrepreneurs of a debtor’s enterprise due to the negative attitude of the allows one to assume, however, that the new types of proceedings economic environment (creditors/counterparties) towards an will become more popular. The first data, according to which in entrepreneur who was declared bankrupt. 2016, 212 restructuring, composition and sanation proceedings were ■ Maximising the speed and effectiveness of restructuring and opened, and in this year close to 150 bankruptcies less were declared bankruptcy. in relation to the previous year, also point to this. ■ Providing entrepreneurs and their counterparties with The bankruptcy procedure remains formal in principle, although in effective restructuring instruments while simultaneously this case the changes aim at increasing the role of active creditors maximising protection of debtors’ rights. as well. ■ Introducing a rule according to which declaration of bankruptcy becomes an ultimate solution, only when restructuring fails to yield economic effects. 2 Key Issues to Consider When the ■ Increasing rights of active creditors. Company is in Financial Difficulties New regulations assume a far-reaching ‘friendliness’ of proceedings and place substantial emphasis on reaching an agreement, especially 2.1 What duties and potential liabilities should the in the process of restructuring, but also in the case of declaration directors/managers have regard to when managing a of bankruptcy. For this reason the new procedures are extremely company in financial difficulties? Is there a specific positive, and guarantee extensive rights both for the debtor and for point at which a company must enter a restructuring the creditor, placing Poland in the middle of the spectrum of debtor- or insolvency process? to creditor-friendly jurisdictions. Restructuring procedures are voluntary in nature, which means that no statutory legal obligation to initiate restructuring proceedings at 1.2 Does the legislative framework in your jurisdiction allow for informal work-outs, as well as formal a specific moment has been imposed on managers. Nevertheless, restructuring and insolvency proceedings, and are neglecting to take advantage of a possibility for restructuring each of these used in practice? may be recognised as improper performance of the management contract, especially if such an omission leads to the deterioration The legal regulations previously in force (before 1st January 2016), of a company’s standing. If a restructuring procedure is initiated, a which still apply to bankruptcies declared before this date, provided number of duties concerning cooperation are imposed on managers. for rather formal principles for conducting both bankruptcy and In the case of bankruptcy proceedings, managers are under a legal rehabilitation proceedings. Due to the above-mentioned formality, obligation to file a motion for declaration of bankruptcy not later

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than 30 days as of the date on which the grounds for declaration of filing of the motion for declaration of bankruptcy in writing with bankruptcy materialised. a certified date. Establishing a mortgage, lien, registered pledge, Non-compliance with the obligation to file a motion for declaration or maritime mortgage on a debtor’s assets may also be recognised of bankruptcy in time entails managers’ compensatory liability as ineffective in certain cases if the bankrupt was not a personal towards creditors and may even result in imposing on a manager a debtor of a secured creditor and the encumbrance was established ban on conducting business activity or managing companies for a within one year prior to the date of the filing of the motion for period of up to 10 years. declaration of bankruptcy, and in connection with the establishment thereof, the bankrupt did not receive a commensurate performance. Also, contractual penalties stipulated by the debtor may be found 2.2 Which other stakeholders may influence the ineffective, especially when they are substantially inflated or when Poland company’s situation? Are there any restrictions on the the debtor performed a substantial part of the agreement. action that they can take against the company? There are substantial risks connected with challenges during Restructuring procedures are in principle initiated on the debtor’s restructuring or bankruptcy proceedings. The agreements concluded request; exceptionally, rehabilitation proceedings may also be by the debtor are, therefore, most closely related to acts in law initiated by a motion of a debtor’s personal creditor. performed against a lack of remuneration or equivalent, as well as to acts in law performed with affiliated entities or persons. Defences In the case of bankruptcy proceedings, a debtor as well as other against recognising these acts in law as ineffective will, therefore, entities specified in the Act, in particular each of the personal be, in particular, based on: (i) non-conclusion of agreements over creditors of the debtor, but also, e.g., shareholders of personal a lack of remuneration or equivalent in situations where the debtor companies, may file a motion for initiation of proceedings. is in a financial situation indicating that they may be insolvent or face a real risk of insolvency within one year; and (ii) ensuring 2.3 In what circumstances are transactions entered that no other creditors are injured as a result of the conclusion of into by a company in financial difficulties at risk of agreements between affiliated companies. challenge? What remedies are available?

In restructuring proceedings, the regulation pertaining to the most 3 Restructuring Options formal kind, i.e. recovery proceedings, contains a number of provisions regulating ineffectiveness and challenging a debtor’s 3.1 Is it possible to implement an informal work-out in acts in law. In particular, the provisions stipulate the ineffectiveness your jurisdiction? of certain acts in law (including agreements, in-court settlements, recognition of statement of claims, etc.) – against a lack of An enterprise may be restructured in an entirely informal manner remuneration or equivalent – performed by the debtor within a outside of the Restructuring Law regulations – by concluding period of one year prior to the filing of a motion for initiation of creditors’ agreements which adequately modify payment rules or proceedings, ineffectiveness of collaterals established within this deadlines or another manner of delivering an obligation. However, period (including sureties and warranties granted) not directly related this creates the problem of the need to come to an agreement with to the debtor receiving a mutual performance (in particular collaterals individual creditors, while it must be remembered that, in case of a on loans or credits granted to third parties, including among other risk of bankruptcy, preferential satisfaction of some creditors at the companies in the group), as well as collaterals exceeding the value expense of others is inadmissible and in extreme cases may result in of a performance obtained by the debtor. These provisions also criminal charges (Article 302 of the Penal Code). provide for the possibility of partially reducing the excessively Applying for an extremely informal restructuring procedure, i.e. inflated remuneration of managers within three months prior to filing proceedings on approval of composition, is an alternative solution. a motion for the opening of proceedings, as well as during the course In such proceedings, the debtor concludes a civil law agreement with of such proceedings. By way of an action, one may also demand a composition supervisor selected by the debtor. In cooperation with invalidation of a debtor’s acts in law performed in conscious and the selected supervisor, the debtor formulates a restructuring plan glaring violation of its creditors’ interests. and composition proposals and, subsequently, the debtor himself Similar regulations pertain to bankruptcy proceedings. Acts in law collects creditors’ votes in favour of the composition. If adoption (including agreements, in-court settlements, recognition of statement of a composition is approved by a majority of creditors with the of claims, etc.) performed by a bankrupt within a period of one year right to vote who in total own at least ⅔ of the total of the claims prior to the filing of a motion for initiation of proceedings and by giving them the right to vote, the composition is accepted. Hence, way of which the debtor disposed of their assets are ineffective, it may be accepted even against the stance of some creditors, which if performed against remuneration or not, where the value of the serves to increase the effectiveness of this procedure. The accepted bankrupt’s performance glaringly exceeds the value of the mutual composition, along with the supervisor’s report, is then submitted to performance. In principle, ineffectiveness also affects collaterals the court which then approves it (insofar as it does not violate the and payment of non-mature debt within six months prior to the date law and is plausible). of the filing of a motion for declaration of bankruptcy. Also, acts in law performed by a debtor against remuneration with their next of kin or companies with equity or personal ties, which are stipulated 3.2 What formal rescue procedures are available in your in the Act, within six months prior to the date of the filing of a jurisdiction to restructure the liabilities of distressed companies? Are debt-for-equity swaps and pre- motion for declaration of bankruptcy may also be found ineffective. packaged sales possible? In the latter two cases, the second party may try to prevent the agreement being recognised as ineffective by demonstrating that it The Restructuring Law provides for four restructuring procedures – does not lead to injury of the bankrupt’s creditors. The bankrupt’s from the most informal proceedings, being approval of composition, assignment of a future claim is also ineffective unless the assignment to the strongly formalised recovery proceedings. Application for agreement was concluded not later than six months prior to the each of them in principle depends on the degree of risk of the

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debtor’s insolvency, as well as on the structure of their obligations, especially the existence of contentious claims. These four 3.4 Who manages each process? Is there any court procedures are, in order of degree of formality: (i) proceedings for involvement? approval of composition; (ii) expedited composition proceedings; (iii) composition proceedings; and (iv) recovery proceedings. In the proceedings on approval of composition, acts in law are In principle, restructuring aims at concluding a composition, which mainly performed by the debtor proper, but in principle the debtor offers the possibility for application to a very extensive range of also manages their assets. The debtor cooperates with a supervisor restructuring solutions, including exchanging claims for stocks or which the debtor selected and employed. In cooperation with the shares, adjourning payments, spreading payments into instalments, debtor, the supervisor prepares a restructuring plan and composition reducing claims, modifying collaterals on claims, etc. The offers, draws up a list of claims, cooperates with the debtor in the Poland possibility of dividing creditors into groups to subsequently apply a scope of collecting creditors’ votes and submits a report on the variety of restructuring solutions for various groups is also possible. correct course of proceedings, which constitutes a basis for the court to approve the composition (the court joins in only at this final Liquidating a bankrupt’s assets and repaying creditors from the funds obtained as a result of the liquidation is possible in bankruptcy stage). proceedings. However, there is also a possibility in such proceedings In expedited composition proceedings, the role of the court and to enter into a composition with creditors. New provisions also judicial bodies is significantly greater. The proceedings commence provide for a possibility to carry out bankruptcy proceedings with a with the filing of a motion for the initiation of proceedings, and a so-called prepared liquidation. Within this procedure, along with a court administrator is appointed for the debtor to perform most of motion for declaration of bankruptcy, a motion for approval of terms the acts in law together with an appointed judge. After the court and conditions for disposal of a debtor’s enterprise must be filed. administrator is appointed, the debtor may exercise ordinary If the price exceeds the amount possible to obtain in bankruptcy management of their assets, whereas activities exceeding the scope proceedings, the bankruptcy court allows the motion for approval of of ordinary management must be approved by the court administrator conditions of disposal, the enterprise is sold, and the funds obtained or, in certain cases, even consent of the council of creditors must from the sale are allocated in order to satisfy creditors. be obtained. In certain cases, e.g. if the manner of the debtor’s management does not guarantee delivery of the composition, the 3.3 What are the criteria for entry into each restructuring court may set aside the debtor’s own management and appoint an procedure? administrator. Analogical principles apply to composition proceedings. A restructuring procedure may be initiated for an insolvent debtor or In recovery proceedings applied to the most difficult cases of one facing insolvency. restructuring, the court will be involved from the very beginning A debtor is considered insolvent if they fail to meet their cash and, in principle, deprives the debtor of their own management obligations. It is presumed that such a state occurs if there is a by appointing an administrator who acts on his behalf and at the delay by the debtor in satisfying their cash claims which exceeds debtor’s cost. three months. A debtor who is unable to meet his obligations only temporarily is not considered insolvent, yet this does not rule out the possibility of launching restructuring procedures. 3.5 How are creditors and/or shareholders able to influence each restructuring process? Are there any A debtor who is a legal person or an organisational unit is also restrictions on the action that they can take (including considered insolvent when their cash obligations exceed the value the enforcement of security)? Can they be crammed of their assets (liabilities exceed the value of assets), and this state of down? affairs persists for a period longer than four months. A debtor whose economic situation indicates that they may become The role of shareholders in restructuring proceedings is limited. insolvent within a short time period is considered a debtor facing They may, however, influence the composition of managing bodies insolvency. which will act on behalf of the debtor, whose role and rights are Application for a given mode of restructuring proceedings depends significantly broader. on further prerequisites. The role of creditors is a lot more extensive. What is particularly Proceedings in the case of approval of composition are designed for worth emphasising here is the possibility to file a motion for entrepreneurs who are capable of reaching an agreement with the initiating recovery proceedings, the right to submit composition to majority of their creditors without the involvement of the court, in a a vote, or special authorisations of the council of creditors to adopt situation where the total of contentious claims does not exceed 15% specific decisions of relevance for the course of the proceedings and of the total claims giving a right to vote on composition. the possibility to exert influence on the appointment of the court administrator, etc. The same limit on contentious claims occurs in the case of expedited composition proceedings, whereby in the case of this procedure In principle, on the date on which a decision on approval of the participation of the court is a lot more extensive, yet it has composition becomes final and valid, ongoing proceedings an advantage in that there is a possibility for the debtor to obtain on securing claims and enforcement proceedings against the suspension of any enforcement proceedings being under way in debtor aimed at satisfying claims covered by the composition are relation to such debtor. discontinued by virtue of law, whereas enforcement titles and writs By assumption, composition proceedings are to be used only when of execution concerning claims covered by composition lose the the value of contentious claims does not permit the use of two faster attribute of enforceability. and more simple procedures. In the course of restructuring proceedings, for approval of Recovery proceedings are in turn dedicated for entrepreneurs whose composition there are no limits on creditors carrying out enforcement financial situation is so difficult that composition proceedings would against the debtor. In the remaining types of restructuring procedures, not allow the debtor to obtain protection against enforcement on the enforcement proceedings and proceedings on securing claims are part of creditors not covered by the composition. suspended (ex officio or by a motion).

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3.6 What impact does each restructuring procedure have 4.2 On what grounds can a company be placed into each on existing contracts? Are the parties obliged to winding up procedure? perform outstanding obligations? Will termination and set-off provisions be upheld? A bankruptcy procedure may be initiated against an insolvent company (cf. the comments above). Such a procedure is initiated In principle, initiation of restructuring proceedings does not solely on a motion filed by an authorised entity: in principle a debtor result in expiry or dissolution of binding agreements (although or a personal creditor. However, despite the state of insolvency, certain agreements may be found ineffective, as discussed above). bankruptcy is not declared if the debtor’s assets are insufficient to Moreover, in certain cases, initiation of such proceedings entails a satisfy the costs of proceedings, or they are only sufficient to satisfy Poland ban on termination of specific agreements (lease, loan) in the course such costs and no others. The court may also dismiss a motion for of restructuring, which is to provide a guarantee that adoption of a declaration of bankruptcy when, despite the status of insolvency, decision on restructuring does not result in immediately blocking the there is no risk that the debtor would cease to deliver their mature debtor’s functioning by its counterparties. In principle, agreements cash liabilities within a short time frame, and also when the motion must be performed, although the debtor’s payments on the grounds was filed by a creditor and the debtor demonstrates that the claim is of claims covered by the composition will be withheld in the fully contentious and the dispute between parties arose prior to the majority of cases until the composition is approved. In principle, filing of the motion. provisions of the agreement, which in the event of the filing of a motion for initiating restructuring proceedings or initiation thereof stipulate a change or dissolution of a legal relationship which a 4.3 Who manages each winding up process? Is there any court involvement? debtor is a party to, are invalid. Provisions of the Restructuring Law and Bankruptcy Law also In bankruptcy proceedings, the court is involved from the very start, provide for specific regulations for certain types of agreements (e.g. since it is only the court that examines the motion for declaration of bank account agreement, lease agreements, loan, agency agreements, bankruptcy and subsequently declares it. The burden of conducting bailment agreement, etc.). further proceedings rests with a receiver who manages assets and conducts the proceedings with the participation of a judge 3.7 How is each restructuring process funded? Is any commissioner, and in specific cases, with the participation of the protection given to rescue financing? court, debtor, or council of creditors.

Restructuring and bankruptcy are financed from the debtor’s 4.4 How are the creditors and/or shareholders able to (bankrupt’s) resources. Satisfaction of running costs of proceedings, influence each winding up process? Are there any in principle, has priority over satisfaction of other claims. In specific restrictions on the action that they can take (including cases, it is also possible to resort to public aid. the enforcement of security)? The provisions foresee that in the case of the creditor, which after the opening of restructuring proceedings grants or is to grant The role of shareholders in a bankruptcy procedure is limited. They financing in the form of a loan, bonds, bank sureties, letters of credit may, however, influence the composition of managing bodies who or on the basis of another financial instrument necessary to execute acts on behalf of the debtor, whose role and rights are significantly the composition. However, the possibility of aberration from the broader. principle of the equal treatment of creditors (or creditors from a The role of creditors is significantly broader; it is worth noting given group) is possible within the framework of a composition. that they have the right to file a motion for initiating bankruptcy For such a creditor granting financing, it is possible, within the proceedings and to accept a composition in bankruptcy. The council composition, to establish more favourable terms of repayment by of creditors can give specific authorisations to adopt decisions, the debtor, which arose before of the opening of the restructuring specified in law, which are of significance for the course ofthe proceedings. proceedings. Moreover, the claims on account of the credit, loan, bond, bank Enforcement proceedings against assets constituting a bankruptcy surety, letter of credit or other financial instrument foreseen in the estate and initiated prior to the date on which bankruptcy was composition, approved in the restructuring proceedings and granted declared are suspended by virtue of law on the date of declaration in relation to the performance of such a composition, if the bankruptcy of bankruptcy. Such proceedings are discontinued by virtue of law of the debtor was announced as a result of the examination of the when the decision on declaration of bankruptcy becomes final and motion on the declaration of bankruptcy, submitted no later than valid. After the date of declaration of bankruptcy, it is inadmissible three months after the legally valid repeal of the composition, will to carry out enforcement from assets being a part of the bankruptcy be satisfied in the first category of satisfaction (compare question 4.6 estate and establish a collateral on the bankrupt’s assets, with the below) hence before a majority of the bankrupt’s other liabilities. exception of securing specific alimony or annuity claims.

4 Insolvency Procedures 4.5 What impact does each winding up procedure have on existing contracts? Are the parties obliged to perform outstanding obligations? Will termination and set-off 4.1 What is/are the key insolvency procedure(s) available provisions be upheld? to wind up a company? In principle, initiation of a restructuring procedure does not result Currently, the only insolvency procedure is the procedure stipulating in expiry or dissolution of agreements in force (although certain liquidation of the debtor’s assets (although, even in this procedure, agreements may be recognised as ineffective, as discussed above). entering into a composition by creditors is admissible). A debtor’s cash obligations which are not yet mature become

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mature on the date of declaration of bankruptcy, whereas non-cash a restructuring plan may predict a reduction of employment, but proprietary obligations become cash obligations on the date of it is obtained by notice of termination of employment contracts declaration and also become payable, even if they have not reached (alternatively – mass layoffs). maturity. Agreement provisions, which in the event of the filing of Also, initiation of a restructuring recovery procedure or bankruptcy a motion for declaration of bankruptcy or in the event of declaration procedure in itself does not result in dissolution of employment of bankruptcy stipulate a modification or dissolution of legal relationships, although the administrator and receiver in this situation relationships which the bankrupt is a party to, are invalid. gain the possibility to terminate employment contracts through shorter periods of notice (against payment of extra severance pay). 4.6 What is the ranking of claims in each procedure, Claims for payment of remuneration for work are in principle also

including the costs of the procedure? located higher in terms of the order of satisfaction. Restructuring Poland or bankruptcy may also entail satisfying employees’ outstanding Firstly, funds obtained from liquidation of the bankruptcy estate are claims by the Guaranteed Employment Benefit Fund and joining the used to cover the costs of proceedings, and then claims in an order proceedings with such. set forth in the Act are satisfied in an extensive list. To put matters Claims for remuneration from a contract of employment in principle more simply: are not covered by a restructuring arrangement (unless employees ■ claims included in the first category cover those arising consent thereto) and, therefore, in the composition they may not be from employment agreements, alimony, annuity, and those reduced or spread into instalments. allocated to covering liabilities resulting from acts performed by the receiver; ■ the second category covers the principal part of claims (i.e. 7 Cross-Border Issues claims not included in other categories), including those arising from a majority of agreements, as well as from taxes and social insurance premiums; 7.1 Can companies incorporated elsewhere restructure ■ the third category covers interest rates on the claims above; or enter into insolvency proceedings in your and jurisdiction? ■ the fourth category covers amounts due to shareholders or stockholders on the grounds of a loan (or a similar agreement) As an EU member, in the scope of cross-border bankruptcies, granted within five years prior to declaration of bankruptcy, Poland is bound by EU regulations. including interest rates. In regard to Polish regulations, it is worth indicating that the Where the specific property right is encumbered with a mortgage competence of Polish courts covers restructuring cases if the main or lien, funds obtained after liquidation of this right upon satisfying centre of the debtor’s fundamental operations (not necessarily the an adequate part of the costs of proceedings are primarily due to the place of incorporation) is located in Poland, as well as when the party authorised from the collateral. debtor conducts business activity in Poland, is domiciled in Poland, or their office or assets are registered in Poland. It is also possible to conduct in Poland secondary restructuring proceedings related to 4.7 Is it possible for the company to be revived in the future? the scope of an entrepreneur’s activities in Poland, while the main restructuring is conducted in the country where the debtor conducts their main operations. A bankruptcy procedure ends in liquidation of the company, and as a result the company ceases to exist and may not be restored Analogical principles apply to bankruptcy proceedings. (a new company may be established). If, however, the bankruptcy proceedings end in discontinuation, then the company continues to 7.2 Is there scope for a restructuring or insolvency exist and it may function. process commenced elsewhere to be recognised in your jurisdiction? 5 Tax In principle, bankruptcy and restructuring procedures initiated and conducted in other countries are recognised in Poland, whereby if 5.1 Does a restructuring or insolvency procedure give the main centre of the debtor’s fundamental operations is located rise to tax liabilities? in Poland, Polish courts have exclusive jurisdiction; hence, in such situations, restructuring or bankruptcy must be initiated before a In principle, an insolvency or restructuring procedure does not entail Polish court. These rules do not apply if international agreements the emergence of special tax obligations. However, if a composition concluded by Poland or EU law provide otherwise. is concluded, depending on solutions employed therein (e.g. reduction of obligations), a correction of the tax return may prove 7.3 Do companies incorporated in your jurisdiction necessary and, subsequently, re-calculation of the tax base and due restructure or enter into insolvency proceedings in tax may also be required. other jurisdictions? Is this common practice?

6 Employees If the main centre of the debtor’s fundamental operations is located in Poland, then the main bankruptcy or restructuring proceedings have to be conducted in Poland. It does not exclude a possibility of 6.1 What is the effect of each restructuring or insolvency conducting a secondary procedure in another country if a part of the procedure on employees? operations and assets are located there.

Initiation of a restructuring procedure in itself does not lead to termination or dissolution of employment contracts. Obviously,

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It is also worth indicating that certain companies with close ties to 8 Groups the debtor (a dominant company, a subsidiary, a company in relation towards whom the dominant company is also dominant towards the 8.1 How are groups of companies treated on the debtor), in cases where they are also the debtor’s creditors, are not insolvency of one or more members? Is there scope entitled to a right to vote on the composition. for co-operation between officeholders? 9 Reform Neither the Restructuring Law nor the Bankruptcy Law contain specific regulations concerning bankruptcy or restructuring ofa company belonging to a group (barring the provisions on public 9.1 Are there any proposals for reform of the corporate Poland aid for restructuring). However, it is worth indicating the above- rescue and insolvency regime in your jurisdiction? described risk of recognising as ineffective certain activities performed prior to initiation of restructuring or bankruptcy Due to the fact that the Restructuring Law and Bankruptcy Law proceedings between affiliated companies. were thoroughly amended on 1st January 2016, currently no new substantial amendment drafts exist.

Dominik Gałkowski Konrad Trzaskowski Kubas Kos Gałkowski Kubas Kos Gałkowski “Focus Building”, al. Armii Ludowej 26 Nowa Kamienica, ul. Rakowicka 7 PL 00-609, Warsaw PL 31-511 Krakow Poland Poland

Tel: +48 22 206 83 00 Tel: +48 12 619 40 72 Email: [email protected] Email: [email protected] URL: www.kkg.pl URL: www.kkg.pl

Attorney at law. Dominik specialises in company law, bankruptcy Attorney at law. Konrad possesses extensive experience in civil, law, banking law and public procurement law. He is an expert in legal commercial, restructuring and banking law. He concentrates on due diligence and financial institutions as well as corporate audits. projects regarding the legal aspects of derivative instruments, both for He supervises the firm’s banking and financial law practices and court disputes as well as in the preparation of contract templates. He coordinates the restructuring and insolvency department. He was a has prepared numerous legal opinions for banking, civil, consumer, member of the Minister of Justice’s team for the amendment of the commercial and administrative law, regarding various aspects Bankruptcy and Restructuring Law (2012). He conducts projects of banking activities. He has participated in the preparation and regarding subjective changes in enterprises – mergers, acquisitions, modification of contractual drafts used for bank products (regulations, and other forms of restructuring and bankruptcy. He leads a team draft contracts, etc.), including regulations for currency market ensuring the comprehensive legal servicing of a bank. He is a transactions or regulations for the provision of brokerage services. corporate client advisor, mainly in matters concerning the trading of He has extensive experience in the provision of legal services for financial instruments; he represents them in court and in out-of-court securing financial instruments and also in projects for bankruptcy and matters as well as negotiations. rehabilitation law.

Kubas Kos Gałkowski is a law firm with a well-established position confirmed by rankings. It specialises in court and arbitration proceedings, restructuring and insolvency, banking and finance, companies law and trade law, as well as real estate law. Restructuring and insolvency are one of the fundamental specialisations of Kubas Kos Gałkowski. The team of attorneys has many years of experience in representing clients, which is a guarantee of the highest standards of legal services. Kubas Kos Gałkowski’s partners participated in the work of the Minister of Justice’s team for the amendment of the Bankruptcy and Restructuring Law by preparing recommendations in terms of specific changes in Poland, including legislative, IT, and institutional solutions.

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Russia Artem Kukin

INFRALEX Stanislav Petrov

(i) Refinancing. 1 Overview (ii) Renegotiation. The creditors and the distressed company can amend the terms of existing loan documentation to provide 1.1 Where would you place your jurisdiction on the the following accommodations to the borrower: spectrum of debtor to creditor-friendly jurisdictions? ■ delay or rescheduling of payments; ■ decrease of the indebtedness amount; Before the recent amendments, Federal Law No. 127-FZ “On ■ temporary relief from payments; and insolvency (bankruptcy)” of 26 October 2002 (the “Bankruptcy ■ waiver of financial and other covenants. Law”, which is the principal law on insolvency in Russia) offered the possibility of applying both pro-creditor and pro-debtor The creditors can sign a “standstill agreement”, whereby they agree during a certain period of time not to demand repayment bankruptcy systems without attempting to regulate the mechanism or payment of interest, enforce their rights in security or fill for its implementation. an application for the debtor’s bankruptcy. The amendments substantially modify the Bankruptcy Law and, to a The creditors can enter into an intercreditor agreement certain extent, improve the positions of creditors by providing more in order to provide for a mechanism of the creditors’ joint protection over their interests in bankruptcy proceedings. actions in recovering the company’s debts, enforcing the It is worth saying that, under previous legislation, by initiating security and sharing the proceeds received by the creditors the bankruptcy proceedings the debtor is entitled to appoint the as a result of enforcement in contractually agreed priority between the creditors. bankruptcy manager and thus get de facto control over the supervision stage because of the strengthened authority of the temporary manager. (iii) Changes in the capital structure of the distressed company, those being: Nowadays, the debtor loses the ability to initiate bankruptcy proceedings with the appointment of a friendly bankruptcy manager. ■ substitution of the debt by the rights of property; Therefore, the debtor cannot retain control of the bankruptcy ■ debt-for-equity swaps and equity financing when the proceedings, which in previous years has been detrimental to the creditors obtain an equity stake in the debtor as a part of creditors. exchange of existing debtor’s shares or the newly issued shares for forgiveness or in connection with funding being The creditors’ right to file a petition to contest the transactions of invested into the debtor; the debtor and to hold the persons controlling the debtor subsidiary ■ mergers; and liable can be recognised as being of pro-creditor nature. ■ divestments. The provisions of the Bankruptcy Law do not allow relieving someone of their obligations as a result of bankruptcy. These Due to the recent substantial change in the Bankruptcy Law, in case provisions are of a pronounced pro-creditor nature, as they allow there are pledge assets being the part of the debtor’s property, the the creditor to keep its claims and the possibility of recovery from subject of the pledge shall be substituted: the property free from the bad faith debtor. encumbrances shall be transferred to the charter capital and the pledge creditor shall receive a right of pledge over the proportional To summarise the above, the recent changes point towards a number of shares of the formed joint-stock company. conclusion that Russian bankruptcy legislation is becoming friendlier for creditors, giving them more opportunity to monitor and influence bankruptcy proceedings. 2 Key Issues to Consider When the Company is in Financial Difficulties 1.2 Does the legislative framework in your jurisdiction allow for informal work-outs, as well as formal 2.1 What duties and potential liabilities should the restructuring and insolvency proceedings, and are directors/managers have regard to when managing a each of these used in practice? company in financial difficulties? Is there a specific point at which a company must enter a restructuring In Russia, informal work-outs are referred to as out-of-court or insolvency process? agreements between the management of the distressed company and its creditors. The main instruments for informal work-outs are: When the actions or instructions of the director/managers, shareholders and persons entitled to give binding instructions to the

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debtor (referred to as “Controlling Persons”) infringe the property (ii) three years of acceptance of the debtor’s bankruptcy petition rights of the creditors and the debtor’s assets are insufficient to or thereafter if transactions were aimed at causing harm to settle all the creditors’ claims, these persons will bear a subsidiary debtor’s creditors provided the counterparty was aware of (additional) liability for the debtor’s unsettled monetary obligations. this aim. If there is clear evidence that the company will become bankrupt, Preferential transactions mean transactions that lead or may lead to its director or liquidation committee is obliged to file an application preferential treatment of a certain creditor over other creditors in the with a court to have that company declared bankrupt within one settlement of claims, including a transaction that: month of the first signs of bankruptcy. If he fails to submit the (i) provides for security to a creditor to secure obligations that bankruptcy application, he is liable for all obligations accruing arose prior to the transaction;

Russia thereafter. (ii) changes or may change the order of statutory priority of If the director initiates bankruptcy proceedings, he must send claims; notifications to the debtor’s shareholders about the risk of bankruptcy (iii) has or may result in the settlement of claims that have not yet proceedings. Failing to do this may lead to an administrative matured, provided that there are other unsettled due claims; and prosecution against the director and the penalty can be a fine or disqualification. (iv) results in certain creditors’ claims which arose prior to the transaction, being preferred or favoured in comparison to the Additionally, the debtor’s director may be subject to administrative other creditors’ claims. and criminal liability in the form of fines, disqualification and Preferential transactions may be challenged if entered into within imprisonment if he takes or omits to take certain actions relating to one month preceding the court’s acceptance of the bankruptcy bankruptcy proceedings. application or thereafter. Preferential transactions falling within The Criminal Code imposes criminal liability on the debtor’s both (i) and (ii) above, or cases where the counterparty knew of director for fraudulent bankruptcy, deliberate bankruptcy and the debtor’s inability to pay or the insufficiency of debtor’s assets, unlawful actions which have caused substantial damage. are subject to a six-month suspect period. A counterparty that is an interested party is presumed to have such knowledge unless proved 2.2 Which other stakeholders may influence the otherwise. company’s situation? Are there any restrictions on the action that they can take against the company? 3 Restructuring Options The bankruptcy manager plays a key role in bankruptcy proceedings. The bankruptcy manager supervises and controls the actions of the 3.1 Is it possible to implement an informal work-out in debtor, and has the authority to enter the creditors’ claims in the your jurisdiction? creditors’ register, determine the order of the creditors’ claims and convene creditors’ meetings. In Russia, it is possible to implement informal work-outs. The bankruptcy manager must reasonably assess the arguments Debt-for-equity swaps may be implemented by way of issuing presented by the debtor’s creditors and challenge suspicious and additional shares under closed subscription. In essence, debt-for- preferential transactions in order to protect the interests of good- equity swaps imply set-off of the creditors’ claims in exchange for faith creditors. The creditors’ meeting can oblige the bankruptcy equity in the debtor. This subscription process includes a number manager to challenge the debtor’s transactions. If he refuses to do of stages and is subject to approval by the shareholders, so there so or acts illegally against the company, the creditors are entitled to is not much scope for conducting consensual debt-for-equity file the complaint to the court requesting to dismiss the bankruptcy arrangements. manager. The provisions of the Bankruptcy Law allow for a risk of The creditors’ meetings influence the debtor’s bankruptcy challenging the methods of informal work-out. Any payments proceedings as most of the important issues are resolved at these to the creditor under an existing facility made within the suspect meetings. The creditors’ meeting has exclusive competence to period may be subject to a claw-back by the debtor. At the same determine the type of bankruptcy procedure it asks the court to order. time, new money provided under a new facility would be subject Certain transactions of the debtor and nominees of the bankruptcy to repayment according to a statutory order of priority in the course manager are subject to creditor approval. of the debtor’s bankruptcy. The creditor’s abandonment of right If the creditors’ meeting makes illegal decisions, these decisions can of bringing a claim against the debtor for the relatively determined be challenged in court. amount of the indebtedness can be qualified as a gift between the commercial organisations, which is inadmissible. 2.3 In what circumstances are transactions entered Therefore, the creditors are not likely to use some instruments of into by a company in financial difficulties at risk of informal work-outs. challenge? What remedies are available?

3.2 What formal rescue procedures are available in your Transactions entered into by a company in financial difficulties may jurisdiction to restructure the liabilities of distressed be challenged either on a general basis or on the basis of specific companies? Are debt-for-equity swaps and pre- grounds under the Bankruptcy Law. The Bankruptcy Law provides packaged sales possible? for the avoidance of suspicious and preferential transactions. The court can declare invalid suspicious transactions entered into by The Bankruptcy Law provides for the procedure named a company within either: “restructuring” only for individuals. The aim of the restructuring (i) one year of acceptance of the debtor’s bankruptcy petition or of the individual’s debts is the proportional recovery of debts before thereafter if transactions were made for unequal consideration the creditors in accordance with the order and terms of the plan of and on disadvantageous terms; or debt restructuring.

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The Bankruptcy Law sets out the formal bankruptcy procedures for The most important issues are resolved by a vote at the creditors’ companies, such as supervision, financial rehabilitation, external meeting. Creditors vote at the creditors’ meeting in proportion to administration, liquidation and voluntary agreement. There is no their registered claims. Decisions are generally adopted by a simple special procedure called “restructuring”, but in fact restructuring majority of votes of creditors attending the meeting, provided that may be achieved through either a financial rehabilitation plan, an not less than half of the registered creditors by claims were present external administration plan or voluntary agreement. at such a meeting. However, decisions on certain matters must be A voluntary agreement may be reached at any stage of bankruptcy adopted by a majority of the total number of registered votes. proceedings. That type of agreement specifies the schedule for the The decision of the majority creditors will be binding on the debtor for termination of its obligations to certain creditors. minority creditors and the debtor cannot influence such decision.

There also exists a special mechanism of prevention of insolvency No “cram down” is available, except in case the creditors’ meeting Russia during a pre-insolvency procedure called a sanation. The aim of does not approve the plan of the individual’s debts restructuring; the this procedure is to provide a debtor with financial assistance in an court is entitled to approve this plan subject to the condition that the amount sufficient for repayment of its monetary obligations. plan’s implementation will allow the settling of the creditors’ claims The recent amendments to companies’ legislation have introduced under the obligations secured by pledge of the individual’s property debt-for-equity swaps. in full, the other claims of the bankruptcy creditors and claims of the authorised body included into the register of the creditor’s claims in an amount sufficiently greater than these persons/bodies could 3.3 What are the criteria for entry into each restructuring receive in the result of the immediate disposition of the individual’s procedure? property and distribution of his average monthly income for six months. One of the obligatory conditions for the approval of the plan for an individual debt restructuring by court is that the individual shall Shareholders are not considered creditors, so they cannot file claims have a steady source of income. in bankruptcy procedures. Shareholders with shareholders’ loans are treated as other creditors. Within the formal bankruptcy proceedings, a company can seek to return to solvency through a debt repayment rescheduling in During the bankruptcy proceedings, a debt-for-equity swap, certain financial rehabilitation or through a solvency restoration plan in line transactions of the debtor and debt rescheduling are subject to the with the external management plan. The Bankruptcy Law provides approval of the debtor’s shareholders. Moreover, a shareholder restructuring measures such as sale of business, asset substitution, cannot be compelled to give up the existing shares in the debtor. sale of assets, assignment of right to the debtor’s claims and payment Shareholders may participate in the management of the debtor of the debtor’s liabilities by a third party. with some limitations of its powers, despite the fact that the debtor Plans for individual debt restructuring, proposals for a debt is in the course of the bankruptcy procedure. Once the external rescheduling, solvency restoration plans and voluntary agreements administration is commenced, the powers of the shareholders’ must be approved at the creditors’ meeting and may be introduced meeting and of the other management bodies of the debtor are with the court’s approval. terminated. The court approves the plan of debt restructuring only if it has been The Bankruptcy Law provides no “cram-down” mechanism for the approved by the debtor as the debtor is its principal participant, the debtor’s shareholders. plan implementation is usually made by him and because the debtor The claims of the secured creditors are generally to be paid from has information on its financial state and prospects to the fullest the sale of collateral covered by their respective security. Once extent. bankruptcy proceedings are commenced, there is a general moratorium on the levying of execution against the debtor’s 3.4 Who manages each process? Is there any court property. involvement?

3.6 What impact does each restructuring procedure have All bankruptcy proceedings are supervised by a court that assigns a on existing contracts? Are the parties obliged to significant role to the bankruptcy manager, whose status and powers perform outstanding obligations? Will termination and will differ depending on the stage of the bankruptcy procedure in set-off provisions be upheld? question. During the supervision and the financial rehabilitation stages, the Once the bankruptcy procedure starts, all debts under the existing debtor’s management bodies remain in place, although their powers contracts are deemed to be due and payable, debt recovery by are curtailed. creditors is suspended, and the creditor may only file a claim in relation to outstanding monetary obligations with the relevant court Once the external administration has commenced, the debtor’s that is considering the bankruptcy case. management is dismissed and the external manager obtains all management powers over the debtor. The bankruptcy manager during an external administration and liquidation has the right to refuse to perform the existing contracts if Upon the commencement of the bankruptcy proceedings against the their performance will impede restoration of the debtor’s solvency individual, the court approves the financial manager. or the debtor will incur losses due to performance, in comparison to similar transactions concluded in comparable circumstances. 3.5 How are creditors and/or shareholders able to influence Refusal to perform applies to contracts not performed or performed each restructuring process? Are there any restrictions only in part by the parties thereto. on the action that they can take (including the enforcement of security)? Can they be crammed down? From the day of commencement of supervision, set-off is allowed if it does not conflict with the statutory priority of the creditors’ claims The creditors have a say on the key matters concerning the or such discharge does not result in the preferential settlement of bankruptcy procedures by participating in the creditors’ meetings. claims of one creditor over another.

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This ruling serves as the ground for making a record of the debtor’s 3.7 How is each restructuring process funded? Is any liquidation on the Unified State Register of Legal Entities. protection given to rescue financing?

All the judicial expenses including the expenses for payment of 4.4 How are the creditors and/or shareholders able to influence each winding up process? Are there any the state duty, publication of the necessary information, payment restrictions on the action that they can take (including of remuneration to the bankruptcy manager and payment of the the enforcement of security)? services of the persons engaged by the bankruptcy manager for ensuring the performance of its activity shall be reimbursed on As to the shareholders’ influence in a liquidation, the powers of the account of the debtor’s property.

Russia shareholders’ meeting are terminated, apart from the power to make In case of insufficiency of the debtor’s property for incurrence of decisions on entering into agreements for the provision of funds by the expenses related to the bankruptcy proceedings, the bankruptcy a third person or third persons for the purpose of discharging the manager or any other person acting with the consent of the debtor’s obligations. bankruptcy manager is entitled to pay for these expenses. The claim of such a person for reimbursement of the paid sums are related to the current payments which are subject to prior settlement. 4.5 What impact does each winding up procedure have on existing contracts? Are the parties obliged to perform There are limits stipulated by law in relation to the sums which can outstanding obligations? Will termination and set-off be paid to the third parties engaged by the bankruptcy manager for provisions be upheld? the services provision. These limits are securing the reasonability of the bankruptcy manager’s aforesaid actions. The court is entitled Within the terms of liquidation as well as within the terms of to decrease the amount of payment for the services provided by the external administration, the bankruptcy manager has the right to engaged person or to deny its reimbursement, if such an amount refuse to perform any executory debtor’s contract. is disproportionate to the expected result or exceeds the market value of the similar services. If the bankruptcy manager wrongfully 4.6 What is the ranking of claims in each procedure, reimbursed the expenses for the payment of the services provided including the costs of the procedure? by an improperly engaged person, the court would be entitled to recover the paid amount from the bankruptcy manager in favour of The Bankruptcy Law requires each creditor to assert claims, so they the debtor. can be included in the ranking list and discharged as follows: (i) first-priority claims include those arising from the debtor’s 4 Insolvency Procedures liabilities for personal injury and moral harm; (ii) second-priority claims arise out of the debtor’s obligation to pay wages, salary and other amounts payable under 4.1 What is/are the key insolvency procedure(s) available employment agreements or to pay fees or royalties to authors to wind up a company? of intellectual property; and (iii) third-priority claims include all other creditors’ claims Liquidation is the insolvency procedure that may be applied to wind included in the ranking list. up a company. Claims which arise after the court has accepted a bankruptcy petition have super-priority in relation to any other claims. This 4.2 On what grounds can a company be placed into each type of claim need not be included in the ranking list and must be winding up procedure? paid according to their terms, subject to the following order: (i) judicial expenses, remuneration of the bankruptcy manager A company can be placed into liquidation if all of the following and other persons involved in bankruptcy procedures; apply: (ii) wages and salaries of the debtor’s employees; (i) if the court determines that the solvency of the debtor cannot (iii) current debtor’s utilities and operational expenses necessary be restored and there are no grounds to initiate one of the for the debtor’s day-to-day operations; and other rescue procedures or terminate bankruptcy proceedings (iv) other current payments. or dismiss a bankruptcy petition; and (ii) if the creditors’ meeting has requested the court to make the debtor bankrupt and commence the liquidation. 4.7 Is it possible for the company to be revived in the future?

4.3 Who manages each winding up process? Is there any court involvement? According to the Bankruptcy Law, a company could be revived and the bankruptcy procedures could be terminated under the following grounds: The liquidation of the company is managed by the liquidation manager, who replaces the existing management of the debtor and (i) restoration of a debtor’s solvency; assumes the powers of the owners of the debtor’s assets when the (ii) conclusion of a voluntary agreement at any stage of procedure of sales of assets commenced in relation to an individual bankruptcy; managing his operations is executed by the financial manager. (iii) waiver of creditors’ rights; The level of court involvement is very high. The court takes the (iv) settlement of all creditors’ claims; and decision to appoint or dismiss a liquidator manager, declare the (v) if the court discovers that the debtor or its creditor, who is an debtor bankrupt and issues rulings on the completion of a liquidation. interested party, applied for bankruptcy in bad faith seeking unjustified benefits, despite being aware of the debtor’s solvency.

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5 Tax 7.2 Is there scope for a restructuring or insolvency process commenced elsewhere to be recognised in your jurisdiction? 5.1 Does a restructuring or insolvency procedure give rise to tax liabilities? There is no Russian law relating to recognition of a foreign restructuring or insolvency process. However, the decisions of There are no changes to the debtor’s obligation to pay taxes after the foreign courts relating to bankruptcy procedures in foreign countries opening of bankruptcy proceedings. are recognised and enforced in Russia based on the international treaties and principles of reciprocity. Russia 6 Employees 7.3 Do companies incorporated in your jurisdiction restructure or enter into insolvency proceedings in 6.1 What is the effect of each restructuring or insolvency other jurisdictions? Is this common practice? procedure on employees?

The bankruptcy proceedings against the Russian companies could The employees have the right to turn to the court for recognition not be commenced in any court of any other jurisdiction. Still, if of the debtor as bankrupt. In the process of repayment of the debts such proceedings against a Russian company are initiated, such before the creditors, the claims of the employees are settled in the bankruptcy awards will not be enforced in Russia. second priority. The debtor’s director is obliged to notify employees about the introduction of bankruptcy procedures. The liquidator has the 8 Groups power to dismiss the debtor’s employees. The provisions of the Bankruptcy Law stipulate that the keeping of employees is allowed 8.1 How are groups of companies treated on the only to the extent it is reasonable for the purposes of the liquidation insolvency of one or more members? Is there scope procedure and, first of all, for accumulation and disposition of the for co-operation between officeholders? bankruptcy estate and settlement with creditors. Russian law does not provide any specific provisions relating to the 7 Cross-Border Issues bankruptcy regime for corporate groups or any specific requirement for coordination mechanisms among bankruptcy procedures for corporate groups. 7.1 Can companies incorporated elsewhere restructure or enter into insolvency proceedings in your jurisdiction? 9 Reform

Russian bankruptcy proceedings can generally be commenced only 9.1 Are there any proposals for reform of the corporate in relation to a Russian registered company. Therefore, companies rescue and insolvency regime in your jurisdiction? incorporated elsewhere cannot be restructured in the Russian courts. However, foreign creditors may take proceedings against a Russian In 2016, the Ministry of Economic Development of the Russian debtor in the Russian courts. Federation reported on the preparation of a draft law, by which the provisions regulating the simplified scheme of the bankruptcy proceedings in respect of individuals are supposed to be included into the Bankruptcy Law. These provisions shall be applied in case an individual lacks the funds for financing these proceedings.

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Artem Kukin Stanislav Petrov INFRALEX INFRALEX Capital City Tower, b. 8 Capital City Tower, b. 8 Str. 1, Presnenskaya nab. Str. 1, Presnenskaya nab. Moscow, 123112 Moscow, 123112 Russia Russia

Tel: +7 495 653 82 99 Tel: +7 495 653 82 99 Email: [email protected] Email: [email protected] URL: www.infralex.ru URL: www.infralex.ru Russia Artem Kukin graduated from the law department of Lomonosov Stanislav Petrov graduated with honours from the All-Russian Moscow State University in 1995 with a 1994 internship at the University of Justice. Now Stanislav carries out postgraduate research Columbia University School of Law. Artem is an attorney and has in the area of bankruptcy. In 2017, Stanislav became the Head of a Candidate of Legal Sciences degree. In 2014, Artem became the Bankruptcy Practice of INFRALEX. Managing Partner of INFRALEX. Stanislav is an acknowledged expert in bankruptcy law, corporate law Artem has been practising bankruptcy law since 1996. With more and contractual relations. than 20 years of experience, Artem has provided services for the With over eight years of experience, Stanislav provides legal options major Russian companies and state-owned corporations. Artem and experienced counsel to clients in the complexities of bankruptcy successfully completed hundreds of complex bankruptcy cases. law and corporate law. Stanislav successfully represents clients’ In 2013, Artem was marked by the international IFLR 1000 as one of interests in court in cases of disputes in the sphere of bankruptcy the leaders in the field of bankruptcy proceedings. Since 2009, Artem proceedings, corporate law and contractual relations. has been recommended by Chambers and Partners and Best Lawyers Stanislav has authored articles on bankruptcy law and corporate law, as one of the best Russian specialists in the fields of “Arbitration & and has given lectures on mediation and litigation at the All-Russian Mediation” and “Litigation”. According to The Legal 500 EMEA, Artem University of Justice. “always sees the bigger picture and is an asset to every transaction”.

INFRALEX is a first-tier Russian law firm with a large firm’s experience and resources. The firm provides legal counselling and expert services for major foreign and domestic clients.

The lawyers of INFRALEX are leading professionals in bankruptcy law, corporate law, contract law, tax and competition law, etc. The firm has dealt with a wide range of complex legal issues and the firm’s lawyers have approached complex, cross-border deals with efficiency and integrity.

The firm has handled a broad array of complex legal precedent-setting cases and has an unmatched success record, representing clients in the most significant court cases.

The Partners of INFRALEX are recommended by Best Lawyers, Chambers and Partners. INFRALEX has been ranked by the national rating of law companies (“Pravo.Ru-300”) and by the international ratings IFLR 1000, The Legal 500 EMEA, Chambers and Partners in the categories of bankruptcy, dispute resolution in courts, commercial and corporate law, M&A and competition law.

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Serbia Miloš Velimirović

SOG / Samardžić, Oreški & Grbović Nevena Milošević

1 Overview 2 Key Issues to Consider When the Company is in Financial Difficulties 1.1 Where would you place your jurisdiction on the spectrum of debtor to creditor-friendly jurisdictions? 2.1 What duties and potential liabilities should the directors/managers have regard to when managing a World Bank Doing Business shows Serbia ranked at 48 out of 190 company in financial difficulties? Is there a specific analysed countries regarding resolving insolvency proceedings. point at which a company must enter a restructuring Comparatively speaking, different criteria are used to determine the or insolvency process? position of the country in the global ranking, including the time, cost and outcome of insolvency proceedings. It takes approximately two In general, the Companies Act (“Official Gazette of the Republic years to resolve insolvency proceedings in Serbia and around 20% of Serbia”, no. 36/2011, 99/2011, 83/2014 – other acts and 5/2015) of the debtor’s estate is spent on the proceedings. The outcome stipulates that directors/managers are obliged to perform their duties in of insolvency proceedings usually results in a piece-by-piece sale capacity of good faith, with due diligence and in the reasonable belief of the insolvency debtor’s property. Serbia’s ranking is improving that they act with the company’s best interests in mind. On the other each year and the jurisdiction tends to be more creditor-friendly. hand, the Criminal Act (“Official Gazette of the Republic of Serbia”, no. 85/2005, 88/2005 – corr., 107/2005 – corr., 72/2009, 111/2009, 121/2012, 104/2013, 108/2014 and 94/2016) prescribes a criminal 1.2 Does the legislative framework in your jurisdiction offence ‘causing a company’s insolvency’ if directors/managers allow for informal work-outs, as well as formal acts result in loss of money, excessive borrowing, undertaking of restructuring and insolvency proceedings, and are each of these used in practice? disproportionate obligations, negligent conclusion of contracts with insolvent parties, failure to timely collect the company’s receivables, destruction of company property, or other actions not in accordance According to the Consensual Financial Restructuring Act (“Official with conscientious business. Gazette of the Republic of Serbia” no. 89/2015) (hereinafter: the “Consensual Financial Restructuring Act”), voluntary, out- As stipulated by the Insolvency Act, the insolvency process is to be of-court restructuring of corporate debt is allowed. Corporate initiated by a creditor, debtor or liquidator in case of the debtor’s: debt can be restructured through the rearrangement of the debtor- 1) permanent insolvency; 2) imminent insolvency; 3) over- creditor relationship between a company/entrepreneur in financial indebtedness; or 4) failure to comply with the adopted reorganisation difficulties and its creditor. The Consensual Financial Restructuring plan or putting into effect the reorganisation plan in a fraudulent or Act excludes the following entities from the possibility to unlawful manner. restructuring their debt: banks and other legal entities providing financial services, as well as entities which are already subject of 2.2 Which other stakeholders may influence the the insolvency proceedings; and entities over which an insolvency company’s situation? Are there any restrictions on the procedure has been initiated in accordance with a reorganisation action that they can take against the company? plan. Even though our jurisdiction allows informal work-outs, this model is rarely used in practice. Any legal or natural person having a legal interest may influence the On the other hand, the Insolvency Act (“Official Gazette of the company’s situation. In the first place, each insolvency creditor has Republic of Serbia”, no. 104/2009, 99/2011 – other acts, 71/2012 right to claim its receivables. An insolvency creditor is a creditor – Decision of the Constitutional Court and 83/2014) (hereinafter: who has an unsecured claim against the insolvency debtor at the the “Insolvency Act”) provides for both formal restructuring and moment of the opening of the insolvency proceedings. On the insolvency proceedings. Formal restructuring is to be effected other side, the Insolvency Act introduces the institute of secured through the reorganisation plan, which should provide a more creditors, lien creditors and excluding creditors. These creditors are favourable settlement for creditors than insolvency proceedings. If not insolvency creditors. A secured creditor is a creditor who has it is not possible to implement a reorganisation plan, the debtor’s a security right, statutory retention right, or a right of settlement insolvency will be declared. Even though reorganisation, as a more of assets and rights that are recorded in public records or registers, favourable option, is possible, it is not used often and almost all and has the right of primary settlement of the proceeds of sale of insolvency proceedings in Serbia follow the insolvency route. assets, or from collection of claims on which they have gained that

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right. A secured creditor’s claim is to be settled after the sale of plan. These conditions are related to the formal request regarding secured assets from the received purchase price, before all other the contents of the proposed plan. creditors. A lien creditor is a creditor who has a lien on the property On the other side, the Consensual Financial Restructuring Act or rights of the insolvency debtor that are recorded in public records prescribes that a debtor or a creditor may initiate a financial or registers, and do not have a monetary claim against the debtor restructuring. To enter into financial restructuring, at least two that is secured by that lien. Secured creditors and lien creditors banks must participate in this process as creditors. If the debtor is are obliged to report their claims against the insolvency debtor to an entrepreneur, the participation of one bank is enough to start the the court within the deadline for submitting insolvency claims. An procedure. excluding creditor is an entity having property or any other personal

Serbia right on the property which was in the possession of the insolvency debtor at the moment of activating insolvency proceedings. An 3.4 Who manages each process? Is there any court involvement? excluding creditor has right to request certain assets to be excluded from the insolvency estate. Which authority is authorised to manage proceedings depends whether it is an informal work-out or formal restructuring and 2.3 In what circumstances are transactions entered insolvency proceedings. The Chambers of Commerce and Industry into by a company in financial difficulties at risk of of Serbia (hereinafter: the “Chambers”) manage the process of challenge? What remedies are available? voluntary, out-of-court restructuring of corporate debt. Conversely, formal restructuring and insolvency proceedings are managed by In general, every creditor whose claim is due for payment is entitled the courts, which acts upon the request of the debtor, creditor, to challenge a legal action of its debtor taken to the detriment of the insolvency administrator or shareholders holding at least 30% of creditors. the debtor’s shares. Legal transactions and other actions entered into or taken before the opening of the insolvency proceedings that interfere with the 3.5 How are creditors and/or shareholders able to equal settlement of insolvency creditors or that damage creditors, as influence each restructuring process? Are there any well as transactions and actions which put some creditors in a more restrictions on the action that they can take (including favourable position over others, may be contested by the insolvency the enforcement of security)? Can they be crammed administrator, on behalf of the debtor and the creditors. down? Additionally, legal transactions and other actions of the insolvency debtor may be contested by the insolvency administrator or Creditors and shareholders may have significant influence on the insolvency creditors by filing a lawsuit. If the lawsuit is filed by the restructuring process. Moreover, creditors holding at least 30% of insolvency creditor, it is to be filed against both insolvency creditors the claims and shareholders holding at least 30% of the debtor’s and another party involved into transaction. On the other side, if a shares may submit a reorganisation plan. All insolvency creditors lawsuit is filed by the insolvency administrator, it may be filed only have a right to vote on the proposed reorganisation plan. To enter against another party involved in the transaction. into a restructuring process, a reorganisation plan must be adopted by at least 50% of all the creditors from each rank. A reorganisation plan may be submitted during the insolvency proceedings or 3 Restructuring Options simultaneously with a request for the opening of the insolvency proceedings; as explained in question 4.4, all enforcement proceedings must be suspended. 3.1 Is it possible to implement an informal work-out in your jurisdiction? 3.6 What impact does each restructuring procedure have As described in question 1.2, Serbian law allows informal work- on existing contracts? Are the parties obliged to outs. perform outstanding obligations? Will termination and set-off provisions be upheld?

3.2 What formal rescue procedures are available in your The reorganisation plan should include a detailed list of all the jurisdiction to restructure the liabilities of distressed company’s debts and a list of measures which will be implemented companies? Are debt-for-equity swaps and pre- packaged sales possible? to conduct a reorganisation successfully. Among other measures, it is possible to determine termination and amendments of the existing agreements. In this regard, if the reorganisation plan prescribes that Formal restructuring is to be effected through a reorganisation plan. the agreement will be amended, both parties of such agreement will Reorganisation plans may be submitted within 90 days as of the be obliged to fulfil their obligation. Conversely, if the agreement is day of initiation of insolvency proceedings. Additionally, the debtor terminated, the reorganisation plan should include the mechanism may submit a pre-packaged reorganisation plan simultaneously with of settlement of the creditor’s claims arising from the terminated a request for the opening of the insolvency proceedings. Debt-for- agreement. equity swaps are possible as one of the measures to accomplish an reorganisation plan. Debt-for-equity swaps are possible in informal work-outs as well. 3.7 How is each restructuring process funded? Is any protection given to rescue financing?

3.3 What are the criteria for entry into each restructuring procedure? The Insolvency Act stipulates that the costs of preparing and filing a reorganisation plan are to be borne by the entity who submitted it. On the other hand, costs arising from the reorganisation proceeding The Insolvency Act prescribes multiple conditions which must be should be anticipated in the reorganisation plan and covered in fulfilled to enter into reorganisation on the basis of the reorganisation

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accordance with the plan. There are no specific protections given administrator’s estimate on the possibility of reorganisation of the to rescue financing, but if the reorganisation plan fails, insolvency debtor. If, at first hearing, the creditors who hold 70% or more of the proceedings will be initiated. value of all claims decide to proceed to the insolvency immediately, the judge will render a decision on the insolvency. Additionally, the creditors’ assembly elects the members of the creditor’s board, which 4 Insolvency Procedures actively participate in supervision of the proceedings. The creditors’ board is authorised to submit a complaint against the insolvency administrator and appeal against the insolvency court decision, 4.1 What is/are the key insolvency procedure(s) available to wind up a company? propose the appointment of a new insolvency administrator and give

an opinion on the amount of the insolvency agent fee. However, Serbia According to the Insolvency Act, insolvency procedure is the only shareholders, security debtors and lien creditors are not allowed to procedure which allows the winding up of a company. In this be members of the creditors’ board. regard, creditors will be settled through the sale of all the debtor’s After the initiation of insolvency proceedings, it is prohibited to estate or the sale of the debtor as a legal entity. initiate enforcement proceedings against the insolvency debtor or its assets. Moreover, all existing enforcement proceedings will be suspended. 4.2 On what grounds can a company be placed into each winding up procedure? 4.5 What impact does each winding up procedure have on Insolvency proceedings may be initiated on the following basis: existing contracts? Are the parties obliged to perform outstanding obligations? Will termination and set-off (1) permanent insolvency (the debtor is unable to pay its debts provisions be upheld? within 45 days as of the day they become due or completely ceased all payments for a consecutive period of 30 days); After the initiation of insolvency proceedings, the insolvency (2) imminent insolvency (it is expected that the debtor will not be administrator, as a representative of the insolvency debtor, is able to pay its debts as they become due); authorised to decide whether existing mutually binding agreements (3) over-indebtedness (the liabilities of the debtor exceed its will be executed or not. If the insolvency administrator does not assets); and accept the fulfilment of the obligation arising from such agreements, (4) failure to comply with the adopted reorganisation plan or if the other party may pursue its claim as an insolvency creditor. the reorganisation plan was put into effect in a fraudulent or Conversely, if the insolvency administrator decides to execute unlawful manner. such agreements, any claims arising from these agreements will be considered a liability of the insolvency estate (please see question 4.3 Who manages each winding up process? Is there any 4.6). If an obligation, arising from fixed agreement, is to be fulfilled court involvement? after the opening of insolvency, other parties are not allowed to demand execution of the agreement, but may demand compensation According to the Insolvency Act, insolvency proceedings are on the basis of the default, as an insolvency creditor. managed by the court determined by the territorial criteria of the debtor’s registered office, while insolvency actions are carried out 4.6 What is the ranking of claims in each procedure, by a judge. The insolvency judge is authorised to render a decision including the costs of the procedure? on the initiation of pre-insolvency proceedings, establish grounds for insolvency and render a decision on the opening of insolvency The Insolvency Act determines the absolute priority of the costs and proceedings, appoint and dismiss the insolvency administrator, liabilities of the insolvency estate, which includes proceedings costs, confirm the adoption of the reorganisation plan (if proposed) or note the fee of the insolvency administrator, obligations arising from that the plan has not been adopted, etc. Additionally, upon expiry mutually binding agreements, employees’ earnings arising after the of the deadline for filing creditors’ claims, the insolvency judge initiation of the insolvency proceedings, etc. After the settlement of will submit all received claims to the insolvency administrator. On these costs and liabilities, other creditors are to be settled according the other hand, after the initiation of insolvency proceedings, the to their rank. Insolvency creditors of lower rank can only be settled insolvency administrator will manage the business and represents after the settlement of higher ranked creditors. the insolvency debtor and it is obliged to take all necessary actions The rank of insolvency claims is as follows: to protect the debtor’s assets. (1) the first rank of claims is comprised of the unpaid net salaries of employees and former employees, in the amount of the 4.4 How are the creditors and/or shareholders able to yearly minimum wage for the year before the opening of influence each winding up process? Are there any insolvency with interest from the due date to the date of the restrictions on the action that they can take (including opening of insolvency proceedings and unpaid contributions the enforcement of security)? for pension and disability insurance for two years before the opening of insolvency, as well as claims arising from contracts with companies which subject matter are unpaid As well as the court and insolvency administrator, the creditors’ contributions for pension and disability insurance for two assembly and creditors’ board are the bodies which exist in years before the opening of insolvency; insolvency proceedings. The creditors’ assembly, which includes (2) the second rank is comprised of all public revenue claims all insolvency creditors regardless of the value of their claims, has that have become due over the last three months before the significant influence on the proceedings. The creditors’ assembly is opening of insolvency; to be established at the first creditors’ hearing, which is scheduled (3) the third rank is comprised of the claims of other insolvency by the court’s decision on opening insolvency proceedings. At creditors; and the first hearing, the creditors discuss the report on the economic (4) the fourth rank is comprised of all the claims that arose and financial situation of the insolvency debtor and the insolvency two years before the opening of insolvency proceedings in

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respect of loans and other legal actions that, in economic terms, correspond to approving loans, to the extent such loans 7 Cross-Border Issues were not secured, and that were approved to the insolvency debtor by persons affiliated with the insolvency debtor 7.1 Can companies incorporated elsewhere restructure (subordinated loans), except persons which are, within their or enter into insolvency proceedings in your regular activities, engaged in providing credits and loans. jurisdiction?

4.7 Is it possible for the company to be revived in the According to the Insolvency Act, Serbian courts are exclusively future? authorised to initiate, open and conduct insolvency proceedings

Serbia against an insolvency debtor whose centre of main interests is in After the court decision on the conclusion of the insolvency Serbia, even if it has its registered seat abroad. Additionally, even proceedings is final and binding, it will be delivered to the if the insolvency debtor’s centre of main interests is not in Serbia, Serbian Business Registry Agency, which is obliged to remove the Serbian courts will be authorised to conduct insolvency proceedings insolvency debtor from the registry. In this regard, it is not possible (secondary insolvency proceedings) if the insolvency debtor has to revive a company against which insolvency was declared. property in Serbia: (1) if there are grounds for insolvency, but in the country where the debtor has its centre of main interests, insolvency 5 Tax proceedings may not be conducted due to its law; (2) if under the law of the country where the insolvency debtor 5.1 Does a restructuring or insolvency procedure give has its centre of main interest, the insolvency proceedings rise to tax liabilities? applies only to property located therein; and (3) if a foreign court decision on opening of insolvency According to the Insolvency Act, as of the day of rendering a proceedings may not be recognised in Serbia. decision on the opening of the insolvency proceedings, all ongoing tax proceedings will be suspended. In this regard, tax administration 7.2 Is there scope for a restructuring or insolvency authorities must claim their receivables as insolvency creditors. process commenced elsewhere to be recognised in Claims of tax authorities which have become due over the last your jurisdiction? three months are categorised as second rank claims. All other tax authorities’ claims are categorised as third rank claims. The Insolvency Act prescribes conditions which must be fulfilled in If the insolvency proceedings result in the sale of the debtor as a legal order to recognise a restructuring or insolvency process commenced entity, such sale is a subject of the taxation. On the other side, the before a foreign competent authority. Foreign insolvency sale of the assets is subject to value-added tax or transfer property proceedings may be recognised if: tax, if the insolvency debtor is liable to pay such tax. The tax claims (1) it could be identified as a court or administrative process for will be settled from the funds obtained from the respective sale. collective settlement of creditors through reorganisation, insolvency or liquidation in a foreign country in accordance with foreign insolvency law, whereby the debtor’s property 6 Employees and business affairs are under control or supervision of the court or other competent authority; (2) a foreign representative who seeks recognition is a person 6.1 What is the effect of each restructuring or insolvency or body, including those temporarily appointed, entitled procedure on employees? to manage reorganisation, insolvency or liquidation over the debtor’s property and business affairs or to act as Initiation of the insolvency proceeding of a company or its representatives of a foreign process; restructuring may have varying influence on the employees. (3) the request for recognition contains a foreign enforceable Initiating insolvency proceedings is a legal ground for termination decision on opening proceedings and appointing a foreign of the employment agreement of the debtor’s employees. The representative, a foreign certificate issued by a court or insolvency administrator should decide whether the employment competent body which proves the existence of proceedings, will be terminated. In practice, employment agreements are usually and the appointment of representative, or any other evidence terminated due to the insolvency proceedings. However, if the that may prove the existence of proceedings and the employment agreements are terminated, the employees’ earnings are appointment of a representative; and not paid until the day of initiation of the insolvency proceedings, and (4) the request for recognition is filed with the competent court part of their claims will be ranked as first rank claims. Specifically, designated by the Insolvency Act. employees’ claims to the amount of the yearly minimum salary for the year before the initiation of the insolvency proceedings with 7.3 Do companies incorporated in your jurisdiction interest from the due date to the date of the initiation and unpaid restructure or enter into insolvency proceedings in pension and disability insurance contributions pension and disability other jurisdictions? Is this common practice? insurance for two years before the opening of insolvency, calculated using as a basis the minimum monthly contribution, will be paid as Serbian law allows foreign courts to conduct insolvency first rank claims. The rest of the employees’ claims will be ranked proceedings if the company is incorporated under the laws of as third rank claims. Serbia, but its centre of main activities is in a foreign country and if If the reorganisation plan is adopted, the termination of employment the foreign law determines the competence of its courts. However, may be determined in such a plan. In this event, employees will be there are currently no data regarding Serbian companies which entitled to statutory redundancy pay. However, if the employment were restructured or entered into insolvency proceedings in other agreement is not terminated, the reorganisation plan may determine jurisdictions. a reduction of the salaries.

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8 Groups 9 Reform

8.1 How are groups of companies treated on the 9.1 Are there any proposals for reform of the corporate insolvency of one or more members? Is there scope rescue and insolvency regime in your jurisdiction? for co-operation between officeholders? At the end of 2016, a draft of changes to the Insolvency Act was Serbian insolvency law treats each group member as a separate published. The primary aim of the proposed changes is to increase entity. In general, the insolvency of one group member does not the efficiency of insolvency proceedings, primarily to improve the

affect other members. In case of several or all group members’ position of secured creditors. However, since these amendments Serbia insolvency, each insolvency proceedings would be conducted were not listed on the agenda of the Serbian Government, it is independently. Co-operation between officeholder of insolvent unclear whether these amendments will be submitted to the National group member and officeholders of other members is not regulated Parliament for approval. under the Serbian law.

Miloš Velimirović Nevena Milošević SOG / Samardžić, Oreški & Grbović SOG / Samardžić, Oreški & Grbović Kapetan Misina 15 Kapetan Misina 15 Belgrade Belgrade Serbia Serbia

Tel: +381 11 328 2667 Tel: +381 11 328 2667 Email: [email protected] Email: [email protected] URL: www.sog.rs URL: www.sog.rs

Miloš Velimirović is a partner at SOG / Samardžić, Oreški & Grbović Prior to join SOG, Nevena Milošević was a Business Development focused on finance, banking & securities, corporate banking and Assistant at the European Consulting Group, where she worked on project financing. preparation of the projects regarding improvement of state institutions in Serbia and the region and harmonisation of Serbian domestic laws He is a Finance Specialist with the Project Implementation Unit at the with the EU acquis communautaire. World Bank and the member of the General Assembly of the Central Depository and Clearing House of the Republic of Serbia. Nevena obtained her LL.B. degree at the University of Belgrade, Faculty of Law. During her studies, she was a Research Editor of the Miloš combines an education in law, finance, and business, as well as Student Economic Law Review, where she has worked on preparation a background in commercial banking, as essential in providing clients of several editions of Review, including thematic editions dedicated with comprehensive advice mindful of both the legal and commercial to a comparative legal framework of the agricultural land acquisition. aspects of each project. She attended several conferences in Serbia and abroad, including He has participated in various financing, restructuring, and M&A British Conference of Undergraduate Research and Central European projects, and developed extensive experience in financial transactions Law Conference for Students. with both corporate clients and public entities. He holds an LL.M. degree from the Faculty of Law, University of Belgrade and also a Nevena is fluent in English, Serbian, Bosnian, Croatian and postgraduate diploma in Financial Strategy from the University of Montenegrin. Oxford, Said Business School. He is a Konrad Adenauer Stiftung alumnus and Marshall Memorial Fellow. Miloš is fluent in English, Bosnian, Croatian, Montenegrin, and Serbian, and has limited working proficiency in French and German.

SOG / Samardžić, Oreški & Grbović is a full-service business law firm providing our clients with the highest quality legal advice across a wide range of key areas of corporate law in South East Europe.

The firm is particularly noted for its legal expertise, high professional and ethical standards, attention to detail, and responsiveness.

SOG is comprised of a group of business lawyers and multidisciplinary experts, who have been educated at some of the world’s most prestigious universities, including graduates from Cambridge, Oxford, Georgetown, Chicago Booth School of Business, Frankfurt School of Finance & Management and Lumsa University.

In order to provide comprehensive services to our regional and international clients having business interests in multiple jurisdictions, we are one of the founders of an integrated regional alliance of law firms, named LEXcellence, covering the following jurisdictions: Bosnia & Herzegovina, Croatia, Macedonia, Montenegro, Serbia, and Slovenia.

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Singapore Ashok Kumar

BlackOak LLC Samuel Ng

In a judicial management, the court appoints a manager to take 1 Overview charge of the company’s affairs, mostly with a view to rehabilitating the company or selling the business as a going concern. Given the 1.1 Where would you place your jurisdiction on the ability to change the management, judicial managements are often spectrum of debtor to creditor-friendly jurisdictions? creditor-driven. In practice, judicial management is used somewhat sparingly, and often as a prelude to liquidation. According to the 2017 has been a year of major change for Singapore’s restructuring Report of the Insolvency Law Review Committee in 2013, 124 and insolvency regime. Amendments to the Singapore Companies companies applied for judicial management between 2001 and Act (coming into force on 23 May 2017) included the introduction 2010. Of the 105 cases reviewed, the court granted the judicial of provisions aimed at enhancing Singapore’s debt restructuring and management application in 27 cases. corporate rescue framework. Judicial management can be undertaken concurrently with the Amongst other things, the scheme of arrangement procedure scheme of arrangement, by having the scheme of arrangement form has been ‘supercharged’ with features (such as rescue financing, part of the judicial manager’s proposals to the creditor meeting. cramdown, and worldwide moratorium provisions) to make it more robust a tool in debtor-in-possession restructurings. 2 Key Issues to Consider When the With these amendments, Singapore’s restructuring and insolvency Company is in Financial Difficulties regime has struck a comfortable balance between facilitating corporate rehabilitation on the one hand, and safeguarding creditors’ interests on the other. 2.1 What duties and potential liabilities should the directors/managers have regard to when managing a company in financial difficulties? Is there a specific 1.2 Does the legislative framework in your jurisdiction point at which a company must enter a restructuring allow for informal work-outs, as well as formal or insolvency process? restructuring and insolvency proceedings, and are each of these used in practice? There is no bright line test for when a director must commence an insolvency or restructuring process. However, a refusal to do The legislative framework poses no obstacles to informal work-outs. so when said process is the only way to preserve the company’s As for formal restructuring, parties may choose between adopting interests might render the director liable under one of the headings a scheme of arrangement or using a judicial management process, below. Practically speaking, it is important to engage restructuring with the scheme of arrangement procedure being more popular. As professionals when early signs of distress are present. for insolvency processes, a company may be wound up voluntarily or by order of the court. Under the common law, directors owe a duty to act bona fide in the company’s best interests. Where the company is in a parlous A scheme of arrangement sanctioned by the court allows the financial state, the directors must take the unsecured creditors’ company to restructure its debt and equity without obtaining interests into consideration. If this duty is breached, the liquidator unanimous consent, which would otherwise usually be a significant may claim against the directors in the name of the company for impediment to a successful informal work-out. Schemes of losses resulting from the breach. arrangement are debtor-driven; they have become the preferred choice for formal restructuring, because they allow the debtor to As for statutory liabilities, section 339(3) of the Companies Act remain in possession of the company’s operations, as opposed to stipulates that a director is criminally liable if he is a knowing party giving control over to a court-appointed officer. The effectiveness to the contracting of a debt when he had no reasonable grounds of schemes of arrangement is evidenced in the Insolvency and Public to expect that the company would be able to repay the debt. The Trustees’ Office 2009 survey, where it was reported that of the 48 director may also be civilly liable to the company for losses incurred court-sanctioned schemes between 2002 and 2009, 77.1% remained if a prosecution is successfully brought against the director (s 339(3) live as at that date (Insolvency and Public Trustee’s Office, report read with s 340(2)). dated December 2009). Section 340(1) of the Companies Act stipulates that a director who is knowingly a party to carrying on a business with the intent to defraud creditors shall be civilly liable for any losses incurred.

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2.2 Which other stakeholders may influence the 3 Restructuring Options company’s situation? Are there any restrictions on the action that they can take against the company? 3.1 Is it possible to implement an informal work-out in your jurisdiction? A variety of stakeholders may influence the company’s situation. For example, secured creditors may appoint a receiver. This remedy Yes, this is possible in Singapore. is not precluded by the liquidation moratorium, but is precluded by the judicial management and scheme of arrangement moratoria. That said, a holder of a floating charge with the right to appoint a 3.2 What formal rescue procedures are available in your jurisdiction to restructure the liabilities of distressed

receiver and manager over substantially the whole of the company’s Singapore companies? Are debt-for-equity swaps and pre- undertaking may veto a judicial management order at the hearing of packaged sales possible? the application. Under the recently amended legislation, however, this will still be subject to the court’s determination of the relative In a scheme of arrangement, creditors have to be properly classified. prejudice to parties. In order for the scheme to be sanctioned, the scheme must have Although unsecured creditor claims are caught by the moratoria the approval of a majority of the creditors in number in each class, in all formal insolvency procedures, these creditors, such as trade holding three-quarters of the total value of debt in that class. The creditors, sometimes assert indirect pressure to compel payment, company retains control over the restructuring. Under the 2017 e.g. withholding crucial supplies unless payment is made. legislative amendments, the court has powers to vary the majority Depending on the circumstances, such payments may contravene in number requirement and cram down on dissenting classes the avoidance provisions in the Companies Act, or the pari passu of creditors. Amongst other things, provisions have also been rule of distribution. introduced to facilitate rescue financing. This is dealt with in more detail at question 9.1 below. 2.3 In what circumstances are transactions entered Debt-equity swaps may also be achieved via a scheme of arrangement into by a company in financial difficulties at risk of that involves both shareholders and creditors. Pursuant to the 2017 challenge? What remedies are available? legislative amendments, the scheme of arrangement regime has been enhanced to provide for pre-packaged sales. Section 211I of In winding up, the liquidator may apply to have the following the Companies Act permits the court to approve a scheme without transactions avoided: convening creditor meetings, thereby significantly shortening the ■ actions that unfairly prefer specific creditors; timeline for formal restructurings. ■ transactions at an undervalue; On the other hand, the judicial management process involves the ■ charges not registered within the stipulated time; court appointment of a judicial manager, who makes proposals to ■ floating charges for which consideration has not been given; revive the company, or sell it as a going concern. These proposals must be approved by the majority in number and value of the ■ dispositions of property after the commencement of winding up; and creditors, and by the court. ■ credit transactions on extortionate or grossly unfair terms. Apart from the avoidance regime, certain common law rules are also 3.3 What are the criteria for entry into each restructuring procedure? relevant: ■ the anti-deprivation rule, which may apply to avoid A company may apply to court for leave to summon and convene arrangements that deprive the company of its assets upon the onset of insolvency, e.g. priority flip clauses; and a meeting to propose and approve a scheme of arrangement. The company must make full and frank disclosure of the relevant ■ the pari passu rule, which may apply to avoid arrangements that detract from a rateable distribution of the company’s facts (for, e.g., the proposal that the company intends to make to assets to all its unsecured creditors, e.g. direct payment the creditors and information about the liabilities of the company) clauses. in order for the court to determine if the proposal has a viable possibility of being accepted. The most common remedy involves avoiding the transaction. Where third parties are involved, they may be compelled to return With regard to judicial management, the company may make an property or money if they had notice of the relevant breach. application to court if the company is insolvent, and the court is satisfied that the judicial management is likely to achieve oneof If there is an after-acquired property clause, the proceeds of unfair the following: preference and undervalue transaction actions go to the pool of assets to be distributed to the unsecured creditors. Where other ■ rehabilitating the company; avoidance provisions are concerned, the proceeds of the action go to ■ preserving all or part of its business as a going concern; or the floating charge holder in whose favour the clause is implemented. ■ the interests of creditors would be better served than by The powers of a liquidator in winding up in relation to avoiding resorting to a winding up. transactions at an undervalue and those constituting unfair preferences are likewise available to a judicial manager in judicial 3.4 Who manages each process? Is there any court management. The court has the discretion to apply the rest of the involvement? avoidance provisions, and is likely to do so when this fulfils the objectives of the judicial management. The pari passu and anti- The administration of a scheme of arrangement is done by a scheme deprivation rules do not apply in judicial management. manager appointed either by the company or the court. That said, the process is still largely debtor-driven. Two court hearings are required. At the first hearing, the judge must consider whether

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to order the creditor meetings, and give provisional approval of a proposed classification of creditors. The scheme manager must then 3.6 What impact does each restructuring procedure have put the scheme to the creditor meetings for the requisite approval. on existing contracts? Are the parties obliged to perform outstanding obligations? Will termination and Thereafter, the scheme is subject to final court approval at the set-off provisions be upheld? second hearing.

The court is involved in approving the application for judicial In both a judicial management and a scheme of arrangement, the management, and appointing the judicial manager. In practice, moratorium prevents creditors from suing the company for failing to the court will take the applicant’s nomination into consideration. perform its outstanding obligations (see question 3.5). In this way, Thereafter, the judicial manager takes charge of the company and it affects existing contracts by preventing creditors from taking legal the judicial management process. The manager also formulates the action against the company based on the contractual obligations Singapore proposals to be presented at the creditor meetings. owed to them by the company. The commencement of restructuring procedures does not affect 3.5 How are creditors and/or shareholders able to existing contractual rights such as the right to terminate the contract. influence each restructuring process? Are there any However, certain contracts may confer the right to terminate upon restrictions on the action that they can take (including the commencement of a restructuring procedure. The scheme of the enforcement of security)? Can they be crammed arrangement may affect such right to set-off or terminate, depending down? on the precise terms of the scheme. As regards the scheme of arrangement procedure, the company may apply for a moratorium even before the ordering of the meeting of 3.7 How is each restructuring process funded? Is any creditors, and the court may grant this application at its discretion. protection given to rescue financing? Under the 2017 legislative amendments, the moratorium lasts an automatic period of 30 days after the application is made, or on the Generally, the company must bear the costs of the restructuring date the court decides the application, whichever is earlier. This process. In judicial management, any fees or debts incurred by the interim moratorium prevents creditors from enforcing securities or judicial manager is to be charged on and paid out of the company’s quasi-securities, commencing legal process against the company, property. In the scheme of arrangement, the company appoints and or invoking the self-help remedy of distress. The company may pays the scheme manager as well. apply to have this moratorium extended to related companies, The 2017 amendments to the Singapore debt restructuring regime and/or to have the moratorium applied to creditors worldwide. allows companies to obtain ‘debtor in possession’ priority funding This worldwide moratorium is an important feature of the recent in a scheme of arrangement. The court is now able to give ‘super- amendments to the Companies Act that ‘supercharges’ schemes of priority’ to rescue financing over all other debts, or even order that arrangement. such rescue financing be secured by a security interest that itself has The scheme of arrangement procedure is inherently a cramdown priority over other pre-existing security interest, subject to the latter mechanism. It disregards the wishes of dissenting creditors so being already adequately protected. long as a majority of creditors holding three-quarters of the total debt value vote in favour of the scheme by the requisite amount. The 2017 legislative amendments have made it such that a single 4 Insolvency Procedures dissenting minority class will be less likely to frustrate the scheme process, by permitting the court to approve of a scheme despite 4.1 What is/are the key insolvency procedure(s) available the dissenting class, so long as an overall majority in number of to wind up a company? creditors with three-quarters in value of the total debt vote in favour of the scheme. In doing so, however, the court must be convinced There are three: that such dissenting class is not unfairly prejudiced by the scheme. (1) members’ voluntary liquidation; In a judicial management, the judicial manager’s proposals must (2) creditors’ voluntary liquidation; and be approved by a majority of the creditors. Shareholders are not (3) compulsory voluntary liquidation. involved in judicial management. However, the shareholders may apply to the court for appropriate relief in the event that the judicial manager treats them in an unfairly prejudicial manner. In a scheme 4.2 On what grounds can a company be placed into each of arrangement, whether the creditors/shareholders are involved winding up procedure? depends on whether the scheme involves debt or equity. An interim moratorium takes effect automatically upon the Members’ voluntary liquidation application for judicial management. This interim moratorium The directors must provide a declaration of solvency to the effect prevents creditors from enforcing securities or quasi-securities, that the company will be able to pay its debts in full within a period commencing legal process against the company, or invoking the not exceeding 12 months after the commencement of the winding self-help remedies of distress. The moratorium ceases upon the up. The general meeting must also resolve to wind up by special granting/dismissal of the application, and is replaced by a permanent resolution. one if the application is granted. The scope of the permanent Creditors’ voluntary liquidation moratorium is similar to the interim moratorium, but also prevents Where the directors are unable to provide a declaration of solvency, creditors from invoking the right to appoint a receiver, or the right the company must proceed by way of creditors’ voluntary to re-entry/forfeit a lease. liquidation. Where the company proceeds by way of members’ voluntary liquidation, but the liquidator later forms the opinion that the company is insolvent, the process must be converted to a creditors’ voluntary liquidation.

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Compulsory voluntary liquidation 4.5 What impact does each winding up procedure have on Creditors or the company may apply to have the company wound up existing contracts? Are the parties obliged to perform by the court on any of the grounds in section 253 of the Companies outstanding obligations? Will termination and set-off Act. The most commonly invoked ground is the insolvency of the provisions be upheld? company (gauged on a cash flow test or balance sheet test). The commencement of winding up per se does not affect pre- 4.3 Who manages each winding up process? Is there any insolvency rights and liabilities, with the exception of insolvency court involvement? set-off. Upon the winding up order, mutual credits and debits between the company and creditor will automatically be set off. In every type of winding up, the liquidator conducts the process. The rights underlying each claim will be merged, and the creditor Singapore However, the degree to which the court is involved differs. may prove for the balance amount. Insolvency set-off displaces any contractual rights to set-off. Members’ voluntary liquidation Where the liquidator incurs liabilities on pre-insolvency contracts In the members’ voluntary liquidation, the directors must appoint a for the benefit of the insolvent estate, these liabilities rank as provisional liquidator immediately after the declaration of solvency liquidation expenses. On the other hand, the liquidator also has the is made. The provisional liquidator manages the winding up process power to unilaterally disclaim onerous pre-insolvency contracts. until a permanent liquidator is appointed by the general meeting. The creditor may claim for the loss caused by the disclaimer in The liquidator operates with less court oversight in a members’ liquidation. This loss is calculated as damages normally would be voluntary winding. Most significantly, the liquidator may exercise for a breach of contract. certain powers with the approval of the general meeting, where the exercise of such powers would require court or creditor approval in Apart from disclaiming onerous contracts, the liquidator can simply other types of winding up. decline to perform contracts that are not in the best interests of the insolvent estate. If the creditor has a claim for non-performance, the Creditors’ voluntary liquidation creditor may prove for the sums due him in winding up. He cannot In the creditors’ voluntary winding up, both the company and commence legal action due to the moratorium. creditors nominate the liquidator, although the creditors’ choice will prevail. Many of the liquidator’s powers may only be exercised with court or creditor approval. 4.6 What is the ranking of claims in each procedure, including the costs of the procedure? Compulsory voluntary liquidation In the compulsory winding up, the applicant usually appoints the The ranking of claims in liquidation is broadly as follows: liquidator. If no liquidator is appointed, the court may appoint (1) secured creditors and quasi-security holders; the liquidator. If the court declines to appoint the liquidator, the (2) super priority for rescue financing if any, pursuant to the Official Receiver functions as the default liquidator. Many of the recent legislative amendments; liquidator’s powers may only be exercised with court or creditor approval. (3) preferential debts pursuant to section 328(1) of the Companies Act, which consists of: ■ liquidation expenses; 4.4 How are the creditors and/or shareholders able to ■ wages and salaries; influence each winding up process? Are there any restrictions on the action that they can take (including ■ ex gratia and retrenchment benefits; the enforcement of security)? ■ compensation under the Work Injury Compensation Act; ■ Central Provident Fund contributions; In the members’ voluntary winding up, the unsecured creditors may ■ remuneration in respect of vacation leave; and prove in the winding up, and are entitled to a rateable distribution ■ Goods and Services Tax. of the company’s assets. Upon the application for winding up, the company may apply for an interim moratorium, which prevents (4) floating charge holders; unsecured creditors from commencing legal proceedings to recover (5) unsecured creditors; their debts. When the winding up order is granted, this moratorium (6) deferred creditors pursuant to section 250(1)(g) of the automatically takes effect. The shareholders are involved in Companies Act (unpaid declared dividends); and appointing the liquidator, and granting approval to the liquidator for (7) shareholders. the exercise of certain powers. The shareholders may also approve the continuance of the directors’ powers, and remove the liquidator. 4.7 Is it possible for the company to be revived in the In a creditors’ voluntary winding up or a compulsory winding future? up, the liquidator requires either the approval of the court, or the committee of inspection (nominated by the creditors) to exercise A winding up cannot be undone; the only way a company being some of his or her powers. The shareholders are not involved, apart wound up can be put back into its former state is by way of a court from possessing a residual claim on the company’s assets. order staying the winding up proceedings. Such a stay takes effect In any winding up process, secured creditors and quasi-security from the date of the pronouncement of the stay and is not backdated holders are not caught by the moratorium. Secured creditors may to the date of the compulsory winding up order or the date that enforce their security, while quasi-security holders may assert title voluntary winding up commences. The stay does not undo the to property in the company’s possession. actions of the liquidator but operates only to halt the proceedings and thenceforth to permit the officers of the company to continue in control.

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insolvent company’s main interests, or the insolvent company’s 5 Tax establishment. Where the Model Law does not apply, the common law position 5.1 Does a restructuring or insolvency procedure give continues to be of relevance. In this regard, even before the formal rise to tax liabilities? adoption of the Model Law, the Singapore court has been taking an internationalist approach towards cross-border issues. In Re The various steps undertaken during restructuring or insolvency Opti-Medix Ltd (in liquidation) and another matter [2016] SGHC procedures in Singapore will need to be analysed in order to 108, the Singapore court recognised the appointment of a foreign determine the tax implications for the company. Factors such as the liquidator from a jurisdiction other than the place of incorporation nature of the debt (e.g. trade or non-trade) may be relevant. of the company, accepting the centre of main interest as a basis for

Singapore recognition. In Re Gulf Pacific Shipping Ltd (in creditors’ voluntary liquidation) and others [2016] SGHC 287, the Singapore court 6 Employees recognised liquidators appointed in a foreign voluntary liquidation, finding that there ought not be a distinction between voluntary and 6.1 What is the effect of each restructuring or insolvency compulsory liquidations. procedure on employees? Where a foreign insolvent company is of the type stipulated in section 377(14) of the Companies Act, its assets in Singapore may be “ring- Winding up fenced”. This means that said company’s assets in Singapore must If the insolvent company owes the employee any outstanding wages, be applied to discharge liabilities owed to Singaporean creditors, Central Provident Fund contributions, or sums in lieu of vacation before they can be remitted to the foreign liquidator. leave, these are preferential debts for which the employee may As for restructuring processes, such processes that fall within the prove for in liquidation, subject to a cap on the preferential debt. definition of “foreign proceedings” pursuant to Article 2 ofthe Judicial management Model Law would be subject to the same test applied to insolvency processes. Paragraph 74 of the Model Law Explanatory Note The commencement of judicial management has no effect on confirms that “foreign proceedings” is broad enough to encapsulate employment contracts. However, the judicial manager has the debtor-in-possession type arrangements. Where the Model Law discretion to retrench employees if this would further the purposes does not apply, the usual principles applicable to the recognition of of judicial management. If the judicial manager decides to retain foreign judgments come into play. employees, he or she risks assuming personal liability for adopting any employment contracts. Thus, judicial managers tend to disclaim personal liability at the outset. 7.3 Do companies incorporated in your jurisdiction restructure or enter into insolvency proceedings in Scheme of arrangement other jurisdictions? Is this common practice? Whether a scheme of arrangement affects the employees depends on its precise content. If downsizing were part of the scheme, some It is possible for companies incorporated in Singapore to pursue employees would likely be made redundant. Where the scheme insolvency proceedings in jurisdictions where it has assets. The is purely concerned with debt and equity restructuring, this would Model Law provides that insolvency officeholders are authorised to likely not affect employees. represent Singapore insolvency proceedings in foreign states.

7 Cross-Border Issues 8 Groups

7.1 Can companies incorporated elsewhere restructure 8.1 How are groups of companies treated on the or enter into insolvency proceedings in your insolvency of one or more members? Is there scope jurisdiction? for co-operation between officeholders?

Foreign companies can be wound up in Singapore if they bear a Companies are treated as separate legal entities. Therefore, the sufficient connection with Singapore. This may be the case if the creditors of an insolvent company cannot make claims against foreign company has assets in Singapore. other solvent members of the group. The creditors may “pierce A scheme of arrangement may be ordered with respect to foreign the corporate veil” to treat the companies in question as a single companies, subject to the sufficient connection test. corporate entity. The grounds for doing so are narrow, and typically The recent legislative amendments have extended judicial involve the insolvent company being a sham or façade for the other managements to foreign companies, subject to the sufficient solvent companies. connection test. It is not uncommon for the insolvency of related companies to be deemed as an event of default. Thus, the insolvency of one company within the group could potentially trigger the group’s insolvency in 7.2 Is there scope for a restructuring or insolvency process commenced elsewhere to be recognised in a series of cross-defaults. your jurisdiction? Where multiple companies within a group enter into liquidation or an insolvency process, there is some scope for coordination Singapore has adopted the UNCITRAL Model Law in the recent between officeholders, but only on an informal basis. Pursuant to legislative amendments. The Model Law stipulates that foreign the recent legislative amendments, a judicial manager may apply for winding up proceedings will be recognised in Singapore if the a moratorium on actions brought against a company related to the appropriate representative makes the application, and the foreign company in judicial management. state in which proceedings are carried out is the centre of the

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The above reforms were a fast-tracked section of a broader set of 9 Reform reforms to be enacted in an omnibus Insolvency Act. The bill has not yet been publicly circulated, but will likely include: 9.1 Are there any proposals for reform of the corporate ■ provisions for the invocation of the Singapore court’s rescue and insolvency regime in your jurisdiction? jurisdiction over foreign corporate debtors; ■ applications for injunctions which have in personam Recent legislative amendments have provided for: worldwide effect; ■ expanded moratoria for judicial management and schemes of ■ provisions on the disclosure of information required; and arrangement; ■ provisions for the consolidation of related insolvency and ■ super priority of rescue financing in judicial management and restructuring proceedings before the same judge. schemes of arrangement; Singapore ■ cramdown and pre-packaged arrangement provisions for Acknowledgment schemes of arrangement; and The authors would like to thank Aaron Loh, Ho May Kee, and ■ the adoption of the UNCITRAL Model Law for cross-border Cynthia Andriana from Transaction Advisory Services of Ernst and insolvency. Young Solutions Singapore for their assistance with the tax section of this chapter.

Ashok Kumar Samuel Ng BlackOak LLC BlackOak LLC 1 Raffles Quay 1 Raffles Quay North Tower, Level 25 North Tower, Level 25 Singapore 048583 Singapore 048583

Tel: +65 6521 6750 Tel: +65 6521 6750 Email: [email protected] Email: [email protected] URL: www.blackoak-llc.com URL: www.blackoak-llc.com

A lawyer with more than 20 years of experience, Ashok’s core Samuel works closely with leading practitioners and international practice is in corporate restructuring and insolvency (“CRI”). He counsel in both contentious and non-contentious aspects of the has been consistently ranked as leading lawyer in this practice area distress practice, frequently acting for companies, creditors, financial in Chambers Asia Pacific, IFLR1000, The Legal 500 Asia Pacific, institutions, banks, white knights and/or insolvency professionals, in AsiaLaw Profiles, and Best Lawyers. Ashok handles both contentious domestic as well as cross-border insolvencies and restructurings, both and non-contentious aspects of CRI practice both domestically and in and out of court. internationally. Samuel graduated amongst the top of his class from the Singapore Ashok sits on the Law Reform Committee of the Singapore Academy Management University where he was an inaugural recipient of the of Law, the Insolvency Practice Committee of the Law Society of Kwa Geok Choo Undergraduate Scholarship and was placed on the Singapore, and the INSOL Jakarta Membership Committee. He is Dean’s List yearly, winning a slew of top as well as law subject prizes a Director of the Insolvency Practitioners Association of Singapore along the way. He was also ranked in the top few positions in the and is also a Director of the Turnaround Management Association, Singapore Bar Examinations for his year. Singapore Charter. Apart from legal practice, Samuel is an adjunct faculty member at the Singapore Management University School of Law, teaching business law and company law. Samuel is also an appointed facilitator for the Insolvency Law and Practice module of the Preparatory Course leading to Part B of the Singapore Bar Examinations.

BlackOak is Singapore’s only dedicated distress and special situations legal practice, formed to meet the challenges of a changing financial landscape. With capabilities in both corporate transactional work and dispute resolution, the team transits seamlessly from boardroom to courtroom, representing a gamut of stakeholders including insolvency professionals, debtors, creditors, funds, and white knights.

The BlackOak team works closely alongside other industry professionals to provide business-driven and context-specific legal solutions in complex commercial situations, and has been pushing new frontiers in almost every headline distress deal or transaction in the recent years, especially in the shipping and resources industries. Within the distress space, the team is known for its involvement in high-profile cases such as the judicial management of Swiber Holdings, the restructuring of Jurong Aromatics Corporation, the restructuring of PT Bumi Resources Tbk, the liquidation of Lehman Brothers, the restructuring of Altus Shipping, and the restructuring of PT Asmin Koalindo Tuhup.

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South Africa

Knowles Husain Lindsay Inc Ian Lindsay

1 Overview 2 Key Issues to Consider When the Company is in Financial Difficulties 1.1 Where would you place your jurisdiction on the spectrum of debtor to creditor-friendly jurisdictions? 2.1 What duties and potential liabilities should the directors/managers have regard to when managing a South Africa is somewhere in the middle to lower end of the company in financial difficulties? Is there a specific spectrum. Although it has an independent and functioning point at which a company must enter a restructuring judiciary, there are no specialised bankruptcy courts and a number or insolvency process? of judges do not have commercial or insolvency law experience. An independent regulator in theory plays an oversight role but does Directors of a company can be held liable for the fraudulent conduct not fulfil a sufficient role in practice. Liquidators generally come of business where any business of the company was or is being from recognised professions and liquidations follow recognised carried on recklessly or with intent to defraud creditors or for any transparent rules. The relatively new Companies Act, 71 of 2008 fraudulent purpose. A court can declare that any person who was (“the New Act”) came into effect on 1 May 2011 and replaced knowingly a party to the carrying on of the business in fraudulent or the Companies Act, 61 of 1973 (“the Old Act”). The provisions reckless circumstances shall be personally responsible, without any of Chapter 6 of the New Act introduced a business rescue process limitation of liability, for all or any of the debts or other liabilities of aimed specifically at the rescue of a business of a company under the the company as the court may direct. Further, the reckless trading guidance of an independent business rescue practitioner. of a company is considered a criminal offence. There is no specific point at which a company must enter a restructuring or insolvency process, but not doing so when the 1.2 Does the legislative framework in your jurisdiction allow for informal work-outs, as well as formal company is in financial difficulties may lead to both civil and restructuring and insolvency proceedings, and are criminal action. Business rescue proceedings are aimed at each of these used in practice? facilitating the rehabilitation of a company that is financially distressed. A company is considered to be financially distressed The South African legislative framework allows for both informal when it appears to be reasonably unlikely that the company will workouts and formal restructuring and insolvency procedures. be able to pay all of its debts as and when they become due and Informal workouts would be governed to a large extent by the payable within the immediately ensuing six months, or it appears to common law and require agreement of all the creditors insofar as all be reasonably likely that the company will become insolvent within the creditors’ rights might be affected. Insofar as a workout impacts the immediately ensuing six months. on only one creditor’s rights, agreement will be required from Business rescue proceedings are designed for companies where there that creditor alone; likewise with shareholders and management. remains a possibility that the company will be able to be rescued The parties can agree to the holding off of demand for payment, and become solvent again, or, if it is not possible for the company the deferral of amounts due, the waiving of interest for a certain to so continue in existence, result in a better return for creditors period, the granting of a loan to the debtor or whatever is considered and shareholders than a liquidation. Once a company’s liabilities appropriate in the particular circumstances. exceed its assets, and it appears that there is no reasonable prospect Formal workouts are governed by the New Act either in the form of of rescuing the company, then the company should be wound up. business rescue or of a compromise process set out in the New Act. These forms of workout are increasingly used in practice. Company 2.2 Which other stakeholders may influence the insolvency proceedings follow a process governed by the Old Act company’s situation? Are there any restrictions on the (incorporated insofar as liquidation proceedings are concerned action that they can take against the company? by reference in the New Act). These proceedings too are used in practice. Business rescue proceedings can be initiated by a company resolution if the board has grounds to believe that the company is financially distressed and that there appears to be a reasonable prospect of rescuing the company. Alternatively, an affected person may apply to court at any time for an order placing the company

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under supervision and commencing business rescue proceedings. than 75% of the creditors’ voting interests and of that proportion An affected person includes a shareholder or creditor of the must include at least 50% of independent creditors’ voting interests company, any registered trade union representing the employees of (viz. a creditor, including an employee, that is not related to the the company and if any of the employees of the company are not company, a director or the business rescue practitioner) and if it represented by a registered trade union, each of those employees. affects the rights of any class of holders of the company’s securities A company can be wound up either by an application to court by (shares, debentures, or other instruments), the majority of that class. a creditor or by a shareholder’s resolution which is filed with the The concept of a pre-packaged sale is not commonly used in South CIPC. Africa. However, it should be achievable. An order of court is not needed to sanction an adopted business rescue plan. In order to achieve a pre-pack it would be important, when a company is in 2.3 In what circumstances are transactions entered financial distress, to start negotiations early and to involve the major

into by a company in financial difficulties at risk of South Africa creditors to secure the pre-agreed 75% statutory vote. The terms of challenge? What remedies are available? a business rescue plan will then, providing that there is no creditor hostility and threats of liquidation, be finalised and be adopted Transactions entered into by a company in financial difficulties may shortly after the filing of the business rescue resolution. be set aside in the event of the company being wound up and being unable to pay its debts. The Insolvency Act makes provisions for the setting aside of various transaction such as dispositions without 3.3 What are the criteria for entry into each restructuring value, voidable preferences (being disposition of property within six procedure? months of the date of liquidation which had the effect of preferring one creditor over another), undue preference to creditors and The board of a company may resolve that the company voluntarily collusive dealings. begin business rescue proceedings and place the company under supervision if the board has reasonable grounds to believe that the A disposition by the company can be set aside by a court on company is financially distressed and that there appears to bea application by the liquidator or an interested party. reasonable prospect of rescuing the company. Alternatively, an affected person may apply to a court at any time for an order placing 3 Restructuring Options the company under supervision and commencing business rescue proceedings. The court may make an order placing the company under supervision and commencing business rescue proceedings if it 3.1 Is it possible to implement an informal work-out in is satisfied that the company is financially distressed, the company has your jurisdiction? failed to pay over any amount in terms of an obligation or in terms of a public regulation, or contract, with respect to employment-related It is possible to implement informal workouts in South Africa. matters or it is otherwise just and equitable to do so for financial Creditors may meet with, negotiate and attempt to conclude reasons, and there is a reasonable prospect for rescuing the company. agreements with the debtor company in order to restructure and/or compromise the company’s debt. Any such agreement would have 3.4 Who manages each process? Is there any court to be accepted by all creditors of the debtor company in order for it involvement? to be binding on all creditors. Insofar as the workout involves only a particular shareholder, creditor or set of employees, then agreement Either the board of the company can resolve that the company will have to be reached with the affected party or, in the case of voluntarily begin business rescue proceedings, or, alternatively, an employees, follow a strictly statutorily governed process. interested party can apply to court for an order commencing business rescue proceedings. Thereafter, a business rescue practitioner is 3.2 What formal rescue procedures are available in your appointed who has full management control of the company and is jurisdiction to restructure the liabilities of distressed responsible for the development of a business rescue plan. Directors companies? Are debt-for-equity swaps and pre- are not exonerated from their responsibilities and are answerable packaged sales possible? to the business rescue practitioner. Any action taken by a director whilst the company is in business rescue without the approval of the The formal rescue procedure which is available in South Africa to business rescue practitioner will be deemed to be void. restructure the liabilities of distressed companies is business rescue. Business rescue proceedings aim to facilitate the rehabilitation 3.5 How are creditors and/or shareholders able to influence of a company that is financially distressed by providing for the each restructuring process? Are there any restrictions temporary supervision of the company and the management of its on the action that they can take (including the affairs, business and property, a temporary moratorium on the rights enforcement of security)? Can they be crammed down? of claimants against the company or in respect of property in its possession and the development and implementation, if approved, Creditors are entitled to participate in the business rescue proceedings of a plan to rescue the company. It is also possible within a and each creditor has the right to vote to amend, approve or reject a liquidation process or outside that process (but not if a company is in proposed business rescue plan and if the proposed business rescue business rescue) for there to be an arrangement or a compromise of plan is rejected, a further right to propose the development of an a company’s financial obligations to all or any class of its creditors alternative plan or present an offer to acquire the interests of any or if this is supported by at least 75% in value of the creditors or all of the other creditors. class of creditors. Debt-for-equity swaps are allowed but would The creditors of a company are entitled to form a creditors’ require shareholders’ approval if this impacts on the rights of that committee, and through that committee are entitled to be consulted shareholder. This is most commonly effected through the medium by the practitioner during the development of the business rescue of a business rescue plan, which will require the support of more plan.

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The commencement of business rescue results in an immediate moratorium on any legal proceedings or enforcement action until 4.2 On what grounds can a company be placed into each such time as the business rescue plan is either successful or the winding up procedure? business rescue process fails. An insolvent company can be wound up by resolution and can be If the plan would alter the rights associated with the class of wound up by court when: securities held by that person, then the shareholders of a company are entitled to vote to approve or reject a proposed business rescue ■ the company has by special resolution resolved that it be plan. If the business rescue plan is rejected, they may propose the wound up by the court; development of an alternative plan or present an offer to acquire ■ the company commenced business before it is certified that it the interests of any or all of the creditors or other holders of the was entitled to commence business; company’s securities. A business rescue plan that is adopted is ■ the company has not commenced its business within a year South Africa binding on each of the creditors and every holder of the company’s from its incorporation, or has suspended its business for a securities. Thus cramming down takes place to that extent. whole year; ■ in the case of a public company, the number of members has been reduced below seven; 3.6 What impact does each restructuring procedure have ■ seventy-five per cent of the issued share capital ofthe on existing contracts? Are the parties obliged to company has been lost or has become useless for the business perform outstanding obligations? Will termination and set-off provisions be upheld? of the company; ■ the company is unable to pay its debts; Contracts concluded with the company remain extant during ■ in the case of an external company, that company is dissolved the duration of the business rescue proceedings. However the in the country in which it has been incorporated, or has practitioner may entirely, partially or conditionally suspend, for the ceased to carry on business or is carrying on business only for the purpose of winding up its affairs (an external company is duration of the business rescue proceedings, any obligation of the a foreign company carrying on business in South Africa and company that arises under an agreement to which the company was registered as a separate juristic entity in South Africa); and a party at the commencement of the business rescue proceedings ■ it appears to the court that it is just and equitable that the and would otherwise become due during those proceedings. The company should be wound up. practitioner may not suspend or cancel an employment contract. A party to an agreement that has been suspended or cancelled has a claim for damages against the company. 4.3 Who manages each winding up process? Is there any court involvement? A company is allowed, through the business rescue practitioner, to extricate itself, whether temporarily or permanently, from onerous contractual provisions that are preventing it, or may prevent it, from The winding up process is managed by a liquidator, under supervision becoming a successful concern. of the Master of the High Court. As soon as a winding up order has been made in relation to a company, or a special resolution for a voluntary winding up of a company has been registered, the Master 3.7 How is each restructuring process funded? Is any appoints a provisional liquidator. Generally, after the first meeting protection given to rescue financing? of creditors the final liquidator is appointed. Liquidators act on the directions of creditors, which are given at formal meetings. The business rescue process is financed by way of post- Alternatively, urgent directions can be obtained from court. commencement finance made available to a company after the commencement of the business rescue proceedings for the purpose of enabling the company to continue trading. The post- 4.4 How are the creditors and/or shareholders able to influence each winding up process? Are there any commencement finance provisions of the New Act makes specific restrictions on the action that they can take (including provision for employee entitlements (for the period after the the enforcement of security)? business rescue process has commenced) to also be treated as part of the post-commencement finance. Post-commencement finance Creditors are required to prove their claims against the company in ranks in preference to the claims of unsecured creditors. liquidation to enable them to vote. The liquidator may make various proposals and creditors have the right to vote on such submissions 4 Insolvency Procedures at meetings of creditors. Shareholders will generally have little say in the winding up process of an insolvent company. 4.1 What is/are the key insolvency procedure(s) available to wind up a company? As a rule, neither creditors nor shareholders can take enforcement action. The law regulating the winding up of a company is contained substantially in the Old Act. A company may be wound up 4.5 What impact does each winding up procedure have on voluntarily by way of resolution. Alternatively, a company may existing contracts? Are the parties obliged to perform be wound up compulsorily, by way of an application to court for outstanding obligations? Will termination and set-off a winding up order, made by the company, shareholder or creditor. provisions be upheld?

In general, contracts concluded with the company remain in effect when the company is placed into liquidation. The liquidator then has an election of whether or not he intends to continue with the implementation and execution of the contracts. Certain powers

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may need to be approved by the High Court on application by the liquidator. Post-liquidation termination and set-off clauses are 7 Cross-Border Issues unlikely to be upheld, save in the event of the liquidator electing to abide by a contract. 7.1 Can companies incorporated elsewhere restructure or enter into insolvency proceedings in your jurisdiction? 4.6 What is the ranking of claims in each procedure, including the costs of the procedure? South Africa has a statute, the Cross-Border Insolvency Act 42 of When a company is liquidated, the order of preference of claims is 2000 which acknowledges the need to create effective mechanisms as follows: for dealing with cases of cross-border insolvency in accordance with the provisions of the UNCITRAL Model Law. Although the

■ Liquidation costs. South Africa Act came into force on 28 November 2003, it is for all practical ■ Secured creditors. purposes not yet in operation since its operation is dependent upon ■ Preferent creditors. These are creditors who do not hold the designation of States to which the Act will apply. As yet, no security for their claims, but are ranked above concurrent States have been designated. The current position is thus that creditors. They are paid from the proceeds of unencumbered companies incorporated outside the jurisdiction of South Africa can assets in a statutorily pre-determined order. neither restructure nor enter into insolvency proceedings in South ■ Concurrent creditors. These creditors are paid from the Africa. The appointment of a foreign representative may be allowed remaining free residue of the estate. in terms of the common law. Any monies that are left over after all claims have been paid in full must be used to satisfy the interest on concurrent claims from 7.2 Is there scope for a restructuring or insolvency the date of liquidation to the date of payment, in proportion to the process commenced elsewhere to be recognised in amount of each concurrent claim. your jurisdiction?

4.7 Is it possible for the company to be revived in the If a court order is obtained in a foreign jurisdiction in regard to the future? restructuring or insolvency of a company, it is enforceable in South Africa insofar as it accords with the procedures applicable under Yes – on application to court to have the order set aside, and with the South African law for the enforcement of foreign judgments. consent of creditors, shareholders and the liquidator. 7.3 Do companies incorporated in your jurisdiction restructure or enter into insolvency proceedings in 5 Tax other jurisdictions? Is this common practice?

5.1 Does a restructuring or insolvency procedure give It is not common practice for a company incorporated in South rise to tax liabilities? Africa to restructure or enter into insolvency proceedings in other jurisdictions. If a company commences business rescue, such event alone does not give rise to income tax or other tax liability. If, however, in the course of such process a debt is discharged or reduced, this 8 Groups could give rise to capital gains. The mere fact that a debt has been suspended subsequent to the business rescue process does not give 8.1 How are groups of companies treated on the rise to any capital gains tax. insolvency of one or more members? Is there scope for co-operation between officeholders?

6 Employees Each subsidiary in a group of companies is considered a separate legal entity. If one company in a group of companies is placed into 6.1 What is the effect of each restructuring or insolvency business rescue or is wound up, it will be treated as an independent procedure on employees? entity. Insofar as there are inter-company loans, those companies will be considered creditors in the estate. Under business rescue, employees will remain employed by the company – a practitioner may not suspend or cancel an employment 9 Reform contract. Employee entitlements (for the period after the business rescue process has commenced) are to be treated as part of the post- commencement finance. 9.1 Are there any proposals for reform of the corporate Under insolvency procedures, employees’ contracts are immediately rescue and insolvency regime in your jurisdiction? suspended but a liquidator has the right to cancel the contracts. Employees’ claims in respect of salaries, wages and leave pay are There are no immediate proposals for reform of the corporate rescue ranked as preferent claims. and insolvency regime in South Africa.

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Ian Lindsay Knowles Husain Lindsay Inc 4th Floor, The Forum, 2 Maude Street Sandown, Sandton Johannesburg, 2196 South Africa

Tel: +27 11 669 6034 Email: [email protected] URL: www.khl.co.za

Ian Lindsay is one of South Africa’s most experienced corporate South Africa litigation attorneys, having a specific interest and specialist expertise in insolvency and restructuring law. Ian has in excess of 25 years’ experience. Ian is: ■■ a member of the South African Restructuring and Insolvency Practitioners Association (SARIPA); ■■ a member of INSOL International; ■■ the Honorary Secretary of the South African Branch of the International Law Association (SABILA); ■■ a member of the Association of Arbitrators; and ■■ a former committee member of the Johannesburg Attorneys’ Association. Qualifications ■■ B.A. LL.B. (University of the Witwatersrand).

Knowles Husain Lindsay Inc (“KHL”) is a dynamic firm of innovative and highly skilled lawyers that looks to bring a combination of creativity and sound technical advice to all our work while maintaining total integrity. We strive to understand our clients’ businesses so we can execute strategies that best benefit their businesses today and into the future. To support our legal skills, we have implemented world-class business practices and IT systems.

KHL has offices in the heart of Sandton, Johannesburg and in Cape Town. It is the only South African legal firm selected to be a member of the prestigious ALFA International network of global law firms. ALFA is the premier global network of independent law firms comprising 145 member firms spread across the globe. KHL is thus able to offer clients the benefit of a comprehensive network of exceptional law firms in Africa.

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Sweden Paula Röttorp

Hannes Snellman Attorneys Ltd Carolina Wahlby

in accordance with the Business Reorganisation Act. In case of a 1 Overview negotiated agreement being made during a formal restructuring, the administrator is generally involved. 1.1 Where would you place your jurisdiction on the spectrum of debtor to creditor-friendly jurisdictions? 2 Key Issues to Consider When the Sweden has elements of offering a debtor-friendly procedure – Company is in Financial Difficulties company restructuring – protecting over-indebted debtors from its creditors in order to recover the business. At the same time, 2.1 What duties and potential liabilities should the company restructurings cannot go on forever (a bit more than one directors/managers have regard to when managing a year is the maximum) and no write down of debt will occur unless a company in financial difficulties? Is there a specific qualified majority of creditors vote in favour of it. point at which a company must enter a restructuring or insolvency process? The second procedure – the bankruptcy processes – is a creditor- friendly procedure where the administrator shall strive to achieve the best possible outcome for the creditors. The board of a limited liability company is obliged to prepare a control balance sheet if the board members have reason to believe In general, when it comes to insolvency proceedings, we would that the net assets of the company are less than half of the share place Sweden on the more creditor-friendly end of the scale. capital or if an attempt of levy of execution (Sw. utmätning) has Please note that our answers below are only taking into account taken place without there being sufficient assets. debtors as limited liability companies and do not include the special Upon preparing the control balance sheet, the board must promptly provisions that apply for companies under the supervision of the summon an extraordinary general meeting (referred to as the first Swedish Financial Supervisory Authority. control general meeting) at which the shareholders shall decide whether to liquidate the company or not. If no liquidation decision 1.2 Does the legislative framework in your jurisdiction is made although the first control balance sheet showed that less than allow for informal work-outs, as well as formal half of the share capital was intact, a second control balance sheet restructuring and insolvency proceedings, and are must be prepared and a second control general meeting must be held each of these used in practice? within eight months from the first general meeting. Should the share capital then not be fully restored, the shareholders are obliged to The Business Reorganisation Act (Sw. lag (1996:764) om resolve to liquidate the company. Absent such decision, the board företagsrekonstruktion) provides for formal proceedings involving members are obliged to initiate the liquidation process themselves. a court, and is used in practice. The intention of the legislator Should the board fail to take any of the required measures in a timely has been that the reorganisation would be used at an early stage manner and incur further liabilities, the board members become of the financial difficulties, but in practice companies tend to then personally and jointly liable for all such liabilities incurred from the try to find solutions through informal out-of-court restructurings date they should have taken the relevant action until doing so. The while applying for a formal reorganisation procedure first when the same applies to any representative of the company or a shareholder difficulties are rather advanced. The reason for this is often to avoid of the company that is aware of the board’s failure and nonetheless the publicity that the formal reorganisation procedure entails. participates in incurring further liabilities. There is no legislative framework for informal out-of-court There is no obligation to enter any reorganisation proceeding or restructurings. However, informal debt write-downs and extensions to apply for bankruptcy. However, the board members should be involving only the main creditors are commonplace. Informal aware of the risk of becoming personally liable for tax payments elements may also occur within formal insolvency proceedings, as (see question 5.1 below). Further, not initiating an insolvency some creditors may be willing to accept a renegotiation of terms to proceeding may under certain circumstances have consequences. enable the company to continue as a going concern. For example, the Swedish Penal Act (Sw. brottsbalken) comprises If the parties involved in an informal work-out so agree, they certain criminal acts jointly referred to as crimes against creditors, can amend existing agreements between them. However, it will of which one is to continue to run a business, utilising thereby only bind the parties involved. To also bind non-consenting considerable means without a corresponding benefit to the company, parties, the company will have to initiate a formal reorganisation although the representatives of the company are aware that the

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company is insolvent or is in manifest danger of becoming insolvent. In addition thereto, the general provisions regarding liability for 3 Restructuring Options damages by negligence are stipulated by the Swedish Companies Act (Sw. aktiebolagslagen (2005:551)) will apply. 3.1 Is it possible to implement an informal work-out in your jurisdiction? 2.2 Which other stakeholders may influence the company’s situation? Are there any restrictions on the See question 1.2 above. action that they can take against the company?

3.2 What formal rescue procedures are available in your Counterparties, employees and creditors may try to influence the Sweden jurisdiction to restructure the liabilities of distressed company’s situation within the boundaries of their agreement with companies? Are debt-for-equity swaps and pre- the company. Once starting to suspect that the company may be in packaged sales possible? financial difficulties, most counterparties and creditors will start to investigate what actions they may take to limit their losses in case The key restructuring procedure is reorganisation in accordance with a formal insolvency procedure would follow. Counterparties and the Business Reorganisation Act. The purpose of such procedure creditors should in their interactions with the company be aware of is to give companies in financial difficulties a possibility to avoid the clawback risks (see question 2.3 below). bankruptcy, by for example providing protection from certain A creditor may try to collect a claim through the Swedish Enforcement enforcement actions from creditors, giving a grace period in respect Authority or apply for the debtor to be put in bankruptcy (or, very of payments of debts that had arisen before the reorganisation rarely, company restructuring). was initiated and possibly even allowing for a write-down of debt without the consent of all creditors (see question 3.5 below). During the reorganisation process, the management continues to 2.3 In what circumstances are transactions entered control the business and to run the daily operations of the relevant into by a company in financial difficulties at risk of company, and the board of directors have full capacity to represent challenge? What remedies are available? the company. However, an administrator is appointed by the court to supervise all activities. The company may not assume new legal Once in a formal reorganisation procedure (provided that it involves obligations, nor may it transfer, pledge or grant a third party any debt composition proceedings) or in a bankruptcy, an administrator rights to property which is of substantial importance to the business may seek to challenge transactions taken by the company prior to operations without the consent of the administrator. Furthermore, proceedings initiated by way of clawback, upon which a transaction the company is prohibited from paying, or granting security for, is recovered to the company or the bankruptcy estate. any debt that occurred prior to filing for company reorganisation Generally, a prerequisite for clawback is that the transaction has without the consent of the administrator. However, the absence of adversely affected the creditors and the purpose of a clawback is such consent does not affect the validity of the transaction. that the clawback shall return the financial position of the relevant As a main rule, a reorganisation may not continue for more than a company to as if the challenged transaction had not taken place. year. The time limits (the hardening periods) range from between three months to eternity, depending on the type of transaction, but Swedish law does not as such recognise a “pre-pack” as an transactions between related parties are generally easier to claw instrument. However, Swedish law does not explicitly prohibit back than transactions with third parties. entities from taking steps and measures prior to a bankruptcy, such as finding suitable buyers for assets, which can be implemented in The general clawback provision stipulates that any action whereby the bankruptcy. Which pre-pack measures may be taken must be a creditor is unduly put in a better position than other creditors, or decided on a case-by-case basis. assets of the debtor are being deprived from the creditors or the debts of the debtor are increasing, may be clawed back if the debtor Debt-for-equity swaps may be made both by shareholders and by was or, as a result (directly or indirectly) of the action, has become third parties if the shareholders approve of the equity issue. Third insolvent. However, this shall only apply if the counterparty knew, parties who acquire distressed debt may use it to gain an equity or should have known, about the debtor’s insolvency and the interest in the debtor. circumstances that made the action undue. It is assumed that related parties have such knowledge. 3.3 What are the criteria for entry into each restructuring Further, a payment of a debt which has been made prior to initiating procedure? a formal insolvency proceeding and which was made by other than ordinary means of payment, or prior to the due date or with such A prerequisite for entering into a reorganisation process pursuant amount that the financial situation of the debtor became considerably to the Business Reorganisation Act is that the company is worse, may be clawed back if the circumstances under which the incapable of paying its debts, or that such incapacity presumably payment was made do not make it an ordinary payment. will occur in the near future. Further, an application to enter into Other clawback provisions relate to, inter alia, gifts, salaries or a reorganisation shall be dismissed if there is no reason to expect other remunerations. Another example is that security that the that the reorganisation will be successful. In practice, courts often debtor has transferred within a hardening period is annulled unless it approve an application for reorganisation so that an administrator is was provided when the debt was created or was transferred without appointed and can investigate this further. delay after the creation of the debt. It is not a general requirement that the transaction was made with 3.4 Who manages each process? Is there any court actual intent to defraud creditors, and some clawback provisions involvement? can be applied even if the company was not insolvent or became insolvent as a result of the transaction but thereafter entered into A court approval is required in order to enter a reorganisation and company restructuring or bankruptcy. the court will also make the decision to terminate the reorganisation.

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As described in question 3.2, an administrator is appointed by the The state wage guarantee (see question 6.1 below) will provide some court to supervise the activities of the company. support, but a company is often dependent on contributions from its shareholders or external funding in order to be able to continue to run the business. 3.5 How are creditors and/or shareholders able to influence each restructuring process? Are there any restrictions Although not provided for by law, in practice an administrator takes on the action that they can take (including the control of the funds of the company by having them transferred enforcement of security)? Can they be crammed down? to an escrow account controlled by the administrator during the reorganisation. During the reorganisation, secured creditors may still enforce certain types of security. Other enforcement measures may only take place in respect of the debtor if there are special reasons to believe that 4 Insolvency Procedures Sweden the rights of a creditor are jeopardised. The court may then take appropriate measures to safeguard such rights. 4.1 What is/are the key insolvency procedure(s) available Upon request by a creditor, the court may appoint a creditors’ to wind up a company? committee who the administrator should consult with during the reorganisation. A creditors’ committee may consist of a maximum The key insolvency procedure is bankruptcy in accordance with of three creditors, and if the company has more than 25 employees, the Bankruptcy Act (Sw. konkurslag (1987:672)), providing for all it is entitled to appoint a fourth member. assets of the debtor to be fairly distributed to the creditors and for One common reason to apply for company restructuring is to the company to be subsequently dissolved. Further, the Companies achieve a debt write-down. Provided that a qualified majority has Act entails certain provisions regarding mandatory liquidation. approved thereof, all unsecured debt will be written down pro rata and the company shall be given a grace period of up to one year. A debt composition proposal, which yields at least 50 per cent of 4.2 On what grounds can a company be placed into each the amount of the unsecured debt, shall be deemed to be accepted winding up procedure? by the creditors, where three-fifths of the creditors voting have accepted the proposal and their claims amount to three-fifths of the A company can apply for bankruptcy voluntarily or be forced into total amount of claims held by the creditors entitled to vote. Where bankruptcy upon the application of a creditor, if the company is the debt composition percentage is lower, the debt composition considered insolvent. A company is considered insolvent if it cannot proposal shall be deemed to be accepted where three-fourths of pay its debts as they fall due and this incapacity is not temporary. A the creditors voting have approved the proposal and their claims statement by a company that it is insolvent is assumed to be correct, amount to three-fourths of the total amount of the claims held by the unless there are circumstances giving the court reason to believe that creditors entitled to vote. this is not the case. In case a creditor files for bankruptcy, it would have to provide 3.6 What impact does each restructuring procedure have evidence as to why the company would be insolvent or would on existing contracts? Are the parties obliged to have to rely on certain stipulated presumption rules. A creditor perform outstanding obligations? Will termination and cannot force a company into bankruptcy if its claim is protected by set-off provisions be upheld? sufficient security. A mandatory liquidation must be initiated, inter alia, when the A reorganisation provides protection to the company, as it prevents solidity is below the levels stipulated by the Companies Act (see counterparties from terminating agreements by sole reason of the question 2.1 above). company’s late payments or performance (or anticipated delays of such nature) if the company (with the consent of the administrator) upon request by the counterparty informs the counterparty that it 4.3 Who manages each winding up process? Is there any wishes the agreement to continue in force. A provision in a contract court involvement? that a party may be entitled to terminate the agreement due to the insolvency of the company may be unenforceable. An application for bankruptcy must be submitted to the district If the contract stipulates that it is time for the counterparty to perform court, which should then make a prompt decision on the matter. The its obligation under the contract, the counterparty may require that bankruptcy is managed by one or more administrators appointed by the company performs its obligations (e.g. pays) simultaneously, the court who have the special insight and experience required and or that the counterparty receives security for such performance. are otherwise appropriate for the assignment, and the work of the A counterparty may also in other situations be entitled to request administrator is supervised by the Swedish Enforcement Authority security if necessary, in order to protect it from making a loss. (Sw. kronofogdemyndigheten). Set-offs will be accepted, with a few exceptions. A set-off is not A liquidation will be administrated by a liquidator proposed by the permitted if the debt was acquired (from someone else not having company and approved by the court or the Companies Registration the right of set-off) within a three-month period starting from when Office (Sw. bolagsverket) (the former if the liquidation is a part of the reorganisation was initiated or if the creditor reasonably should a court proceeding). have known about the insolvency. 4.4 How are the creditors and/or shareholders able to 3.7 How is each restructuring process funded? Is any influence each winding up process? Are there any protection given to rescue financing? restrictions on the action that they can take (including the enforcement of security)? Most suppliers will start to require advance payments or payments upfront in order to deliver goods needed, wherefore the company During the reorganisation, secured creditors may still enforce will need cash at hand during the reorganisation. security if the creditor has the security assets in its possession, i.e.

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excluding, for example, business mortgages and security obtained best interests of the creditors; audit costs; and employees’ salaries through registration. and remunerations. Levy of execution (Sw. utmätning) may not take place in respect of Lastly, all other unsecured creditors will share the remaining funds the debtor other than if the creditor has priority rights in respect of (if any) pro rata between themselves and if all unsecured creditors its claims (see question 4.6 below). have been fully paid, the surplus will be paid to the shareholders.

4.5 What impact does each winding up procedure have on 4.7 Is it possible for the company to be revived in the existing contracts? Are the parties obliged to perform future? outstanding obligations? Will termination and set-off provisions be upheld? Sweden While the company is typically dissolved after its assets are liquidated, assets of the company, such as the brand name or The bankruptcy estate may choose to not honour existing business model, may be acquired for use in a new venture. If there agreements, and the counterparty will then have a claim on the is a surplus after a bankruptcy, the company itself must, however, company. However, there are no unified rules that apply to not be liquidated, but this is a rather unlikely scenario. the contracts of a company in bankruptcy. If there are specific provisions set out in any legal act, those will, however, override any clause in the agreement. Hence, all contracts will not automatically 5 Tax terminate and a clause stipulating that a counterparty may terminate the agreement due to the bankruptcy may be unenforceable. If not regulated by law, the terms of the contract will apply. 5.1 Does a restructuring or insolvency procedure give rise to tax liabilities? One law limiting the right to terminate an agreement is the Sales of Goods Act, but that provision is also invoked analogously in other Generally, a restructuring or insolvency procedure does not give contractual relationships. The creditor (or supplier or similar) may rise to any further tax liabilities, but the procedure may result in not terminate the agreement before giving the bankruptcy estate forfeiture of tax losses. However, taxable income may crystallise in the opportunity to step into the contract. If the estate decides to case of informal work-outs. do so and the performance by the creditor is due, the creditor may demand that the estate completes its performance as well or, under A failure to apply for a restructuring or insolvency procedure when certain circumstances, that the estate provides security if necessary a company becomes unable to pay all taxes in a due manner may in order to protect him against loss. If the estate does not step into result in the board members incurring personal liability for the tax the agreement or grant security in accordance with the aforesaid, the payments of the company. Hence, it is important that all taxes are creditor may terminate the agreement. duly paid. As regards set-offs, please see question 3.2 above. 6 Employees 4.6 What is the ranking of claims in each procedure, including the costs of the procedure? 6.1 What is the effect of each restructuring or insolvency procedure on employees? The Bankruptcy Act prioritises all costs of the bankruptcy procedure and debt arising after the time of bankruptcy. Any surplus thereafter A bankruptcy or reorganisation does not automatically cause the shall be distributed to the creditors in accordance with the Priority employments to be terminated. If a Swedish company is insolvent Rights Act (Sw. förmånsrättslag 1970:979). If, however, the and therefore unable to pay salaries due to its employees, the state creditor enforces a security on its own, which is possible for certain wage guarantee (Sw. lönegaranti) will be triggered. A prerequisite so-called possessory liens (see question 4.4 above), the costs of the for the guarantee to be applicable is that the company has been bankruptcy estate cannot be taken from such proceeds. declared bankrupt or is in a company reorganisation procedure and According to the Priority Rights Act, first debts secured by the total amount per employee that can be paid out corresponds to specific property are paid out of the proceeds of the sale ofthat four base income amounts (Sw. prisbasbelopp), which for 2017 adds specific property, including inter alia (in the order of priority as up to a total of SEK 179,200. All different categories of employees listed): maritime liens and aircraft liens; international interests in are covered, excluding however independent contractors. As a main aircraft and aircraft engines which are registered pursuant to the rule, the guarantee only covers salary claims that have fallen due International Interests (Mobile Equipment) Act (2015:860); pledges within three months prior to the date of the bankruptcy filing. and rights to retain possession of personal property as security for a debt (possessory liens); as well as grants of security interests made on the basis of registration or notice pursuant to the Central 7 Cross-Border Issues Securities Depositories and Financial Instruments Accounts Act (SFS 1998:1479), security interests based upon mortgages granted 7.1 Can companies incorporated elsewhere restructure in ships, or shipbuilding, or aircraft and reserve parts for aircraft. or enter into insolvency proceedings in your Thereafter would be a creditor having received security in the jurisdiction? form of business mortgages or security in the form of real property mortgages. For members of the EU (other than Denmark), the new Regulation Thereafter there are claims of general priority, i.e. in the following (EU) 2015/848 of the European Parliament and of the Council of 20 order of priority: costs for filing for bankruptcy; the costs for a May 2015 on insolvency proceedings (the Insolvency Regulation), previous reorganisation process; costs arising with the consent of which will come into force on 26 June 2017, provides that the courts a reorganisation administrator (in case there has been a preceding of the EU Member State within the territory of which the centre reorganisation procedure) provided that it has clearly arisen in the of the debtor’s main interests is situated shall have jurisdiction

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to open insolvency proceedings (main insolvency proceedings). The centre of main interests shall be the place where the debtor 8 Groups conducts the administration of its interests on a regular basis and which is ascertainable by third parties. However, if a company has 8.1 How are groups of companies treated on the an establishment within the territory of another Member State, the insolvency of one or more members? Is there scope courts of such Member State may open insolvency proceedings in for co-operation between officeholders? respect of such assets (territorial proceedings). Generally, territorial proceedings may not be opened if main insolvency proceedings From a legal point of view, each entity is treated separately from have been initiated, but there are certain exceptions to this general one another. Notwithstanding the aforesaid, it is commonplace that rule. members of the group file at the same time and request that the same Sweden As regards situations where the Insolvency Regulation does not administrator should be appointed for all Swedish members of the apply, a Swedish court may initiate insolvency proceedings to the group. extent it deems that the centre of main interests of the company is The new Insolvency Regulation (see question 9.1 for further located in Sweden, if the company has assets in Sweden or in a details) includes provisions to enable an administrator to request the limited number of other scenarios. opening of group coordination proceedings if one or more members of a group are in bankruptcy proceedings in different jurisdictions. If the request is approved, a coordinator will be appointed and may 7.2 Is there scope for a restructuring or insolvency process commenced elsewhere to be recognised in make recommendations to the administrator. your jurisdiction? 9 Reform The main rule is that foreign insolvency proceedings will not be recognised or enforced in Sweden. Notwithstanding the aforesaid, Swedish authorities must recognise restructuring and insolvency 9.1 Are there any proposals for reform of the corporate proceedings initiated in accordance with the Insolvency Regulations rescue and insolvency regime in your jurisdiction? (see question 7.1 above). Further, the Nordic countries have agreed on the Convention between Denmark, Finland, Norway, Sweden and The Insolvency Regulation will come into force on 26 June 2017, Iceland on Bankruptcy which continues to apply between all Nordic and will further harmonise the insolvency proceedings in the EU. countries except between Sweden and Finland (as the Insolvency Complementary legislation will therefore be adopted in Sweden. Regulation supersedes the convention). Further, the Swedish government has published an investigation on a possible reform of the legal framework governing insolvency and 7.3 Do companies incorporated in your jurisdiction corporate restructurings (SOU 2010:2) according to which it has been restructure or enter into insolvency proceedings in proposed that reorganisations and bankruptcies should be governed other jurisdictions? Is this common practice? by the same regulation and be a combined proceeding. A need to make the insolvency proceedings more efficient was identified, but It would be unusual for a Swedish company to restructure or enter the proposals made in the investigations have not yet resulted in a into an insolvency proceeding in a jurisdiction other than Sweden. proposition to amend the legal framework for insolvencies.

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Paula Röttorp Carolina Wahlby Hannes Snellman Attorneys Ltd Hannes Snellman Attorneys Ltd Kungsträdgårdsgatan 20 Kungsträdgårdsgatan 20 SE-103 96 Stockholm SE-103 96 Stockholm Sweden Sweden

Tel: +46 760 000 060 Tel: +46 760 000 070 Email: [email protected] Email: [email protected] URL: www.hannessnellman.com URL: www.hannessnellman.com Sweden The Managing Partner of the Stockholm office, Paula Röttorp has Carolina Wahlby is a Senior Associate in the Finance team, and vast experience of finance-related work, including restructurings specialises in financing, including providing advice on restructurings and insolvencies. She has experience of representing a variety of and bankruptcies, where she has acted as counsel on all sides of the different parties, including debtors, distressed financial institutes, proceedings. syndicates of banks and other creditors and counterparties, and has Her more recent experience includes representing a creditor in the also been a member of creditors’ committees appointed by the court. successful reorganisation of its counterparty as well as representing She is experienced both in formal and informal reorganisations, and groups with insolvency procedures in their Swedish subsidiaries. of providing advice in cases in simultaneous proceedings in several jurisdictions. In addition thereto, she advises clients on transactions involving purchase of debt and debt-for-equity swaps. Examples of her previous experience include representing Kaupthing Bank when entering financial difficulties, and she has represented a syndicate of banks in the cross-border reorganisation of the publicly listed Nordic Mines.

Hannes Snellman is a premier Nordic law firm focusing on significant business transactions and complex dispute resolution. We serve our clients with commitment, creativity and quality.

Hannes Snellman is a key player in the Nordic financial centre with the capacity and specialist know-how to handle any demanding local or cross- border transaction or dispute.

Hannes Snellman’s restructuring and insolvency practice provides a broad range of legal, strategic and commercial advice, with extensive experience in domestic and international restructuring and insolvency matters, to navigate clients through the turmoil of situations involving financially distressed companies. Our insolvency practice represents debtors, creditors, bondholders, investors, boards of directors, auditors, and creditors’ committees in complex corporate restructurings, bankruptcies, work-outs and in bankruptcy planning, negotiations and litigations. The insolvency team works closely with the corporate, finance, tax and litigation practices to provide a complete and comprehensive service to the Firm’s clients.

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Switzerland David Ledermann

Lenz & Staehelin Tanja Luginbühl

1 Overview 2 Key Issues to Consider When the Company is in Financial Difficulties 1.1 Where would you place your jurisdiction on the spectrum of debtor to creditor-friendly jurisdictions? 2.1 What duties and potential liabilities should the directors/managers have regard to when managing a The recovery and insolvency of companies incorporated in company in financial difficulties? Is there a specific Switzerland is governed by the Swiss Code of Obligations (CO) and point at which a company must enter a restructuring the Swiss Debt Enforcement and Bankruptcy Act (DEBA). The CO or insolvency process? and the DEBA provide for a fair balance of rights and obligations of both debtors and creditors. The CO provides for various inalienable and non-transferable responsibilities of the directors of a Swiss company that specifically In 2014, the DEBA was amended to make in-court restructuring apply in financial distress. The regime is identical for the options more appealing to debtors. Based on our initial experience, corporate forms most frequently used in practice, i.e., corporations this seems to slightly shift the balance but it is yet to be seen how the (Aktiengesellschaften/sociétés anonymes) and limited liability most recent revision of the DEBA will influence the restructuring companies (Gesellschaften mit beschränkter Haftung/sociétés à practice. In turn, the trigger events set forth in the CO to initiate résponsabilité limitée). insolvency proceedings are currently under review and it is to be expected that the focus will shift from balance sheet triggers to If, based on the last financial statements, half of the share capital and liquidity triggers. the legal reserves of the company are no longer covered by its assets (article 725 par. 1 CO, Kapitalverlust/perte de capital) the directors, inter alia, have to convene an extraordinary shareholders’ meeting 1.2 Does the legislative framework in your jurisdiction and to propose appropriate restructuring measures. If a Swiss allow for informal work-outs, as well as formal company is over-indebted (überschuldet/surendetté) within the restructuring and insolvency proceedings, and are each of these used in practice? meaning of article 725 par. 2 CO, i.e., if its assets no longer cover its liabilities, the board of directors must notify the court without delay unless certain creditors are willing to subordinate their claims There are two main types of formal insolvency and restructuring to those of all other company creditors in an amount sufficient to proceedings in Switzerland: bankruptcy (i.e., liquidation) proceedings cover the capital deficit and any losses anticipated to be incurred in (Konkursverfahren/faillite); and composition proceedings the next 12 months. Notification of the court will typically lead to (Nachlassverfahren/concordat). Whereas in bankruptcy proceedings the opening of bankruptcy proceedings. Furthermore, bankruptcy a company is eventually wound up, composition proceedings can proceedings have to be initiated if a meeting of shareholders resolves either: (i) be used to liquidate and realise the debtor’s assets in a more on the dissolution of the corporation as a result of its illiquidity flexible manner than in bankruptcy (composition agreement with (zahlungsunfähig/insolvable) pursuant to article 191 DEBA. assignment of assets); (ii) result in a debt restructuring (be it through a debt-rescheduling or a dividend agreement or a combination thereof); As an alternative to filing for bankruptcy, a company (or a creditor or (iii) be used as a mere restructuring moratorium, which may be entitled to request the opening of bankruptcy proceedings) may terminated without the need to reach a composition agreement or apply for the postponement of bankruptcy (Konkursaufschub/ to open bankruptcy liquidation proceedings if the debtor can be ajournement de faillite) or the opening of composition proceedings. successfully restructured during the moratorium. Further, Swiss However, it is not required for the admissibility of composition law provides for the possibility of an informal work-out; please see proceedings and the grant of a moratorium that the company is over- question 3.1 below for more details. Special insolvency regimes exist indebted within the meaning of article 725 CO, i.e. if its assets no for certain types of companies, most notably banks, securities dealers, longer cover its liabilities, or if it is unable to pay its debts within insurance companies and other players in the financial industry. the meaning of article 190 par. 1 section 2 DEBA. Still, the debtor must make it plausible to the court that over-indebtedness and/or It is fair to say that although both types of formal proceedings are illiquidity are likely to occur in the near or more distant future unless used in practice, bankruptcy proceedings are opened significantly a restructuring is pursued under the protection of a moratorium. more frequently than composition proceedings. Due to the higher Furthermore, court precedents hold that a company which is over- costs linked to the latter they are primarily (albeit not exclusively) indebted may continue to trade if there are good prospects that the used by major companies in financial distress.

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company can be restructured within a short period of time. The 285 et seq. DEBA provides for three different avoidance actions timeframe available to the directors is typically viewed to be in (Anfechtungsklage/action révocatoire), i.e.: (i) the action to avoid the range of four to six weeks from the determination of over- gratuitous transactions (Schenkungsanfechtung/révocation des indebtedness. libéralités) which targets, in particular, all gifts and all dispositions Directors’ liability typically arises in bankruptcy. The general made by the debtor without any, or without adequate, consideration legal basis as regards the civil liability of directors (Haftung für during the year prior to the opening of bankruptcy proceedings, the Geschäftsführung/responsabilité dans la gestion) is article 754 CO, granting of a moratorium or the seizure of assets; (ii) the voidability pursuant to which the members of the board of directors and any person of certain specified transactions during the year prior to the entrusted with the management or the liquidation of a corporation opening of bankruptcy proceedings, the granting of a moratorium shall be liable for damages “caused by wilful or negligent violation or the seizure of assets while the debtor is already over-indebted of their duties”. Accordingly, the liability of a director requires: (i) a (Überschuldungsanfechtung/revocation en cas de surendettement) Switzerland breach of the director’s duties; (ii) damages caused to the corporation i.e., the granting of a security interest for existing debts without or a particular creditor; (iii) a wilful or negligent conduct (fault); being, by prior agreement, contractually obligated to create the and (iv) a causal link between the breach and the damage. Damages relevant security interest, the settlement of a monetary claim in a typically cover the increase of loss that occurred between the moment manner other than by usual means of payment, or the payment of a the directors should have known of the corporation’s distressed debt which was not yet due, in each case provided that the recipient situation and failed to take appropriate actions and the moment the is unable to prove that it was unaware and must not have been aware bankruptcy was actually declared (Konkursverschleppung/retard de of the debtor’s over-indebtedness; and (iii) the avoidance for intent la prononcé de la faillite). According to the above, courts have held (Absichtsanfechtung/révocation pour dol) which targets dispositions directors, who failed to take the steps required by law by not notifying and other acts made by the debtor within a period of five years the court about the over-indebtedness of the company, liable. Further prior to the opening of bankruptcy proceedings, the granting of a liability risks may arise in the context of transactions that are at risk of moratorium or the seizure of assets if the disposition was made by being challenged (see question 2.3). the insolvent with the intent to disadvantage its creditors or to prefer certain of its creditors to the detriment of other creditors and if the Several provisions of the Swiss Criminal Code (CrimC) may also privileged creditor knew or should have known of such intent. For all apply in the context of the activity undertaken by a director. Article challenges, it is further required that the challenged transaction has 165 CrimC punishes debtors whose acts of mismanagement have caused damages to other creditors of the debtor. The rules regarding caused the company’s bankruptcy (Misswirtschaft/gestion fautive). avoidance for intent as well as avoidance of gratuitous transactions This criminal provision expressly refers to the case of the debtor provide for an inversion of the burden of proof whenever these who, by means of an insufficient capital endowment, causes or transactions are entered into by related parties (including affiliated aggravates its over-indebtedness before being declared bankrupt. entities). Accordingly, in such cases the benefitting party must Special attention must also be paid to article 167 CrimC, which prove that it could not have been aware of the disproportion between deals with the issue of the advantages granted to certain creditors performance and consideration (in case of avoidance of gratuitous by an insolvent debtor who is subsequently declared bankrupt transactions) or of the intention of the insolvent debtor to prefer (Bevorzugung eines Gläubigers/avantages accordés à certains certain creditors over others (in case of avoidance for intent). créanciers). As for disqualification (Berufsverbot/interdiction d’exercer une profession) issues, article 67 par. 1 CrimC (which is If all prerequisites are met, the court orders the defendant to return in fact very rarely implemented) provides that the court may prevent the specific assets to the estate. If the return of a specific asset is no a convicted person from exercising their profession for a period longer possible, the court may order the defendant to compensate extending from six months to five years if this person has been the estate in cash. In recent case law, the Swiss Federal Supreme punished either by an imprisonment sanction exceeding six months Court has shown a tendency to apply rather low standards for a or a fine exceeding 180 day rates for an offence committed within successful avoidance for intent. the exercise of a profession when the circumstances give reason to fear new abuses from the convicted person. 3 Restructuring Options

The company’s statutory auditors (Revisionsstelle/organe de In case of a loss of capital (Kapitalverlust/perte de capital), the révision) must notify the court if the company is over-indebted and board of directors must convene an extraordinary shareholders’ the board of directors fails to notify the court itself. In addition, meeting and propose appropriate restructuring measures (article 725 creditors may petition the court to open bankruptcy proceedings or par. 1 CO, see question 2.1). No court needs to be involved for the composition proceedings in respect of the company under certain proposition or implementation of such measures. circumstances. As long as no such proceedings have been opened While, according to article 725 par. 2 CO, there is a general obligation by the court, creditors may take the same debt enforcement actions to notify the court in case of over-indebtedness (Überschuldung/ against a company in financial distress as they may against a surendettement), court precedents hold that a brief informal work- company in good standing. out may be carried out without court involvement in case of good prospects of success (see question 2.1). Furthermore, the court 2.3 In what circumstances are transactions entered may, at the request of the board of directors or a creditor, postpone into by a company in financial difficulties at risk of the adjudication of bankruptcy, provided that there is the prospect challenge? What remedies are available? of a financial reorganisation (Konkursaufschub/ajournement de la faillite). Such reorganisation may occur under the supervision of an According to the DEBA, certain preferential or fraudulent acts administrator, which is instated by the court. That said, the opening made by the debtor within certain suspect periods may become of composition proceedings (see question 3.2 below) is requested subject to challenge. The avoidance regime set forth in articles more frequently in such instances.

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Upon application by the administrator, the duration of the moratorium 3.2 What formal rescue procedures are available in your may be extended to up to 12 and in particularly complex cases 24 jurisdiction to restructure the liabilities of distressed months. companies? Are debt-for-equity swaps and pre- packaged sales possible? 3.4 Who manages each process? Is there any court Formal rescue procedures are available in the form of composition involvement? proceedings. The restructuring of liabilities may be achieved in two ways, with or without a cram-down element: If the provisional moratorium is made public, it is not compulsory First, composition proceedings may be used as a mere restructuring (but customary) to appoint an administrator during the provisional moratorium (article 296a DEBA). A termination is only possible if moratorium. An administrator must always be appointed for the it can be established before the court that the debtor is restructured duration of the definitive moratorium. In addition, the court may Switzerland (without the need for a debt rescheduling or a dividend agreement). appoint a creditors’ committee (Gläubigerausschuss/commission des An individual agreement must be reached with each single creditor créanciers) to supervise the administrator and the proceedings in who is expected to make a concession. general. Second, where it is not possible to receive consent from each single The debtor may continue its business activities under the supervision creditor, a composition agreement may be proposed. In a debt- of the administrator and the court. The composition court may, rescheduling agreement (Stundungsvergleich/concordat moratoire) however, direct that certain acts shall require the administrator’s the debtor offers the creditors full discharge of their claims according participation in order to be legally valid, or authorise the to a fixed time schedule and, hence, the contractual terms and administrator to take over the management from the debtor. Without conditions of the credits are modified. In a dividend agreement, the authorisation of the composition court or the creditors’ committee (Prozent- oder Dividendenvergleich/concordat dividende) the debtor (if appointed), the debtor is prohibited from divesting, encumbering offers the creditors only a partial payment of their claims in connection or pledging certain assets and to grant guarantees or to make gifts. with a creditors’ waiver of the remainder. The debtor is not wound-up Major steps in the composition proceedings require the involvement as a consequence of such debt-rescheduling or dividend agreement of the court. This holds true for the opening of composition and once such agreement has been adopted by the required quorum of proceedings, the appointment of an administrator, the approval of creditors and the competent court, the debtor would have full power certain transactions involving the debtor and, finally, the approval of to manage the company’s affairs. The composition agreement must the composition agreement. be approved by a majority of creditors. These are rarely used to restructure large companies. Debt-for-equity swaps and/or composition agreements with 3.5 How are creditors and/or shareholders able to influence incorporation of a company (Nachlassvertrag mit Gesellschafts- each restructuring process? Are there any restrictions on the action that they can take (including the gründung/concordat avec constitution de société) are admissible enforcement of security)? Can they be crammed down? in Switzerland. In a typical debt-for-equity swap creditors receive interests in the debtor in proportion to their recognised claims. Under a composition agreement with incorporation of a company, the debtor During the moratorium, creditors of claims are not entitled to undertakes to assign its assets to a newly created company in which commence or continue debt enforcement proceedings (Betreibung/ the creditors obtain interests in proportion to their recognised claims. poursuite). This restriction does not apply to creditors whose Furthermore, pre-packaged sales are possible under Swiss law. Such claims are secured by real estate who are, however, precluded from sales may require the consent of the court-appointed administrator foreclosing on the real estate. (Sachwalter/commissaire) and the court. As soon as a draft composition agreement (Nachlassvertrag/ Specific rules apply to debt-for-equity swaps for certain entities that concordat) is proposed, the administrator convenes a creditors’ are subject to a special insolvency regime, most notably to banks. meeting. Only creditors who have filed claims in time are given the right to vote to the creditors’ meeting. Other than the right to vote in the creditors’ meeting, creditors are generally not able to influence 3.3 What are the criteria for entry into each restructuring composition proceedings. procedure? Approval of the proposed composition agreement requires an affirmative vote by a quorum of either (i) a majority of creditors Composition proceedings are typically initiated by the debtor. No representing two-thirds of the total debt, or (ii) one-quarter of the specific trigger event exists which must have occurred for the debtor creditors representing three-quarters of the total debt. Creditors to be entitled to request the opening of composition proceedings. In with privileged claims and secured creditors (to the extent that their addition, both creditors entitled to request the opening of bankruptcy claims are covered by the estimated liquidation proceeds of the proceedings and the bankruptcy court may request the opening of collateral) will not be entitled to vote on the composition agreement. composition instead of bankruptcy proceedings. After approval by the creditors, the composition agreement requires Upon receipt of a request to this effect, the court grants a provisional confirmation by the composition court. With the court’s confirmation, moratorium (provisorische Nachlassstundung/sursis provisoire) the composition agreement becomes valid and binding upon all of up to four months. Furthermore, a provisional administrator creditors of claims subject to the composition agreement, whether (provisorischer Sachwalter/commissaire provisoire) may be or not they have participated in the composition proceedings and appointed by the court to permit an assessment of the prospects of a irrespective of their non-approval of the composition agreement. It successful reorganisation or of a composition agreement. is, thus, possible to cram down creditors in such proceedings. If the court finds that there are reasonable prospects for a successful As opposed to the creditors, shareholders have no voting rights over reorganisation or that a composition agreement is likely to be court-adjudicated composition agreements. The DEBA, though, concluded, it must grant a definitive moratorium (definitive provides that in order for an ordinary composition agreement to be Nachlassstundung/sursis concordataire) for a period of four to six approved by the court, the equity holders must make an appropriate months and appoint an administrator (Sachwalter/commissaire). contribution to the restructuring efforts.

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3.6 What impact does each restructuring procedure have 4 Insolvency Procedures on existing contracts? Are the parties obliged to perform outstanding obligations? Will termination and set-off provisions be upheld? 4.1 What is/are the key insolvency procedure(s) available to wind up a company? Contractual relationships between the debtor and its counterparties generally continue to be effective unless (i) there is a specific statutory The key insolvency procedure which leads to the winding up of a provision under applicable contract law providing for an automatic company is bankruptcy. Additionally, composition proceedings can termination of the relevant agreement or a termination right upon be used to liquidate and realise the debtor’s assets in a more flexible the grant of a moratorium, or (ii) the specific contract provides for manner than in bankruptcy (composition agreement with assignment of assets, Nachlassvertrag mit Vermögensabtretung/concordat par

Switzerland an automatic termination or a termination right upon the grant of a moratorium. If so, the termination would generally be valid and abandon d’actif) but with the same result, i.e., winding up of the enforceable vis-à-vis the Swiss debtor and the administrator from a company. Swiss insolvency law perspective. Notwithstanding the foregoing, there are certain restrictions (see question 3.4) which may prohibit 4.2 On what grounds can a company be placed into each the debtor from disposing of its assets or continuing its business. winding up procedure? Further, the administrator has the authority to order conversion of a performance owed by the debtor in kind into a monetary claim of A company may be placed into bankruptcy proceedings by the corresponding value, which will then become subject to the terms competent court: (i) if a creditor whose claim has not been settled of the composition agreement. Set-off rights are modified upon the but upheld within the course of debt enforcement proceedings has grant of a moratorium in much the same way as upon the opening of successfully requested for the opening of bankruptcy proceedings bankruptcy proceedings (see question 4.5 below). (Konkursbegehren/réquisition de faillite); (ii) upon a debtor’s request Finally, with the consent of the administrator, the debtor may by declaring to the court that it is insolvent; (iii) upon a creditor’s extraordinarily terminate long-term contracts (Dauerschuld- request if the company has committed certain acts to the disfavour verhältnisse/contrats de durée) during the moratorium against full of its creditors or if it has ceased payments or if certain events have indemnification of the counterparty if the continuing existence of happened during composition proceedings; or (iv) upon a notification these contracts would defeat the restructuring purpose (article 297a of the court by the board of directors (or the statutory auditors) of the DEBA). company that the company is over-indebted within the meaning of article 725 par. 2 CO. As to the opening of composition proceedings with the intention of concluding a composition agreement with 3.7 How is each restructuring process funded? Is any assignment of assets, see question 3.3 above. protection given to rescue financing?

Costs triggered by composition proceedings qualify as debts of 4.3 Who manages each winding up process? Is there any the estate (Masseverbindlichkeiten/dettes de la masse) and have court involvement? to be paid with priority from funds available at the outset of the proceedings, trading results or realisation proceeds. External Bankruptcy proceedings are opened by the competent court and, funding is possible. An administrator will carefully analyse whether within the course of bankruptcy proceedings, the insolvent company is external funding is appropriate. represented exclusively by the bankruptcy administration. If the rules for ordinary bankruptcy proceedings apply (summary proceedings are As to rescue financing, whether or not the provision of such financing ordered if the proceeds of the bankrupt’s assets are unlikely to cover is given protection depends on the individual circumstances of the the costs of ordinary proceedings or in non-complex circumstances), restructuring context. In particular, a distinction needs to be made the bankruptcy estate is administered as follows: the bankruptcy between rescue financings made available prior to the opening administration publishes a notice of bankruptcy instructing all of insolvency proceedings and loans granted in the context of creditors and debtors to file their claims and debts within one month composition proceedings. As a result of the most recent revision of and inviting creditors to a first creditors’ meeting. The first creditors’ the DEBA, transactions made during composition proceedings with meeting may appoint a private bankruptcy administration acting the approval of the competent court or – if applicable – the creditors’ instead of the state bankruptcy office as well as a creditors’ committee committee are explicitly exempted from the scope of avoidance which has certain supervisory (and limited decisive) competencies. actions as described in question 2.3 above and, thus, benefit from A second creditors’ meeting is convened to pass resolutions as to all claw-back protection. In addition, any claims arising out of such important matters, including the commencement or continuation of transactions qualify as debts of the estate (Masseverbindlichkeiten/ claims against third parties and the method of realisation of the assets dettes de la masse) which are paid with priority before any belonging to the bankruptcy estate (the actual realisation, however, distributions are made to other creditors. is reserved to the bankruptcy administrator). Following distribution In light of most recent court precedents, it is not clear if – and on of the proceeds (according to question 4.6 below) the bankruptcy what conditions – rescue financing granted prior to the opening administration submits its final report to the bankruptcy court. If the of insolvency proceedings (so-called Sanierungsdarlehen/prêt court finds that the bankruptcy proceedings have been completely accordés dans un but d’assainissement) may benefit from claw-back carried out, it declares them closed. For composition proceedings protection. As a consequence of such unclear and ambiguous case with assignment of assets please refer to question 3.4 above. Once a law, pre-insolvency rescue financing presents a rather high risk for composition agreement with assignment of assets has been approved potential lenders. and confirmed by the creditors and the court, the liquidator would take over the realisation of the assets.

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claims arising under such long-term contracts will only be admitted to 4.4 How are the creditors and/or shareholders able to the schedule of claims if they cover the period until the next possible influence each winding up process? Are there any termination date (calculated from the opening of bankruptcy) or until restrictions on the action that they can take (including the end of the fixed duration of a contract. If the bankruptcy estate the enforcement of security)? has made use of performances under the long-term contracts, article 211a DEBA provides for the indemnification thereof to be a claim Once bankruptcy proceedings have been opened, all debt against the bankruptcy estate (Masseverbindlichkeiten/dettes de la enforcement proceedings come to an end and creditors may not masse) and, thus, to be paid with priority. commence new debt enforcement proceedings against the debtor. Apart from attending the creditors’ meetings (see question 4.3 above), Set-off rights are also available in bankruptcy but the substantive unsecured creditors have no individual rights to enforce their claims. set-off rules are subject to certain modifications in bankruptcy. First, a distinction needs to be made between (i) claims of the insolvent Secured creditors have to (i) notify the bankruptcy administrator if Switzerland they are holding assets owned by the debtor within 30 days as from party forming part of the insolvency estate and claims against the the public announcement of the opening of bankruptcy proceedings, insolvent party (Konkurs- oder Nachlassforderungen/créances dans and (ii) hand in the collateral to the bankruptcy administrator. As a la faillite ou le concordat) to be satisfied with dividend payment out rule, contractual or statutory rights to privately realise such collateral of the proceeds of the insolvency estate on the one hand, and (ii) are no longer enforceable in bankruptcy. Notable exceptions exist claims of, and against, the insolvency estate (Masseforderungen und with respect to individual assets, most importantly for certain -verbindlichkeiten/créances et dettes de la masse) which are mainly intermediated securities. Furthermore, the restrictions do not apply characterised by the fact that they have come into existence only to certain types of security interests involving an outright transfer after the opening of insolvency proceedings with the consent of the of title. In any event, the secured creditors keep their preferential insolvency administration. As a rule, set off is only possible between rights with respect to the collateral and will be satisfied out of the claims of the same category. In addition, set off of claims of the first net proceeds of the sale of such collateral in priority to any other category is not admissible if (i) the debtor of the insolvent party creditors. Real estate mortgages are only realised and proceeds paid became a creditor of the latter only after the opening of bankruptcy out to creditors if their claims against the debtor are due; claims proceedings or the grant of a moratorium, respectively, or (ii) secured by real estate mortgages that are not yet due are transferred the creditor of the insolvent party did not become a debtor of the to the acquirer of the real property. insolvent party or the insolvency estate until after the opening of the bankruptcy proceedings or the grant of a moratorium, respectively. For composition proceedings with assignment of assets, please Furthermore, set off is voidable if a debtor of the insolvent party refer to question 3.5 above. Once a composition agreement with acquires a claim against the latter prior to the opening of bankruptcy assignment of assets has been approved and confirmed by the proceedings or the grant of a moratorium, respectively, but in creditors and the court, private realisation of collateral is available awareness of the insolvency in order to gain an advantage for for movable assets on the basis of article 324 DEBA. himself or a third party to the detriment of the insolvency estate.

4.5 What impact does each winding up procedure have on 4.6 What is the ranking of claims in each procedure, existing contracts? Are the parties obliged to perform including the costs of the procedure? outstanding obligations? Will termination and set-off provisions be upheld? Secured claims (pfandgesicherte Forderungen/créances garanties Whether existing contracts are terminated upon the initiation par gage) are satisfied directly out of the proceeds from the of winding up procedures is primarily governed by substantive realisation of the collateral. Should the proceeds not be sufficient to contract law and the specific terms of a contract, which are generally satisfy the claim of a secured creditor, such creditor shall rank as an unsecured and non-privileged creditor for the outstanding amount upheld in a Swiss winding up proceeding. Under Swiss contract of its claim. law, certain types of contracts are terminated ex lege whereas others can be terminated immediately by one party in case of bankruptcy Unsecured claims are ranked within three classes of claims. of the other. Leaving aside claims which are irrelevant in a corporate context, the classes are composed as follows: the first class consists of claims If contracts are not terminated, the contracting party would generally of employees (i) derived from the employment relationship which have to perform its obligations in kind but it would be bound to arose during the six months prior to the opening of bankruptcy accept a dividend rather than full payment or specific performance. proceedings and which do not exceed the maximum insurable However, should the bankruptcy administration elect in its sole annual salary as defined by the Federal Ordinance on Accident discretion to pursue the performance of a contract which was not or Insurance (which is currently CHF 148,200), (ii) in relation to was only partially fulfilled at the time of opening of the bankruptcy the restitution of deposited security, and (iii) derived from social proceedings, the counterparty may demand that security be provided, compensation plans which arose during the six months prior to the and it may further expect full performance by the bankruptcy opening of the bankruptcy proceedings. The first class also includes administration. The right of the bankruptcy administration to elect claims of the assured derived from the Federal Statute on Accident performance of the contract is excluded in the case of financial Insurance and from facultative pension schemes, as well as claims of future, swap, option and similar strict deadline transactions, if the pension funds against employers. The second class includes claims value of the contractual performance can be determined based on of various contributions to social insurances. All other claims are market or stock exchange prices at the time of the opening of the comprised in the third class. Claims in a lower ranking class will bankruptcy. The bankruptcy administration and the contractual only receive dividend payments once all claims in a higher ranking partner are each entitled to claim the difference between the agreed class have been satisfied in full. Claims within a class are treated value of the contractual performance and the market value at the on a pari passu basis. time of the opening of the bankruptcy proceedings. The costs incurred during the bankruptcy proceedings are debts of Special insolvency rules apply to long-term contracts. Even if they the estate (Masseverbindlichkeiten/dettes de la masse) and have to are not terminated upon the opening of bankruptcy procedures, future be paid with priority, i.e., before any other creditor is paid.

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4.7 Is it possible for the company to be revived in the 7 Cross-Border Issues future?

7.1 Can companies incorporated elsewhere restructure This is generally not possible. Following distribution of the or enter into insolvency proceedings in your proceeds, the bankruptcy administration submits its final report jurisdiction? to the bankruptcy court. If the court finds that the bankruptcy proceedings have been completely carried out, it declares them Pursuant to the DEBA, bankruptcy and composition proceedings may closed. The company ceases to exist and will be removed from the only be opened in respect of companies incorporated in Switzerland, commercial register. However, in case previously unknown assets meaning that such company must be registered with the Swiss of the insolvent are discovered after the bankruptcy proceedings commercial register (Handelsregister/register du commerce). A Switzerland have been closed, the bankruptcy administration distributes the Swiss court is not competent to order the bankruptcy or composition proceeds of such assets without further formalities. of a company with registered seat outside of Switzerland, even if such company has substantial trade and business activities in 5 Tax Switzerland. A company incorporated outside of Switzerland may, thus, only restructure or enter into insolvency proceedings in Switzerland after such company has re-domiciled to Switzerland. 5.1 Does a restructuring or insolvency procedure give This notwithstanding, in case a debtor incorporated outside of rise to tax liabilities? Switzerland operates a branch in Switzerland, Swiss insolvency proceedings may be opened against such debtor in the jurisdiction As a rule, companies in financial difficulties do not benefit from where the Swiss branch is located (Niederlassungskonkurs/faillite any special tax treatment under Swiss law. In particular, dissolving de la succursale). Such proceedings, however, are limited to hidden reserves or the forgiveness of debt granted by third parties obligations incurred by the branch (article 50 DEBA). is generally considered a taxable profit. However, a company in In particular, it should be noted that Switzerland is not an EU Member financial difficulties has generally incurred losses in previous years State and, thus, the centre of main interest (COMI) principle laid that can be set off against these profits. In this context, one must note down in EU Regulation 2015/848 on insolvency proceedings is not that Swiss tax law enables set off with reported losses of the seven applicable in cross-border cases involving Switzerland. prior years. The forgiveness of debt granted by shareholders is, under certain circumstances, treated as a contribution for no remuneration and is subject to an issuance stamp duty (Emissionsabgabe/timbre 7.2 Is there scope for a restructuring or insolvency process commenced elsewhere to be recognised in d’émission) of 1 per cent, as is the case with respect to an increase your jurisdiction? of capital. The same analysis prevails in case of a reduction of the share capital followed by an increase of the share capital or the In bankruptcy matters, Switzerland follows the principle of contribution for no remuneration (“Harmonika”). However, in case territoriality. Accordingly, a foreign bankruptcy or any similar of a financial restructuring, a company may apply for a waiver of proceeding has no effect in Switzerland unless it has been issuance stamp duty to the extent that the increase of share capital, recognised. The recognition of foreign proceedings (Anerkennung/ the contribution for no remuneration or the forgiveness of debt does reconnaissance) is governed by a special chapter in the Swiss Private not exceed CHF 10,000,000 and further provided that such amount International Law Act (PILA). The conditions for recognition are covers losses of the company. In addition, even if such threshold is as follows: (i) the bankruptcy decree must have been rendered in exceeded, a waiver of stamp duty can be obtained if levying such the state of the debtor’s domicile; (ii) the petition for recognition duty would be excessively harsh for the company. may only be introduced by the bankruptcy’s administrator or by a creditor, but not by the debtor itself; (iii) the bankruptcy decree 6 Employees must be enforceable in the state where it was rendered; (iv) the bankruptcy must not be inconsistent with Swiss public policy and the fundamental principles of Swiss procedural law; and (v) reciprocity 6.1 What is the effect of each restructuring or insolvency (Gegenrecht/reciprocité) is granted by the state in which the decree procedure on employees? was rendered. Pursuant to this latter requirement, the Swiss court must examine if the foreign jurisdiction would also recognise, under Employment agreements are not automatically terminated upon the similar circumstances, a Swiss decree, under conditions that are declaration of bankruptcy of the employer. In case the employer not sensibly less favourable than the conditions prevailing under becomes insolvent, though, an employee may terminate the Swiss law for the recognition of a foreign bankruptcy decree. As employment relationship without notice unless such employee soon as the petition for recognition has been filed, the court may, is provided security for claims arising from the employment on application of the petitioner, order conservatory measures. In relationship. Subject to such termination rights, the bankruptcy principle, once the recognition is granted, the foreign bankruptcy administration may decide to maintain some employment contracts. decree has the same effects as a Swiss bankruptcy decree with The administration may also, as it happens in the majority of cases, regard to the debtor’s assets located in Switzerland. The foreign cease the business and therefore decide to terminate the work bankruptcy is not extended in Switzerland, but gives rise to an contracts. When doing so, it has to comply with the applicable ancillary bankruptcy that can be viewed as a sort of procedure for notice period. Unpaid salaries have to be claimed and scheduled. judicial legal assistance. Moreover, pursuant to article 172 par. Although there are some unsettled legal controversies, composition 1 PILA, only certain claims may be included in the schedule of proceedings have a legal effect that is similar to bankruptcy with admitted debts, i.e., the claims secured by pledged assets located respect to employment contracts. in Switzerland according to article 219 pars. 1 to 3 DEBA, and the unsecured but privileged claims of creditors having their domicile in Switzerland according to article 219 par. 4 DEBA (first and second

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classes). After the satisfaction of these creditors, any remaining This duty to cooperate does not extend to foreign insolvency balance is remitted to the foreign bankruptcy estate (article 173 par. proceedings of group members outside of Switzerland. In practice, 1 PILA). This transfer, which represents the result of the Swiss however, Swiss bankruptcy authorities in charge of liquidating ancillary bankruptcy, requires, however, the prior recognition of a Swiss group member often enter into mutual agreements with the foreign schedule of claims, whereby the Swiss courts review, foreign insolvency administrations, settling mutual claims amicably. in particular, whether the creditors domiciled in Switzerland were fairly treated in the procedure and were granted an opportunity to be heard. Special provisions exist for banks and other financial 9 Reform institutions where foreign insolvency proceedings can be recognised by the Swiss Financial Market Supervisory Authority FINMA under 9.1 Are there any proposals for reform of the corporate a more flexible regime. rescue and insolvency regime in your jurisdiction? Switzerland

7.3 Do companies incorporated in your jurisdiction There are currently no proposals to amend the DEBA. However, restructure or enter into insolvency proceedings in a change to articles 725 et seq. CO, currently dealing, inter alia, other jurisdictions? Is this common practice? with the issue of loss of capital (see question 3.1 above), is being contemplated. It is intended to lower the current triggering As stated in question 7.1 above, Swiss courts have exclusive threshold of loss of capital and add additional thresholds (such jurisdiction on companies registered in Switzerland for the opening as substantive or continuing losses) which would trigger certain of insolvency proceedings. The fact that a company domiciled additional obligations of the directors of a Swiss company at an and registered in Switzerland has already requested the opening of earlier stage of financial distress. The purpose of this reform is to insolvency proceedings outside of Switzerland would not prevent induce the directors to take countermeasures as early as possible the Swiss court from opening separate Swiss proceedings. In fact, in times of financial difficulties. These amendments are subject the Swiss authorities would not accept any proceedings outside of to parliamentary discussion and may still change or be discarded Switzerland in such instances. Accordingly, companies domiciled entirely. in Switzerland and registered with the Swiss commercial register do Moreover, a project to revise the PILA has been initiated. Pursuant not, in practice, restructure or enter into insolvency proceedings in to the preliminary draft, the strict principle of territoriality (see other jurisdictions. question 7.2 above) may be substantially softened. In particular, an amendment of the conditions for recognition of foreign proceedings 8 Groups as described in question 7.2 above are being contemplated as follows: (i) not only bankruptcy decrees rendered in the state of the debtor’s domicile but also decrees rendered in the state where the 8.1 How are groups of companies treated on the debtor has its centre of main interest (COMI) shall be recognisable; insolvency of one or more members? Is there scope (ii) the petition for such recognition may additionally be introduced for co-operation between officeholders? by the debtor itself; and (iii) the requirement of reciprocity shall no longer be required. Further, it shall no longer be mandatory to Swiss insolvency law is based on the principle of “one company one conduct ancillary bankruptcy proceedings in Switzerland provided proceeding”. Hence, in case multiple members of the same corporate that there is no need for protection of Swiss creditors. As a result, group request the opening of insolvency proceedings there will be assets of a foreign debtor could be handed over to the foreign separate insolvency proceedings for each group member. The group bankrupt estate. The consultation process regarding the new PILA itself is not subject to insolvency. This principle notwithstanding, provisions has ended in February 2016. The explanatory statement pursuant to article 4a DEBA, Swiss bankruptcy authorities have to of the Swiss Federal Council (Botschaft/message) is expected to be coordinate their actions to the extent possible in a group insolvency published in the first half of 2017; Swiss scholars and practitioners scenario. As this provision was introduced only recently, there is do not except the draft to change substantially in the course of the little guidance available with regards to how such coordination is legislative process. handled in practice.

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David Ledermann Tanja Luginbühl Lenz & Staehelin Lenz & Staehelin Route de Chêne 30 Brandschenkestrasse 24 CH-1211 Geneva 6 CH-8027 Zurich Switzerland Switzerland

Tel: +41 58 450 70 00 Tel: +41 58 450 80 00 Email: [email protected] Email: [email protected] URL: www.lenzstaehelin.com URL: www.lenzstaehelin.com

David Ledermann is a partner in the Geneva office. He is an expert Tanja Luginbühl is a partner in the corporate, M&A and insolvency Switzerland on corporate law, M&A and financing transactions. He studied law at group of the Zurich office of Lenz & Staehelin. She studied lawat the University of Geneva, and is a graduate of the LL.M. programme the University of Zurich, and is a graduate of the LL.M. programme at at the Duke University School of Law (1999), USA. David Ledermann the New York University School of Law (1999), USA. Tanja Luginbühl specialises in the area of corporate and M&A, private equity, investments, specialises in the area of insolvency and restructuring, corporate, M&A insolvency and restructuring and contract and commercial. and secured financing. She has been involved in various insolvency cases and advises banks, rating agencies, creditors and companies in situations of financial distress.

Lenz & Staehelin is one of the leading law firms in Switzerland, having offices in Zurich, Geneva and Lausanne. The firm comprises more than 200 lawyers and has a strong and long-standing practice in insolvency and restructuring matters. The firm regularly represents creditors as well as debtors in debt collection, bankruptcy or reorganisation cases pending before Swiss courts. We advise Swiss and international clients in the context of official or out-of-court debt restructurings.

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Turkey Gökben Erdem Dirican

Pekin & Pekin Umut Korkmaz

The financial restructuring may also be conducted in an informal Pursuant to Article 376 of the TCC, when a joint stock company way, provided that there is an agreement between the debtor and suffers losses which reduce its paid up share capital by two-thirds, its creditors. In such a case, general rules of Turkish contract law the board of directors is required to call an extraordinary general will apply. As there are no formal requirements, such a financial assembly meeting. At this meeting, the shareholders must resolve restructuring would not be binding on creditors who are not parties either to compensate the company in cash for the accumulated loss to such agreements. or to decrease the company’s paid up share capital to one-third of its Under circumstances where the debtor may be declared bankrupt or existing share capital. If the shareholders do not take one of these following the decision for its bankruptcy, the agreements between steps, the board of directors is required to file a lawsuit before the the debtor and its creditors must not be executed with the aim to relevant Commercial Court of First Instance to request the Court to hide assets from other creditors, which shall prevent them from declare the company bankrupt. Please also see question 4.2. collecting their receivables and cause them to incur losses. The Please also note that the shareholders may provide a loan to their debtor who conducts fraudulent transactions with the intention to company. Although some restrictions were provided under the TCC cause his creditors to incur losses before and after his bankruptcy for the companies to give a loan to their shareholders, there is no shall be considered as fraudulent bankrupt and shall be punished restriction for companies to obtain a loan from their shareholders. as per the Turkish Criminal Code (Law No. 5237) (published in the Official Gazette dated October 12, 2004 and numbered 25611).

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The individuals authorised to manage and represent the company 2.3 In what circumstances are transactions entered or co-operative or the creditors who desire to carry on the business into by a company in financial difficulties at risk of can request the postponement of bankruptcy in the event of financial challenge? What remedies are available? distress. With respect to debt-for-equity swaps, as is known, the principal In order to examine the transactions of a company entered into element of any debt-for-equity swap is a restructuring of the whilst it is in financial difficulties, the use of a ‘hardening period’ balance sheet of a corporate debtor so that the relevant participating must be reviewed. creditors receive equity interests in a reorganised capital structure The hardening period is a key concept in insolvency and bankruptcy in consideration for reducing their debt claims against the company. proceedings, providing that a transaction entered into during a

Turkey Pursuant to Article 329 and Article 601 of the TCC, joint stock hardening period may be deemed invalid by a Court upon the companies and limited liability companies are liable for their debts application and request of the creditors and/or the liquidation/ only by their assets owned as a legal entity. bankruptcy officer of the debtor. During the debt collection and In line with the abovementioned Articles, it is not possible to liquidation process, the transactions of the insolvent/bankrupt impose an attachment on a shareholder’s shares due to a debt of the company completed prior to its insolvency/bankruptcy, particularly company as a legal entity. However, in case the debtor shareholder transactions within the hardening period, shall be considered and is a company itself (in other words if the company holds shares of reviewed, which may result in the cancellation of such transactions another company), pursuant to Article 133 of the TCC, in equity provided that such fall within the scope of Articles 278, 279 and 280 companies, in the event the creditors have a receivable from a of the EBL stating the three different hardening periods as one year, shareholder, the relevant creditors are entitled to request that the two years and five years. shares owned by the debtor shareholder be attached as per the The one-year hardening period applies to (i) security interests if such relevant provisions of the EBL regarding movable assets and request security interest is created to secure an existing debt and the security that such be sold and converted into cash. collateral provider has not committed to provide security interest Upon attachment, such shall be registered with the share ledger at the time of incurring a debt, (ii) payments made via instruments of the company. Apart from that, for all of the trade companies, other than cash or ordinary payment instruments, (iii) payments the creditors are also entitled to obtain their receivables out of made before their due date, and (iv) certain annotations to the title the receivables of the debtor shareholder from the company and deed registries. In order for the abovementioned transactions to be also impose an attachment for such. Please also note that the annulled, such transactions should have been made within one year abovementioned provision does not hinder the creditors from prior to the bankruptcy of the debtor or attachment of its assets. applying to the assets of the debtor shareholders out of the company. The two-year hardening period applies to donations or gifts. With respect to pre-packaged sales, under Turkish Law, a pre- The five-year hardening period applies to transactions made by the packaged sale is possible in terms of Article 538 of the TCC. debtor with one of its creditors with the aim of harming its other Pursuant to the said Article, unless decided otherwise by the general creditors, provided that the creditor with whom the transactions are assembly, the liquidator can perform sale of the active assets of the made is aware of the insolvency and the aim of the debtor at the time company by way of negotiation. However, if the subject of the of the transaction. sale constitutes a wholesale of a significant amount, then a general assembly resolution is required. The sale shall then be conducted In order for the aforementioned transactions to be annulled, they by the liquidators. should have been made within five years prior to the initiation of bankruptcy or execution proceedings. 3.3 What are the criteria for entry into each restructuring procedure? 3 Restructuring Options Concord restructuring is proposed by the debtor or a creditor to compromise certain liabilities in accordance with a plan. Concord 3.1 Is it possible to implement an informal work-out in restructuring may be proposed (i) by the debtor, where the debtor your jurisdiction? will submit a plan to an execution Court together with a petition, stating the reason for its request, or (ii) by a creditor, having the right Please see question 1.2. to request bankruptcy by submitting its petition, stating the reason for its concord request. 3.2 What formal rescue procedures are available in your Following the concord request, the execution Court may take the jurisdiction to restructure the liabilities of distressed necessary measures for the protection of the debtor’s assets and the companies? Are debt-for-equity swaps and pre- packaged sales possible? concord request will then be announced by the execution Court. Within 10 days following the announcement, creditors can object to the concord request. The execution Court will examine the concord Under Turkish law, the main types of restructuring of the company’s request and decide whether the request is appropriate or not. debts are concord restructuring and amicable restructuring. Postponement of bankruptcy is another formal rescue procedure for The concord will be deemed accepted in case it is signed by half of companies in financial difficulties. the total number of creditors who have been registered and by a two- thirds majority by value of creditors. In case the conditions required Concord restructuring is proposed by the debtor or a creditor to for the approval of the concord and mentioned in the Bankruptcy compromise certain liabilities in accordance with a plan. Law are fulfilled, the execution Court approves the relevant concord Amicable restructuring is applicable for the capital stock companies and the approval of the concord is announced. In case the Court and cooperatives. If a company is not able to pay its debts or its does not approve the concord or cancels the abovementioned receivables are not enough to recover its debts or if the company is concord period, it will immediately be decided for the bankruptcy under the threat of facing these steps, such company may apply to of the debtor upon the request of any creditor of the debtor. a Commercial Court in order to request an amicable restructuring.

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Amicable restructuring is applicable for capital stock companies and issues a report every three months on the improvement of and cooperatives. Banks and insurance companies are not entitled conditions. If the company fails to improve its condition and such to propose amicable restructuring as a debtor. If a company is not observation is included in the reports, the court may decide on the able to pay its debts or its receivables are not enough to recover cancellation of postponement. its debts or is under the threat of facing these steps, such company may apply to a Commercial Court in order to request the amicable 3.5 How are creditors and/or shareholders able to restructuring. influence each restructuring process? Are there any While applying to the Court, the company shall submit its restrictions on the action that they can take (including restructuring plan which has been previously negotiated and the enforcement of security)? Can they be crammed down?

accepted by the creditors who are affected by the terms of the plan, Turkey that is, the creditors whose rights and benefits will be restructured by the plan. Additionally, creditors who are invited to the negotiation Concerning the concord restructuring, in case the Court does of the restructuring plan are also deemed creditors who are affected not approve the concord or cancels the concord period, it will by the terms of the plan. immediately decide on the bankruptcy of the debtor upon the request of any creditor of the debtor. Creditors may then apply to After the company applies to Court together with the abovementioned the Court for the termination of the concord restructuring if it is plan and other documents related to its plan and required by the found that the debtor acted in bad faith in having the restructuring Bankruptcy Law, the Court determines a hearing date, announces proposal approved or that the debtor breaches the provisions of the such date and notifies the creditors who are affected by the terms of concord. Following termination, the bankruptcy proceedings may the plan, and holds a hearing in which opposing creditors have the be commenced against the debtor. opportunity to state their case. For the plan to become effective, the plan shall be accepted by the half of the total number of the creditors Concerning amicable restructuring, if the restructuring project and by a two-thirds majority by value of creditors who participated is successful, the debtor will continue to operate. However, if to the voting of the plan. An amicable restructuring plan must be the company breaches the terms of the amicable restructuring, approved by the Court. the company should seek to agree with creditors and to have an amendment approved by the Court to the restructuring proposal. If A debtor which is deep into debt may request within a bankruptcy agreement cannot be obtained, the creditor may apply to the Court lawsuit filed against the same or by filing a separate application for the termination of the amicable restructuring. In case the Court before the competent Commercial Court, the postponement of the realises that the company did not fulfil its obligation arising from the bankruptcy by submitting a project to restructure its financing, amicable restructuring, the Court will decide on the termination of primarily to the benefit of its creditors. Should the Court consider the restructuring and the bankruptcy of the company. the restructuring plan viable, it may grant to the company the postponement of bankruptcy for a period of one year. There are no other cram-down provisions in the Turkish insolvency legislation other than the concord and amicable restructuring process. Concord and amicable restructuring may include terms 3.4 Who manages each process? Is there any court that provide for the cram-down of creditors as a whole. However, involvement? this does not apply to public creditors and creditors whose claims are protected by pledge. Concerning concord restructuring, the concord officer is liable to supervise the acts of the debtor, report to the Execution Court and In the postponement of bankruptcy, some restrictions are imposed on inform the creditors regarding the concord period (Article 290 of creditors enforcing their rights over companies under postponement the EBL). of bankruptcy. For example, during the postponement period, no proceedings may be filed against the company and any proceedings Also, one or more concord liquidators shall be appointed by the previously initiated are suspended. Prescription periods and statute creditors. The concord officer may be appointed as a concord of limitations deadlines shall be suspended until the debtor is no liquidator (Article 309(a) of the EBL). Concord liquidators conduct longer under postponement of bankruptcy. It is important to note all actions regarding the protection, liquidation and, in some cases, that foreclosure proceedings, mortgage claims and commercial the transfer of the assets of the debtor (Article 309(c) of the EBL). pledges may be initiated or continued during such postponement Concerning amicable restructuring, if the court takes measures period. However, during the postponement period, protective to protect the debtor’s assets until its decision on ratification or measures cannot be taken by creditors and the sale of pledged rejection of the amicable restructuring plan, the creditors and debtor property cannot be performed. – or, if the same fail to agree on one, the court – can appoint one or more mid-term auditors who have the necessary knowledge, 3.6 What impact does each restructuring procedure have experience and characteristics agreed by the creditors and debtor on existing contracts? Are the parties obliged to to assume responsibility for directing, managing and supervising perform outstanding obligations? Will termination and the debtor’s activities from the date of appointment until the court’s set-off provisions be upheld? ratification or rejection of the plan (Article 309(ö) of the EBL). In the event that the plan is ratified by the court, it may in its With respect to the concord restructuring, the mutual agreements ratification decision appoint one or more plan supervisors, who which are not executed shall not be terminated in case of concord will have the authority to supervise and monitor whether the plan is restructuring; however, the creditor (a party who is not in concord being fulfilled and to report on the situation to the creditors (Article restructuring) can request a guarantee for its receivable and can 309(p) of the EBL). otherwise terminate the agreement. With respect to the postponement of bankruptcy, if the court With respect to amicable restructuring, the restructuring project’s considers the recovery project serious and persuasive, it may terms will override all agreements executed with creditors affected postpone bankruptcy. The company may continue its operations but by the project. In addition, the following rules in agreements to at this stage an administrator is assigned by the court to the company which the debtor was a party will not apply, regardless of whether

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the agreements were concluded with creditors that are affected by Bankruptcy the project: Bankruptcy occurs when overdue debt has not been paid by the ■ Rules that could lead to the amendment or termination of the debtor. However, the debtor may request his own bankruptcy by project. declaring that he is in insolvency, before stopping his payments and ■ Rules providing that a debtor’s use of restructuring is an act before waiting his creditors to apply to the execution proceedings. of default or breach of the agreement. Ordinary Bankruptcy In the postponement of bankruptcy, the company must continue its Ordinary bankruptcy involves a creditor bringing bankruptcy operations to improve its financial situation without causing harm to proceedings against a debtor. Bankruptcy can only apply to its creditors. Therefore, both the company and its creditors are obliged merchants (that is, an entity or a person engaged in the purchase Turkey to perform outstanding obligations. However some restrictions are and sale of commodities for profit), in relation to their unpaid (and imposed on creditors enforcing their rights over companies under due) debts. postponement of bankruptcy. Please see question 3.5. Special Bankruptcy A creditor who holds negotiable instruments (cheques, bonds or 3.7 How is each restructuring process funded? Is any promissory notes) can bring special bankruptcy proceedings for protection given to rescue financing? negotiable instruments against the debtor.

As per Article 298 of the EBL, court expenses and charges shall Direct Bankruptcy be deposited in advance by the debtor before the rendering of the Direct bankruptcy is possible where the debtor company’s liabilities approval of concord decision. Pursuant to the Annex of the Law of are greater than its current assets. Individuals authorised to manage Charges, a fixed charge shall be paid while applying for a concord and represent those companies or co-operatives, or any of the request. Moreover, 1.138 per cent of the amount determined to creditors, can apply for the debtor’s bankruptcy. be distributed among the creditors shall also be paid as a pro rata Direct bankruptcy can be applied to upon creditor or debtor demand charge. (in the form of voluntary bankruptcy or obligatory bankruptcy). In addition, expert examination, announcement expenses, concord Moreover, a separate direct bankruptcy reason is foreseen in law officer expenses and other service expenses shall also be paid by the for companies, which occurs when the liabilities of a company are debtor in advance. more than its assets. Pursuant to the same Article, the debtor must deposit sufficient security, which shall ensure payment of privileged receivables and 4.3 Who manages each winding up process? Is there any also payment of debts arising from the agreements executed during court involvement? the concord period upon approval of the concord officer in full and to ensure fulfilment of the entire concord transaction. Following the bankruptcy decision, the court notifies such decision In the postponement of bankruptcy, the expenses shall also be paid to the Bankruptcy Office, which prepares a list of the company’s by the debtor company. assets, takes the necessary measures regarding the assets before the bankruptcy table and calls a first creditors’ meeting. 4 Insolvency Procedures At the first creditors’ meeting, after a number of individuals are proposed to be the bankruptcy manager, such candidates for the bankruptcy managers are notified to the Execution Court. 4.1 What is/are the key insolvency procedure(s) available Accordingly, the Execution Court appoints the bankruptcy managers to wind up a company? which constitute the bankruptcy management. Within one month after the declaration of the bankruptcy, the The insolvency procedure types provided by the EBL are: voluntary creditors shall register to the bankruptcy management. After bankruptcy; and bankruptcy (ordinary bankruptcy, special the registry period provided for the creditors has expired and bankruptcy, direct bankruptcy). the bankruptcy management has been elected, the bankruptcy management examines the registrations, and prepares a list of 4.2 On what grounds can a company be placed into each creditors, stating the orders of the creditors for the payment, submits winding up procedure? the relevant list to the bankruptcy office, and notifies the creditors by way of announcement. Voluntary Bankruptcy The Bankruptcy Administration, after determining the creditors, When a joint stock company suffers losses which reduce its paid shall invite to the second meeting the creditors whose claims are up share capital by two-thirds, the board of directors is required to accepted by the bankruptcy administration in part or in whole and call an extraordinary general assembly meeting. At this meeting the who have filed a suit for inclusion in the schedule of ranking, and shareholders must resolve either to compensate the company in cash accepted to attend the meeting. for the accumulated loss or to decrease the company’s paid up share The powers of the second creditors’ meeting are more extensive capital to one-third of its existing share capital. than the first meeting. The second meeting of creditors decides as If the shareholders do not take one of these steps, the board of to whether the bankruptcy administration shall continue to its work directors is required to file a lawsuit before the relevant Commercial or not, claims of ownerships, whether the suspended lawsuits shall Court of First Instance to request the Court to declare the company continue or not, sale of certain goods by bargaining and the concord bankrupt. If the board of directors does not file a voluntary offer made by bankrupt. bankruptcy lawsuit, each director shall be personally and jointly If the majority of the creditors request it and the bankruptcy and severally liable for any and all real damages incurred by the administration deems it necessary, the creditors may be invited to creditors and the shareholders of such company. other meetings.

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In principal, sale in bankruptcy is made after the second meeting of partially fulfilled or not and whether the contract already includes a creditors. The bankrupt’s estate shall be sold and distributed by the specific provision for bankruptcy. bankruptcy administration. While it is possible to continue the business operation for the After the liquidation of bankruptcy is over, bankruptcy shall not be management of the company until the bankruptcy decision is closed automatically. The Commercial Court, which has commenced rendered, after the opening of the bankruptcy, since the management the bankruptcy, has to decide on closing as well. The Bankruptcy will have no disposal and/or representation authority, continuance of Administration shall request the closing of bankruptcy by giving a the business operation by the management is not legally possible. final report to the Commercial Court. After the examination, if the On the other hand, it is possible for the bankruptcy administration Commercial Court determines that the liquidation has been made in to continue the business. Following bankruptcy, the bankruptcy accordance with the legal requirements, it decides on the closing of administration will be entitled to continue (to execute) the existing Turkey bankruptcy. (not yet executed/performed) contracts but is not obliged to do so (Article 198 of the EBL). If execution of the contract (performance 4.4 How are the creditors and/or shareholders able to of the bankrupt’s obligation arising from the contract) is more influence each winding up process? Are there any beneficial for the bankrupt’s estate, the bankruptcy administration restrictions on the action that they can take (including shall prefer to execute the contract. Otherwise, the subject of the the enforcement of security)? contract will be converted into money and registered as bankruptcy receivable on the bankruptcy estate. Any proceedings that were started against the debtor for debt recovery before its bankruptcy are suspended on the commencement of bankruptcy (that is, the judgment of the court) and terminated 4.6 What is the ranking of claims in each procedure, when the bankruptcy decision becomes conclusive (that is, after the including the costs of the procedure? finalisation of the appeal process). Property that is pledged/mortgaged forms part of the bankruptcy In case of distribution of money, the Bankruptcy Office shall estate and a party with a prior perfected pledge/mortgage has distribute the amount as per Articles 206 and 207 of the EBL. In a preferential right to the proceeds of the pledged property. The such case, receivables of preferred creditors are firstly taken into pledged/mortgaged assets will be sold in the earliest and appropriate consideration by the Bankruptcy Office. Ordinary creditors shall be time by the bankruptcy administration and the proceeds will be paid only after the preferred creditors are fully satisfied. Concerning paid to the pledgee/mortgagee without waiting for the end of the a receivable arising out from a contract, please kindly note that such liquidation. receivable is in principle an ordinary receivable unless it is secured by a pledge or mortgage. On the other hand, the pledgee/mortgagee may initiate an execution by way of foreclosure of the pledge/mortgage against the bankruptcy The liabilities of the estate (debts of the bankrupt) are determined by estate following the declaration of the bankruptcy. If the pledged/ schedule of ranking. The accepted portion and rank of every credit mortgaged property is insufficient to discharge the debt, the pledgee registered to the estate and every claim other than ownership claims is an unsecured creditor for the remainder. shall be shown in a schedule of ranking. It should also be noted that, pursuant to Article 245 of the EBL, in Once the costs of procedure are paid, property that is pledged/ case a claim of the bankrupt company was deemed as unnecessary mortgaged forms part of the bankruptcy estate and a party with to pursue by the bankruptcy administration, such claim may be a prior perfected pledge/mortgage has a preferential right to the transferred to any requesting creditor. If the latter succeeds in such proceeds of the pledged property. The pledged/mortgaged assets claim, the amount to be obtained will be received by the relevant will be sold in the earliest and appropriate time by the bankruptcy creditor after deducting the expenses. administration and the proceeds will be paid to the pledgee/ mortgagee without waiting until the end of the liquidation. 4.5 What impact does each winding up procedure have on On the other hand, the pledgee/mortgagee may initiate an execution existing contracts? Are the parties obliged to perform by way of foreclosure of the pledge/mortgage against the bankruptcy outstanding obligations? Will termination and set-off estate following the declaration of the bankruptcy. provisions be upheld? If the pledged/mortgaged property is insufficient to discharge the debt, the pledgee is an unsecured creditor for the remainder. The effect of opening of bankruptcy on the existing contracts of the bankrupt is a very comprehensive issue depending on the type The receivables secured but not covered by a pledge/mortgaged and terms and conditions of the contract. In that regard, there is or unsecured receivables are registered in order to be paid in the not a single general provision in the EBL explaining and covering following order: consequences related to all types of contracts. Some of the existing 1. First Rank: contracts might be deemed as terminated upon opening of bankruptcy. a. Receivables of the employees including severance and For instance, contracts related to usufructuary lease (“hasılat kirası” notice pays arising from the employment relation and in Turkish), financial lease, mandate, commission, agency, ordinary accrued for the year before the opening of the bankruptcy partnership and current account (“cari hesap” in Turkish) might be together with the severance and notice pays they earn deemed as automatically terminated upon bankruptcy. On the other due to the termination of the employment relation due to hand, some of the existing contracts are not terminated despite the bankruptcy. bankruptcy. For instance, contracts related to sale, barter (“trampa” b. The debts of the employers to the foundations and in Turkish), donation, ordinary lease, commodatum (“ariyet” in institutions which had been established and become Turkish), mutuum (“karz” in Turkish), service (employment), legal entities in order to form provident fund or other aid construction, insurance and surety (“kefalet” in Turkish) might still institutions for the employees and in order to perpetuate be deemed as not terminated despite the opening of bankruptcy. such. However, the circumstances of each specific case must be evaluated c. All sorts of alimony receivables arising from family law separately depending on which party is declared bankrupt, whether which had accrued for the year before the opening of the the obligations are fulfilled and, if so, whether these have been bankruptcy, which shall be paid in cash.

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2. Second Rank: Receivables of the persons whose properties are of corporations going into the liquidation process, the liquidation entrusted to the debtor because of parentship and appointed period shall be considered instead of the fiscal period. guardianship. However, such receivables are considered According to subparagraph (a) of Article 17 paragraph (1) of the preferential receivables in cases where the bankruptcy is opened within the duration of the parentship or appointed CIT Code, the liquidation process starts on the registration date of guardianship or within the year that followed their expiry. the General Assembly resolution, resolving that the company goes The time in which the lawsuit or prosecution continued is not into the liquidation and such process is completed on the registration taken into account in the calculation. date of the liquidation resolution. 3. Third Rank: Receivables which had been determined as In cases where the liquidation is closed with loss, the liquidation preferential receivables under special laws. result shall be corrected towards the previous liquidation periods

Turkey 4. Fourth Rank: Unprivileged claims (that is, claims which do and the taxes overpaid in the previous periods shall be refunded to not fall within the above categories, such as shareholders’ the taxpayer. claims). If the liquidation process starts and concludes within the same All the creditors in a category must be satisfied before creditors calendar year, the liquidation tax return shall be submitted to the in the following category are paid. If the remaining money is not affiliated tax office within 30 days following the date on which the sufficient to cover the unprivileged receivables, it will be distributed liquidation is concluded. If it is not the case and those are realised between those creditors in proportion to their receivables. in different calendar years, the liquidation tax return for each In addition to abovementioned bankruptcy receivables, there liquidation period shall be submitted to the tax office from the first are also some other amounts which can be requested from the day until the evening of the 25th day of the fourth month following bankrupt’s estate. These amounts constitute the expenses made the month when the liquidation period is closed. by the Bankruptcy Office or Bankruptcy Administration (on behalf As per Article 17 paragraph (4) of the CIT Code, the tax base of of bankrupt’s estate) from the declaration of bankruptcy until the a corporation which goes into liquidation shall be the liquidation finalisation of the liquidation procedure. For instance, expenses profit. The liquidation profit is the positive difference between the regarding announcement of the bankruptcy decision, keeping value of the assets at the end of the liquidation period, and the value records of the assets and debts of the bankrupt company, protection of the assets as at the date of the commencement of the same. of the assets (storage) registered with the bankrupt’s estate, fees of During the calculation of the liquidation profit: the liquidators, etc., constitute some examples of these expenses, ■ any and all kinds of payments that were made to the called “estate debts”. Payments regarding estate debts have priority shareholders or to the owners of the corporation as an over bankruptcy receivables. advance or otherwise shall be added to the value of the assets which is calculated at the end of the liquidation; and 4.7 Is it possible for the company to be revived in the ■ the payments that were made by the shareholders or the future? owners of the corporation in addition to the current capital, and the earnings and the proceeds obtained during the As a matter of fact, once declared bankrupt, it will not be possible liquidation, which were exempt from tax, shall be added to the value of the assets which is calculated at the beginning of for the bankrupt company to continue its business since the entire the liquidation period. movable and immovable assets shall be entered to the bankrupt’s estate and the control of such shall belong to the bankruptcy On the other hand, during the calculation of the liquidation profit, administration. After the liquidation is over, if the Commercial related provisions of the CIT Code in relation to the deductible Court determines that the liquidation has been made in accordance expenses, loss deduction, other deductions and non-deductible with the legal requirements, it decides on closing the bankruptcy. expenses shall be taken into consideration. Upon calculation of the net liquidation profit, the corporate income tax at the rate of 20 per Pursuant to Articles 529 and 545 of the TCC, upon bankruptcy of cent shall be declared and paid over such profit. a company and completion of its liquidation, the company must be removed from the commercial registry whereby its legal personality Without setting aside a provision in accordance with Article 207 will be terminated. However, as per Article 547 of the TCC, if it of the EBL for i) taxes already accrued on behalf of the company, is determined that the liquidation was not duly accomplished and ii) taxes calculated according to the liquidation tax returns, and iii) an additional liquidation must be performed, upon the request of other disputed tax assessments, liquidation officers cannot pay the the board members, creditors, shareholders or liquidation officers, creditors stated in Article 206 paragraph (4) of the EBL and cannot the competent Commercial Court may decide that the company make distribution to the shareholders. Otherwise, such officers shall be restituted before the commercial registry for an additional be held liable for the actual taxes and surcharges, and tax penalties liquidation. in person jointly and severally. From any and all kinds of tax assessments and tax penalties owed by companies who have already been liquidated and the legal 5 Tax personality of whom have been cancelled from the trade registry, those which pertain to the pre-liquidation period shall be imposed 5.1 Does a restructuring or insolvency procedure give on behalf of one of the liquidator officers, and those which pertain rise to tax liabilities? to the liquidation period shall be imposed on behalf of the legal representatives as they will be held as severally liable. In terms of taxation, a corporation which goes bankrupt shall be On the other hand, for public receivables (including taxes, etc.) subject to the liquidation process which is regulated under Article which pertain to the pre-liquidation period, shareholders of limited 17 of the Corporate Income Tax Code (the “CIT Code”) (Law companies shall be held liable, limited to the share capital that they No. 5520) (published in the Official Gazette dated June 21, 2006, invested to the company. The liquidation officer’s liability is limited No. 26205). Pursuant to said Article, with respect to the taxation with the amount distributed as a result of the liquidation.

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execute bankruptcy procedures and bankruptcy judgments of other 6 Employees jurisdictions granted for a Turkish entity. However, a decision given for a foreign entity may be enforced in Turkey following the 6.1 What is the effect of each restructuring or insolvency enforcement and recognition process. procedure on employees? 7.3 Do companies incorporated in your jurisdiction In all procedures, credits arising from the compensation to be restructure or enter into insolvency proceedings in paid by the employers regarding the employment agreements are other jurisdictions? Is this common practice? determined to be the first rank of unsecured credits and are paid after satisfaction of the secured creditors. Please also see our As explained above under question 7.2, since the competence of Turkey explanations under question 4.6. Turkish courts over the bankruptcy and restructuring proceedings pertains to the matter of public order and is exclusive, Turkish authorities do not recognise or execute bankruptcy procedures and 7 Cross-Border Issues bankruptcy judgments of other jurisdictions granted for Turkish entities. Therefore, it is not a common practice for Turkish 7.1 Can companies incorporated elsewhere restructure companies to enter into insolvency or restructuring proceedings in or enter into insolvency proceedings in your other jurisdictions. jurisdiction?

Pursuant to Article 154 of the EBL, the competence of the 8 Groups Commercial Court at the place where the debtor’s business centre is located pertains to the matter of public order and is exclusive. 8.1 How are groups of companies treated on the Accordingly, the same Article provides that it is not possible execute insolvency of one or more members? Is there scope jurisdiction agreements with respect to bankruptcy lawsuits, thus for co-operation between officeholders? the bankruptcy lawsuits must be filed before the Commercial Court at the place where the debtor’s business centre is located. There is no specific provision pertaining to the insolvency of the Pursuant to Articles 285 and 309/m of the EBL, the Commercial members of groups of companies and co-operation in this regard. Court at the place where the debtor’s business centre is located also has jurisdiction over the concord restructuring and amicable restructuring applications. 9 Reform Therefore, companies incorporated abroad cannot enter into insolvency proceedings in Turkey. 9.1 Are there any proposals for reform of the corporate rescue and insolvency regime in your jurisdiction? 7.2 Is there scope for a restructuring or insolvency process commenced elsewhere to be recognised in Currently there are no proposals for reform of the corporate rescue your jurisdiction? and insolvency regime under Turkish law.

Due to the principles of territoriality and sovereignty explained above under question 7.1, Turkish authorities do not recognise or

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Gökben Erdem Dirican Umut Korkmaz Pekin & Pekin Pekin & Pekin Lamartine Cad. No: 10 Lamartine Cad. No: 10 Taksim, 34437, Istanbul Taksim, 34437, Istanbul Turkey Turkey

Tel: +90 212 313 3511 Tel: +90 212 313 3500 Email: [email protected] Email: [email protected] URL: www.pekin-pekin.com URL: www.pekin-pekin.com Turkey Recognised by European Legal Experts (2011) as one of the few top- Umut joined Pekin & Pekin in 2014 as a full-time Dispute Resolution tier litigators in Turkey, Gökben leads the Dispute Resolution team trainee having completed the first half of his legal internship inan in the Firm and is particularly cited for her banking aptitude. She Istanbul-based international law firm. He is a member of Galatasaray represents mainly international clients in matters of litigation, arbitration University Alumni Association. He is fluent in English and French. and alternative dispute resolution, and her areas of practice include commercial law and tax law, corporate fraud and economic crime, debt execution, restructuring, insolvency and bankruptcy, competition, labour law and intellectual property. Her knowledge of the Turkish legal system, strategic approach and ability to see the bigger picture regarding the sector in question, as well as the political and business environments, ensure she attains successful results. Within Turkey, Gökben is viewed by peers as a particularly accomplished litigator who has worked on some of the largest and most complex corporate legal cases within the jurisdiction, and as a lawyer who is committed to developing her practice area.

Pekin & Pekin is a full-service Turkish law firm based in Istanbul. The Firm advises mainly international clients on cross-border transactions in Turkey and, over the 40 years since its establishment, has gained broad experience in both international and Turkish law. Key to the success of the Firm is the four-partner Dispute Resolution team, providing specialist representation in complex litigation, arbitration, regulatory and risk management matters and assisting in the enforcement of foreign judgments and arbitral awards in Turkey. A member of Lex Mundi, TerraLex and SEE Legal, and local advisor to ISDA and ICMA, the Firm is committed to excellence and has a culture of participation and success, driving all to exceed client objectives. For more on Pekin & Pekin, visit: www.pekin-pekin.com.

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USA Alan W. Kornberg

Paul, Weiss, Rifkind, Wharton & Garrison LLP Elizabeth R. McColm

director to discharge duties with the care an ordinarily prudent person 1 Overview in a like position would exercise under similar circumstances. The duty of loyalty requires directors to act in the best interests of the 1.1 Where would you place your jurisdiction on the corporation; it prohibits self-dealing and the usurpation of corporate spectrum of debtor to creditor-friendly jurisdictions? opportunities by directors. Ordinarily, decision-making by directors is protected by the business judgment rule, even when a company is The United States likely sits near the middle of the spectrum. The insolvent. Civil liability may arise if the directors fail to adhere to United States could be considered debtor-friendly as compared to their duties of loyalty or care. some regimes in that management is typically permitted to retain In general, when a company becomes insolvent, the directors must operating control of the business, debtors have exclusive authority exercise their fiduciary duty in the best interests of the corporation, to propose a plan of reorganisation at the outset of a case, and taking into account the interests of, among others, creditors. Upon debtors are given powers, such as the option to reject unprofitable insolvency, creditors may under certain circumstances bring contracts, that they are not afforded outside of a formal insolvency derivative claims on behalf of the corporation against directors. proceeding. However, the United States could also be considered Causes of action for breach of fiduciary duty, fraud and fraudulent creditor-friendly as compared to some jurisdictions in that the conveyance may be appropriate to challenge the wrongful actions of process is designed to be public and transparent, creditors are given directors of insolvent corporations. a voice in the restructuring process, and creditors are afforded In addition, directors may be criminally or civilly liable under significant protections by the Bankruptcy Code. federal and state laws for failure to comply with certain disclosure obligations or for insider trading, or for the company’s failure to pay 1.2 Does the legislative framework in your jurisdiction certain taxes and wages, among other things. allow for informal work-outs, as well as formal restructuring and insolvency proceedings, and are each of these used in practice? 2.2 Which other stakeholders may influence the company’s situation? Are there any restrictions on the action that they can take against the company? While informal out-of-court restructurings are commonplace and are typically implemented by contract by and among the relevant While in financial difficulty, but prior to a bankruptcy filing, a parties, there is no specific legislative framework to sanction such company’s creditors, contract counterparties, employees, and work-out procedures. The relevant statute, the Bankruptcy Code, interested acquirers, among others, may all attempt to influence provides for formal court-supervised proceedings, although the the company’s situation within the bounds of whatever contractual Bankruptcy Code has several provisions which encourage pre- agreements may exist and applicable law. For this reason, and to petition restructuring negotiations. make any potential insolvency process smoother, a company in financial distress will oftentimes seek to engage its stakeholders in 2 Key Issues to Consider When the restructuring discussions prior to beginning an insolvency process. Company is in Financial Difficulties 2.3 In what circumstances are transactions entered into by a company in financial difficulties at risk of 2.1 What duties and potential liabilities should the challenge? What remedies are available? directors/managers have regard to when managing a company in financial difficulties? Is there a specific Transactions entered into by an entity in financial distress may be point at which a company must enter a restructuring or insolvency process? attacked as an actual or constructive fraudulent transfer or as a preference under the Bankruptcy Code and/or state law. Directors are not personally liable for continuing to trade while the Under the Bankruptcy Code, a transfer may be avoided as fraudulent company is in financial distress. if it occurred within two years before the bankruptcy filing, and the The fiduciary duties of a company’s directors are defined by the law debtor made the transfer with actual intent to defraud creditors, of the state of the company’s incorporation. The primary duties of regardless of whether the debtor was insolvent. In addition, a trustee directors are those of care and loyalty. The duty of care requires a (or debtor in possession) may recover a transfer as constructively

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fraudulent that occurred within two years before the bankruptcy An involuntary case may be commenced under chapter 11 by three or filing if the debtor received less than reasonably equivalent value in more creditors that hold non-contingent, undisputed claims against exchange for such transfer, and (i) was insolvent, (ii) was engaged the company. The creditors (or an indenture trustee representing in business for which the debtor was insufficiently capitalised, (iii) them) must hold claims that aggregate $15,775 more than the value intended or believed it would incur debts beyond its ability to repay, of any collateral securing the creditors’ claims. If there are fewer or (iv) made such transfer to, or for the benefit of, an insider under than 12 creditors, a single creditor may file the petition. If the case an employment contract and not in the ordinary course. Bankruptcy is not timely controverted, the court will order relief. However, if trustees (or debtors in possession) can also invoke state fraudulent the petition is controverted, the creditors must establish that the transfer laws, which may have longer reachback periods, to recover debtor is generally not paying its debts as they come due unless

USA transfers for the benefit of the estate. such debts are disputed, or that a custodian was appointed within A transfer of an interest of the debtor in property made on account 120 days of the petition date. Involuntary petitions filed in bad faith of an antecedent debt, while the debtor was insolvent and within the may result in damages awarded against the petitioning creditor(s). 90 days prior to a bankruptcy filing (or within one year before the bankruptcy filing if the transferee was an insider) that enables the 3.4 Who manages each process? Is there any court creditor to receive more than it would have received in a liquidation, involvement? can be avoided as a preference. There is a rebuttable presumption that a debtor is insolvent during the 90 days before the bankruptcy filing. Under chapter 11, management retains control, remains “in Transactions determined to be preferential or constructively possession”, and continues to run the daily business operations of fraudulent can be avoided or reversed so as to return the parties the debtor company, subject to oversight by the company’s board of to their original positions. This can be effectuated through the directors. A chief restructuring officer or similar professional often recovery of payments or unwinding of entire transactions. is added to the management team. Transactions which are not in the ordinary course of business require bankruptcy court approval. Official and unofficial committees generally consult with the debtor 3 Restructuring Options concerning the administration of the estate, may investigate conduct, assets and liabilities of the debtor and participate in the formulation 3.1 Is it possible to implement an informal work-out in of a plan. A chapter 11 trustee may be appointed where there has your jurisdiction? been gross mismanagement or fraud. The court closely supervises proceedings under chapter 11. While out-of-court restructurings are commonplace and are typically implemented by contract by and among the relevant parties, there 3.5 How are creditors and/or shareholders able to is no procedure by which a court will sanction such work-outs. influence each restructuring process? Are there any To receive the sanction of a court, a case must be filed under the restrictions on the action that they can take (including Bankruptcy Code. the enforcement of security)? Can they be crammed down?

3.2 What formal rescue procedures are available in your jurisdiction to restructure the liabilities of distressed The filing of a bankruptcy petition automatically operates as a stay companies? Are debt-for-equity swaps and pre- that enjoins secured and unsecured creditors from taking most packaged sales possible? actions against the debtor or property of the estate absent further order of the court. The stay of actions against the debtor’s property Chapter 11 is the primary procedure by which companies restructure; continues until such property is no longer property of the estate or although it may also be used for the purposes of an orderly the case is closed or dismissed. liquidation. Chapter 15 provides the procedure for recognition of A chapter 11 restructuring aims to foster cooperation between a foreign insolvency or restructuring proceeding and for conducting management (which may include significant shareholders) and the an ancillary proceeding in the United States. Ancillary proceedings Company’s creditors to agree on a value-maximising path forward are those in aid of a “foreign proceeding” administered by a foreign for the Company. Shareholders and creditors alike are welcome to representative and designed to foster cooperation between US and propose transactions that could lead to the Company’s emergence foreign courts. from bankruptcy; however, only the company has the right to Debt-for-equity swaps are possible both in-court and out-of-court. propose a plan of reorganisation and solicit its acceptance for at least Depending on the terms of the debt-for-equity swap, existing the first 120 days following the date of the filing; such time period equity may be substantially diluted or, if the valuation supports it, is often extended beyond 120 days by the Court but may not be eliminated altogether. extended beyond 18 months following the date of the filing. “Pre-packaged” sales may be achieved either by means of (i) a pre- Secured creditors have certain special rights, however. A secured packaged chapter 11 plan, which the Bankruptcy Code is designed creditor may be entitled to adequate protection in the form of cash to facilitate, or (ii) a sale under section 363 of the Bankruptcy Code payments, replacement liens or the “indubitable equivalent” of the which has been negotiated by the parties and documented prior to value of its collateral to the extent such value is depreciating as a the chapter 11 petition being filed. result of the stay or the debtor’s use of such collateral. If secured creditors are oversecured, they have the right to receive post-petition interest generally at the applicable contract rate. Secured creditors 3.3 What are the criteria for entry into each restructuring may also be well-positioned to provide debtor-in-possession procedure? financing, which may provide the secured creditor greater influence over the reorganisation process. Secured creditors generally are Insolvency is not a prerequisite for chapter 11 relief. A company also afforded the right to credit bid in a sale of their collateral. may file a voluntary case under chapter 11 if the company has a domicile, place of business or property in the United States.

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Cramdown off rights under certain types of repurchase agreements and other In a chapter 11 case, a dissenting class of creditors or interests may specified financial contracts may exercise such rights without be crammed down if (i) at least one class of impaired claims has violating the stay. voted to accept the plan, and the plan (ii) does not discriminate unfairly, and (iii) is “fair and equitable”. 3.7 How is each restructuring process funded? Is any It is generally understood that a plan does not unfairly discriminate protection given to rescue financing? if the dissenting class receives relatively equal value under the plan as compared to similarly situated classes. A trustee or debtor in possession may use free cash in the ordinary A plan is fair and equitable if it complies with the absolute priority course of business without notice or a hearing, unless the court USA rule. With respect to secured creditors, members of the class must: orders otherwise. The debtor may not use encumbered cash unless (i) retain their liens and receive deferred payments with a value each entity with an interest in the cash collateral consents or the equal to the allowed amount of their secured claims, valued as of court authorises such use upon a finding of adequate protection. the effective date of the plan; (ii) receive the proceeds from the A trustee or debtor in possession may also obtain unsecured sale of their collateral, if such property is to be sold, including the financing in the ordinary course of business that will be allowed as right to a credit bid at any such sale; or (iii) receive the “indubitable an administrative priority expense to pay the actual and necessary equivalent” of their secured claims. costs of preserving the estate, including the payment of wages and A plan is fair and equitable with respect to unsecured creditors if salaries after the commencement of the case, as well as taxes. the members of the class receive property of a value equal to the If the trustee or debtor in possession is unable to obtain unsecured allowed amount of their unsecured claims, or if such class is not financing that would be allowed as an administrative priority paid in full, no junior class will receive any estate property under expense, the Bankruptcy Code contains a framework for permitting the plan. other types of debtor-in-possession financing, including: (i) unsecured financing allowed as a “superpriority” expense with 3.6 What impact does each restructuring procedure have priority over all other administrative priority expenses; (ii) financing on existing contracts? Are the parties obliged to secured by unencumbered estate property; (iii) financing secured perform outstanding obligations? Will termination and by a junior lien on previously encumbered estate property; and set-off provisions be upheld? (iv) financing secured by an equal or priming lien on previously encumbered property (so long as the trustee or debtor in possession A chapter 11 debtor may assume or reject most executory contracts is unable to obtain financing otherwise and each holder of a lien on or unexpired leases, subject to the court’s approval. Subject to time such property is adequately protected). limits applicable to commercial real estate leases, the debtor may assume or reject a contract or lease at any time before confirmation of a plan, but the court may order the debtor to act within a shorter 4 Insolvency Procedures time. In most cases, the counterparty to the contract must continue to perform until the debtor assumes or rejects the contract; a contract term that provides for termination upon a bankruptcy filing is 4.1 What is/are the key insolvency procedure(s) available typically unenforceable under the Bankruptcy Code, though there to wind up a company? are exceptions. If a debtor chooses to assume the contract or lease, it will be bound Chapter 7 provides the procedure for liquidation of a company. As by the contract’s terms. The debtor may not assume such contract noted above, although chapter 11 is the primary procedure by which or lease unless it: (i) cures or provides adequate assurance that it will companies restructure, it may also be used for the purposes of an cure any default; (ii) compensates, or provides adequate assurance orderly liquidation. that it will compensate, the counterparty for any actual pecuniary losses resulting from the default; and (iii) provides adequate 4.2 On what grounds can a company be placed into each assurance of future performance under the contract or lease. winding up procedure? However, a debtor does not have to cure a default that arises because of a provision in the contract conditioned on the insolvency of the Insolvency is not a prerequisite for chapter 7 or chapter 11 relief. debtor. The debtor may not assume a contract where applicable law A company may file a voluntary case under chapter 7 or chapter 11 excuses the counterparty to the contract from accepting performance if the company has a domicile, place of business or property in the from, or rendering performance to, an entity other than the debtor, United States. such as a personal services contract. The grounds for commencing an involuntary case under chapter 7 A debtor may reject a contract where it determines that performance are the same as the grounds for commencing an involuntary case of the contract would be unduly burdensome. Rejection of an under chapter 11. See question 3.3 for further detail. executory contract or unexpired lease constitutes a breach and generally gives rise to a general unsecured claim for damages. If a contract or lease has been assumed, the debtor usually may 4.3 Who manages each winding up process? Is there any assign it, notwithstanding a provision in the contract that prohibits court involvement? or conditions such an assignment. In chapter 7, a trustee is appointed to marshal the assets of the The Bankruptcy Code generally preserves a creditor’s non- company, reduce them to cash and pay creditors. Officers and bankruptcy set off rights. A claim for set off is treated as a secured claim and a creditor seeking to exercise such right must first obtain directors are displaced. Courts closely supervise the chapter 7 relief from the automatic stay. However, creditors that possess set process. As discussed in question 3.4, management generally remains in possession during a chapter 11 case, even if the company is liquidated during such case.

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While cancellation of indebtedness typically gives rise to taxable 4.4 How are the creditors and/or shareholders able to income under United States tax law, debt cancelled in a chapter 11 influence each winding up process? Are there any or chapter 7 case is not included as taxable income. restrictions on the action that they can take (including the enforcement of security)? 6 Employees Secured creditors are prevented from enforcing their security in the same manner in chapter 7 as they are in chapter 11. See question 3.5 for further detail. Unsecured creditor interests are most often 6.1 What is the effect of each restructuring or insolvency represented by an official committee. While shareholders have procedure on employees? USA standing to be heard, they generally have less influence in a chapter 7 case because the company is set to be liquidated by the trustee In chapter 11, the company may continue to employ its workers and rather than restructured. to pay their salaries and wages in the ordinary course of business. To the extent the company owes pre-petition salaries and wages, claims therefor will be entitled to priority status but only to the 4.5 What impact does each winding up procedure have on extent of $12,850 for each individual earned within 180 days before existing contracts? Are the parties obliged to perform the bankruptcy filing. outstanding obligations? Will termination and set-off provisions be upheld? The Bankruptcy Code restricts payments to “insiders”. Before a company incurs an obligation to retain such a person, the court A chapter 7 trustee or chapter 11 debtor may assume or reject most must determine, among other things, that the obligation is essential executory contracts or unexpired leases, subject to the court’s because such person has received a job offer at the same or a approval. See question 3.6 for further detail. greater rate of compensation and that the obligation incurred is In chapter 7, the trustee must assume a contract or lease within 60 not greater than ten times the amount of an obligation incurred to days of the order for relief or it will be deemed rejected, unless an non-management employees. A severance payment to an “insider” extension of time is granted by the court within such 60-day period. officer or director may not be allowed or paid unless the payment is part of a programme generally applicable to all full-time employees and the amount of the payment is not greater than ten times the mean 4.6 What is the ranking of claims in each procedure, amount of severance pay provided to non-management employees. including the costs of the procedure? A chapter 7 trustee will likely terminate most employees. They will hold administrative priority claims for post-petition labour and Claims of secured creditors are entitled to priority with respect to lower priority claims for any pre-bankruptcy filing wages owing to their interests in collateral and are secured only to the extent of such the extent described above. interests. If a creditor is undersecured to some extent, such portion is treated as a general unsecured claim. The Bankruptcy Code confers priority on various categories of 7 Cross-Border Issues claims. All claims in a higher priority must be paid in full before claims with a lower priority may be paid. First priority is reserved 7.1 Can companies incorporated elsewhere restructure for unsecured claims for certain domestic support obligations (if or enter into insolvency proceedings in your the debtor is an individual). Second priority is conferred on claims jurisdiction? for expenses incurred in connection with the administration of the estate. Administrative priority expenses include wages and salaries A company may file a voluntary case under chapter 7 or chapter 11 for employees for post-petition services rendered and compensation if the company has a domicile, place of business or property in the for professionals retained in the case, including a chapter 7 trustee. United States. Such company may also commence a chapter 15 case Lower priority categories include claims for certain pre-petition in the United State for recognition of a judicial or administrative wages and employee benefit plan contributions and pre-petition tax proceeding in a foreign country. claims, among others. General unsecured claims generally rank equally with each other. 7.2 Is there scope for a restructuring or insolvency process commenced elsewhere to be recognised in 4.7 Is it possible for the company to be revived in the your jurisdiction? future? Yes. Chapter 15 cases are commenced by a foreign representative While the company as an entity is typically dissolved after its assets filing a petition for recognition of a foreign proceeding inaUS are liquidated, assets of the company, such as the brand name or bankruptcy court. A foreign proceeding is a collective judicial or business model, may be acquired for use in a new venture. administrative proceeding in a foreign country in which the assets and affairs of a debtor are subject to control or supervision by a 5 Tax foreign court for the purposes of reorganisation or liquidation. In chapter 15, the foreign representative may use such proceedings to request assistance from the US court for such relief as entry of a stay 5.1 Does a restructuring or insolvency procedure give to protect property located in the United States. rise to tax liabilities? A bankruptcy court will recognise the foreign proceeding if: (i) the foreign proceeding qualifies as a “foreign main proceeding” (a Day-to-day tax liability is incurred during the pendency of a foreign proceeding pending in the country where the debtor has the bankruptcy case and claims for such liability are generally paid as centre of its main interests) or “foreign non-main proceeding” (a administrative expenses. foreign proceeding pending in a country where the debtor conducts

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non-transitory operations); (ii) the foreign representative applying has no formal legal effect on other group members; each entity for recognition is a person or body authorised to administer the must file its own case under the Bankruptcy Code. In practice, reorganisation or liquidation of the debtor; and (iii) the petition however, group members usually file cases at the same time, in is accompanied by sufficient evidence of the commencement the same court, and are often represented by the same professional of the foreign proceeding and of the appointment of the foreign advisors. In addition, their cases generally are jointly administered representative. for procedural purposes. Once the court has entered a recognition order concerning a foreign There is scope for court-supervised cooperation between groups main proceeding, several provisions of the Bankruptcy Code take of companies and their officeholders. In fact, it is typical for the effect automatically, including the automatic stay and provisions first day of a bankruptcy case to be devoted to motions designed to governing the use, sale or lease of property of the debtor in the US, maintain the “status quo” during the pendency of the case or cases; USA and other relief may be available upon request to the court. While courts often grant motions to continue a group cash management such relief is not automatically available with respect to a foreign system, group shared services agreements and other inter-group non-main proceeding, the court has discretion to grant similar relief. arrangements during these so-called “first-day hearings”.

7.3 Do companies incorporated in your jurisdiction 9 Reform restructure or enter into insolvency proceedings in other jurisdictions? Is this common practice? 9.1 Are there any proposals for reform of the corporate It would be unusual for a company incorporated in the US to enter rescue and insolvency regime in your jurisdiction? into plenary insolvency proceedings in other jurisdictions, although this has occurred from time to time. There are currently no official legislative proposals for reform of the corporate rescue and insolvency regime. The American Bankruptcy Institute (the “ABI”), a private group comprised of insolvency 8 Groups practitioners and market participants, released a proposal for the comprehensive reform of chapter 11 in 2014 that aimed to update 8.1 How are groups of companies treated on the the more than 35-year-old regime to fit modern market needs and insolvency of one or more members? Is there scope practices. While the ABI proposal has sparked conversation and for co-operation between officeholders? debate by and among practitioners and observers, it has not spurred legislative action as of yet. Each member of a group of companies is treated as a separate entity by the Bankruptcy Code. The insolvency of one group member

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Alan W. Kornberg Elizabeth R. McColm Paul, Weiss, Rifkind, Wharton & Garrison LLP Paul, Weiss, Rifkind, Wharton & Garrison LLP 1285 Avenue of the Americas 1285 Avenue of the Americas New York, NY 10019-6064 New York, NY 10019-6064 USA USA

Tel: +1 212 373 3209 Tel: +1 212 373 3524 Email: [email protected] Email: [email protected] URL: www.paulweiss.com URL: www.paulweiss.com USA

Chair of the Bankruptcy and Corporate Reorganization Department A partner in the Bankruptcy and Corporate Reorganization of Paul, Weiss, Rifkind, Wharton & Garrison LLP, Alan Kornberg Department, Elizabeth McColm specialises in the areas of corporate handles chapter 11 cases, cross-border insolvency matters, out-of- restructurings and bankruptcy. She has been involved in major court restructurings, bankruptcy-related acquisitions and insolvency- restructurings and bankruptcies representing debtors, creditors and sensitive transactions and investments. Alan’s recent assignments acquirers of assets. Her recent engagements include representing: cover a diverse range of clients and matters, including: representing (i) Noranda Aluminum in its chapter 11 case; (ii) an ad hoc committee Noranda Aluminum in its chapter 11 case; ad hoc committees in the of holdco noteholders in Ultra Petroleum’s chapter 11 case; (iii) the Texas Competitive Electric Holdings chapter 11 case and Pacific Official Committee of Unsecured Creditors of Quicksilver Resources; Exploration and Production cross-border restructuring; EnQuest in (iv) an ad hoc group of creditors of Oro Negro; (v) Oaktree in the its chapter 15 case; the second lien agent in the chapter 11 case of Excel Maritime and TMT Procurement chapter 11 cases; (vi) agents Sabine Oil & Gas; and The Winding up Board of Glitnir hf in the former for two lending syndicates in the Genco Shipping and Trading Limited Icelandic bank’s chapter 15 case. chapter 11 case; and (vii) an ad hoc group of lenders in a cross-border restructuring of Ceva Group. The Legal 500 recognised that Elizabeth Alan has been recognised as a “Most Highly Regarded Individual” “has an art for handling difficult personalities to reach consensus” and by Who’s Who Legal for restructuring and insolvency. He has been IFLR1000 recognised her as a “Leading Lawyer” in restructuring and selected as a leading lawyer by Chambers US, Chambers Global, The insolvency. Legal 500 and IFLR1000, and was chosen by his peers for The Best Lawyers in America. Alan is a Conferee of the National Bankruptcy Conference.

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