In line with the trend of the first reform to the Spanish Insolvency Act of 2003 carried out on March 2009 (the 2009 Reform), new amendments to the Spanish Insolvency Act (the SIA) were approved on 4 October 2011 (the Amendment). This Amendment will enter into force on 1 January 2012.
Still unsatisfied with the results of the 2009 Reform, players in the Spanish restructuring market have insisted on requesting the introduction of new features and changes to the current insolvency legislation. The new Amendments address solving a debtor's distressed situation before insolvency, promoting the restructuring of companies in distress and minimizing the situations in which such companies result in liquidation.
And, with time, those demands have been accepted by Spanish lawmakers who now seem aware of the potential that restructuring and distressed deals may have as an instrument to rescue and preserve the business activities of distressed companies.
The Amendment, among other changes, essentially implements the following incentives for restructuring strategies:
- Protects and encourages pre-insolvency alternatives
- Introduces the DIP financing concept
- Establishes the judicial validation and imposition of refinancing agreements (an approximation to the schemes of arrangement and "sauveguarde" concepts)
- Allows distressed debt trading
- Simplifies the disposal of assets of insolvent debtors and allows the urgent sale of business
This Client Alert will focus only on those changes of the SIA with a direct effect on restructuring and distressed deals, which may be of interest for financial institutions, banks, funds and parties involved in the Spanish restructuring market. Additionally, attached hereto as an Appendix to this Client Alert, we summarize other changes implemented by the Amendment.
The most significant development of the 2009 Reform was the protective shield against clawback actions offered to parties of a refinancing agreement1. Similarly to the 2009 Reform, the Amendment intends to provide more certainty for the refinancing agreements.
In this regard, if insolvency (concurso) is declared, a refinancing (and any transactions, acts, payments and security entered into or carried out in connection thereto) will not be subject to a clawback action provided that the refinancing agreement follows the following requirements:
- It substantially increases the funds available for the debtor or modifies the terms of the debt
- Is part of a viability plan prepared by the debtor that justifies the short and medium viability of such debtor
- Is executed by creditors whose claims represent at least 60 percent of the debtor's liabilities at the date of the refinancing agreement
- Is assessed by an independent expert appointed by the commercial registry corresponding to the place of the debtor's registered office. The independent expert's report shall include a technical opinion on (a) the adequacy of the information provided by the debtor; (b) the reasonability and feasibleness of the refinancing, and (c) the reasonableness of the security being taken in view of the market conditions at the date of the refinancing agreement
- Is executed by means of a notarial deed granted before a Spanish notary
For the avoidance of doubt, receivers are still entitled to challenge the refinancing agreements if they consider that such agreements, despite compliance with the terms above, are prejudicial to the estate of the debtor. On the other hand, creditors whose claims represent 40 percent of the debtor´s liabilities cannot challenge the refinancing agreements.
Pre-insolvency alternatives: New moratorium for negotiating with creditors
A new feature of the Amendment — along the same evolutionary lines introduced by the 2009 Reform — explicitly acknowledges the moratorium or pre-insolvency notice2 as a valid means to negotiate refinancing agreements. In this respect, new section 5 bis of the SIA clarifies that distressed debtors may choose to take a four-month period moratorium to reach an advance proposal for an agreement (propuesta anticipada de convenio) or as an out-of-court formal refinancing agreement (acuerdo de refinanciación formal or Formal Refinancing Agreement) with their creditors.
Formal Refinancing Agreements and "fresh money"
Following the trends set by other European insolvency laws, the Amendment introduces the DIP financing or fresh money concept.
In this regard, the new wording of section 84.2.11 of the SIA recognizes that the seniority of any new funds made available to the debtor under a Formal Refinancing Agreement must be enhanced by treating the 50 percent of the funds provided as claims against the debtor's estate (créditos contra la masa). The remaining 50 percent of such new funds will be treated as general preferred claims (and, therefore, such remaining 50 percent will be senior to the other ordinary or subordinated claims, although junior to special preferred claims and other general preferred claims, except for the claim of any creditor that judicially requested the insolvency of the debtor, which, in turn, ranks junior to fresh-money claims).
However, the DIP financing cannot be provided by the debtor or by persons who have a special relationship with the debtor in the form of capital increases, loans or similar transactions.
Judicial validation of the Formal Refinancing Agreements to cramdown dissenting creditors
In the 2009 Reform, no provision was introduced to (i) allow approval of refinancing agreements by a majority of creditors as a means to bind dissenting creditors nor (ii) offer any protection against actions not in favor of the refinancing agreements by dissenting creditors. With such constrains, few Spanish restructurings were implemented in more creditor-friendly venues (i.e. the UK3).
The new Amendment allows the extenstion of the debt rescheduling terms of a Formal Refinancing Agreement (with a time limit of three years) to dissenting creditors provided that:
- The Formal Refinancing Agreement receives a favorable report by an independent expert appointed by the commercial registry where the debtor is registered
- Is entered into and approved by financial creditors holding, at least, 75 percent of the debtor's liabilities at the date of the Formal Refinancing Agreement
- The dissenting creditors do not hold in rem security (garantía real)
The court must validate the Formal Refinancing Agreement and impose the agreed rescheduling terms on dissenting creditors who do not hold in rem security, unless the Formal Refinancing Agreement implies a "disproportionate sacrifice" for the financial creditors who did not enter into the Formal Refinancing Agreement.
Such court approval may also provide for a stay in individual enforcement proceedings so long as the deferral of payments of unsecured and unsubordinated claims is in place and the Formal Refinancing Agreement foresees such stay-in-action period, which shall not exceed a three-year term.
Non-consenting creditors who are affected by such validation have 15 days to object to the Formal Refinancing Agreement but only on the grounds that the required majority was not met or that there has been an error by the court in the disproportionate sacrifice assessment.
Without prejudice to the foregoing, the new regime does not provide for a true "standstill" with automatic effect and has not established any other features to cramdown dissenting creditors.4
Distressed debt trading
Traditionally, the SIA hindered distressed debt trading once an insolvency order had already been brought against a debtor by penalizing potential buyer through the forfeiture of its voting rights in any creditors' meeting.
The Amendment abolishes such forfeiture and, consequently, the assignment of insolvency claims will not result in the loss of voting rights if the assignee is an entity under financial supervision (i.e., financial institutions and funds).
Simplification of asset disposals
The Amendment introduces significant changes to speed-up insolvency proceedings and to enable the preservation of asset value. Among them, the Amendment simplifies the authorizations required by the insolvency court to implement a sale of assets. Major examples include:
- Acts of disposal needed to ensure the viability of the insolvent debtor or the cash required to complete the insolvency proceeding: Receivers can authorize acts of this nature without prior court authorization and by serving notice to the insolvency court on a subsequent date.
- Acts of disposal of assets that are not necessary to carry on the debtor's business: If the purchaser's offer is "substantially" equal to the value allocated to the assets in the inventory prepared by the receivers, such offer will be automatically approved if a higher offer is not made for such assets within 10 days. An offer is regarded as "substantially equal" if the difference with respect to its inventory value is lower than 10 percent, in case of real estate, or lower than 20 percent, in case of movable assets.
- Direct sales of assets to third parties: At the request of the receiver (or by a creditor with a special preferred claim to the asset pursuant to a creditor arrangement), the court can authorize the direct sale of an asset to a third party or the transfer of an asset in or for payment of a secured creditor's claim, provided that such disposal entirely settles the credit held by the specially preferred creditor. If the disposal of the secured asset had taken place outside a creditor arrangement, the purchaser must pay in cash a price higher than the agreed minimum.
The Amendment also allows agreements pursuant to which assets are assigned as payment of debt, provided such assignments are made for the benefit of a secured creditor in respect of the asset so assigned and also provided that such creditor is fully satisfied as regards the special preferred claim. Additionally, creditor arrangements that foresee overall assignment of assets and liabilities of insolvent debtors are expressly allowed.
Finally, the Amendment also introduces the urgent sale of the business (or a business unit) when, along with an insolvency petition, the debtor submits a liquidation plan that includes a written binding acquisition proposal.
This reform is an encouraging exercise in introducing advanced insolvency practices to provide anticipated solutions for distressed companies that were not able to find legal solutions to its financial problem.
Traditionally, Spanish insolvency legislation accentuated the procedural rights of the parties involved instead of identifying where the value lies. With this wave of reforms, lawmakers have revealed that they appreciate that it is crucial to maintain the value in distressed companies in order to find a solution to satisfy the interests of all parties.
Now it is time for players in the market to take advantage of the new tools offered by the SIA to preserve the business activities of companies in distress; and for courts and lawmakers to continue modernizing Spain's insolvency legislation.
The new SIA Amendments introduce the following important changes:
- A new regime regarding the insolvency receivers. Legal entities can now be appointed receivers and, as a general rule, one receiver (instead of three) will be appointed in each insolvency proceeding, except in cases of special relevance, in which two receivers may be appointed.
- The shortening of the common phase of the insolvency proceeding. In case objections to the insolvency receiver's provisional report affect more than 20 percent of the assets or liabilities of the debtor, the court can end-up the common phase and open the arrangement or liquidation phase.
- Greater number of scenarios for expedited proceedings. Courts have gained flexibility to choose an expedited proceeding from the outset, or switch from an ordinary proceeding to an expedited proceeding.
- Extension of the stay-in-action period comparable to collateral enforcement proceedings. The stay period of one year will also apply to actions aimed at recovering assets sold by installments, with registered retention of title, or transferred under a finance lease, as well as actions to rescind any sales of real estate on the basis of deferred price lack of payment.
- Limitation of the definition of "specially related person". The term "specially related person" with the insolvent debtor will mean, among other things, a company of the same group and their common shareholders, provided that such shareholders hold at least 5 percent of the share capital of publicly listed companies or 10 percent, otherwise. The use of the term "common shareholders" prevents them from being subordinated shareholders who have a significant ownership interest in a group of companies but have no ownership interest whatsoever in the insolvent debtor's share capital.
- Exceptions to subordination of credits by especially related persons. Salary credits held by especially related persons cannot be subordinated. Likewise, credits other than loans or any transactions with a similar purpose that are held by any of the following cannot be subordinated: (i) shareholders that hold at least 5 percent of the share capital for publicly listed companies or 10 percent otherwise; (ii) companies within the same group; or (iii) their common shareholders that hold at least 5 percent of the share capital for publicly listed companies or 10 percent.
- Termination of finance leases in the interests of the insolvency proceeding. All claims intended to terminate a finance lease in the interest of the insolvency proceeding must be accompanied by an independent expert's appraisal of the value of the assets, which the court can consider when awarding indemnification for termination of the agreement.
1 Before the 2009 Reform, any agreements prejudicial to a debtor company's estate entered into within two years prior to the declaration of insolvency (concurso) were subject to clawback, even if there was no fraudulent intention. Under some circumstances, there was a presumption that the creation of any in rem security in connection with pre-existing obligations or with new obligations in replacement of prior ones was an agreement prejudicial to a debtor company's estate. Claw back was a constant issue for Spanish refinancings prior to insolvency as the granting of new security has been a common feature of refinancings.
2 Pursuant to the SIA, the debtor must petition for a declaration opening of insolvency proceedings within two months from the date of having known, or should have known, his state of insolvency. However, the 2009 Reform introduced the moratorium or pre-insolvency concept which enables debtors to extend the statutory period within which they are obliged to petition to formal insolvency by an additional four months.
3 On May 26, 2010, the English High Court sanctioned the first ever English scheme of arrangement undertaken by a Spanish company (Re: La Seda de Barcelona SA  EWHC 1364 (Ch)). Schemes (a statutory procedure under Part 26 of the UK Companies Act 2006) became a popular tool in large restructurings, and were increasingly being considered by Spanish and other European companies that have a connection to the UK, due to the lack of a local equivalent that would enable them successfully to restructure their debt without the unanimous consent of their creditors.
4 For example, lenders may not be obliged to condone the debt and unsecured may only be forced to extend and stay (espera) or lenders may not be obliged to capitalize the debt.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.