A look at how the Spanish Insolvency Act 2004 creates possibilities for rescue within insolvency proceedings.
Completing Out Of Court Restructuring In Spain: The Challenges
In Spain there is no system to effect the restructuring of troubled but still solvent companies. Unlike other European neighbouring countries, there is neither a "provisional" procedure (such as Germany's Vorläufiger Insolvenzverfahren) nor an informal code of practice, such as the old "London Approach". As general private and commercial law are fully applicable in the period before insolvency, there should be plenty of room for the interested parties to reach an agreed solution. However, real life offers a wholly different picture: restructuring out of Court rarely happens. The behaviour of the Spanish banks is the most likely reason for this.
Spanish banks have not yet embraced the "rescue culture" that allows for the reorganisation of viable businesses. This is mainly because of the types of security that Spanish banks hold: whereas banks in the UK enjoy floating charges, that "align" the interests of both the company and the financial creditor (the more the business is worth, the better for both), in Spain financial creditors usually have fixed charges over different assets that, due to the banks' superior bargaining position, are normally sufficient to cover all of the debt owed to them. Understandably, banks do not have an incentive to restructure (they can simply execute their security); otherwise they will be assuming a newly added risk that they can do without. Banks also have the further risk of antecedent transactions being legally set aside once insolvency proceedings start (such as voidable transactions, for example). This would affect any preinsolvency restructuring solutions that they may have already implemented.
The Spanish Insolvency Act 2004 (IA 2004) And The Options For Achieving A Rescue Within Insolvency Proceedings
Overview: advantages and disadvantages
The IA 2004 has only one procedure (concurso de acreedores) that is a gateway to all insolvency and composition options. Unlike the UK, France or Italy (and just like Germany) the same procedure may end with a rescue plan, a partial reorganisation of the business or a winding-up of the assets. Creditors must choose which to follow. The idea was to provide the market with an efficient tool to solve economic distress before it was too late (a useful instrument "to heal the sick, not to bury the dead"). From a theoretical perspective, the concurso de acreedores offers some relevant advantages to the participants in the market.
Under the IA 2004, entering into insolvency proceedings can be beneficial for both the company and its creditors. It would no longer be necessary to stay out of Court to achieve the better result. Among others, an early filing for a concurso de acreedores may bring about the following advantages:
- For the company: a quick and orderly way to reduce its debts or to obtain some extra time for payment; the staying of actions and executions against the company and its assets (and this includes the execution of securities: mortgages, liens or pledges cannot be enforced during the first year in relation to an asset that is needed for the carrying on of the business);
- For the creditors (also for the company): it provides an easier and cheaper way to reduce the number of employees and, as a whole, to reduce structural costs; and, above all, the IA 2004 offers all sorts of "restructuring possibilities" (mergers, debt renegotiation, exchange of debt for equity, etc.) that do not carry the "legal uncertainty" that applies when such processes are carried out outside insolvency.
Concurso de acreedores has disadvantages too, particularly in terms of cost: lawyers' fees, insolvency administrators' wages, reputational cost, and delay. These disadvantages are common to most formal insolvency procedures in any jurisdiction.
Completing a restructuring within insolvency proceedings
The Spanish legislators realised that offering adequate restructuring tools and a fair means to preserve the value of the company within insolvency proceedings would not of itself be enough to achieve a good result; it was also essential to speed up the time in which companies entered into insolvency so that there was still something to rescue. Up to the time when the IA 2004 came into force, one of the most significant problems had been that businesses in crisis reached the Courts when they were already in deep economic and financial distress. The IA 2004 has made an effort to make insolvency proceedings more attractive to the market, in trying to woo the relevant companies to the newly designed system. These are the most important measures introduced:
An easy way in
If it is the company that files for its own insolvency, the Judge will only check that the company has met formal requirements to initiate the process. There is a presumption that a solvent debtor will not try to put itself into insolvency. Also, when a company seeks to initiate insolvency proceedings, there is no need for it to be "insolvent" (unable to pay its debts as they fall due); it can also allege a situation of "imminent insolvency" (similar to Germany's "threatening insolvency"/ Drohende Zahlungsunfähigkeit).
There is much controversy as to what this expression actually means. The better interpretation is that the company must be on the verge of insolvency which will inevitably occur within a short period of time ( a few months maximum).
The duty of Directors to file for insolvency
The Directors (in a broad sense) of the company are now under a legal duty to file for insolvency within two months from the moment in which they know (or they should have known) that the company is insolvent. The breach of this duty may be a reason to disqualify the Directors and even to make them liable for the company's debts that remain unpaid after the realisation of the assets.
Softening the effects of insolvency on the debtor
If the company files for its own insolvency, the Judge (except in clear cases of deep economic distress or doubts about the credibility of the directors' behaviour) will leave the board of directors in control (similar to America's Chapter 11 "Debtor in possession") throughout the entire procedure (under the supervision of three Court appointed Insolvency Officers). On top of that, the company will not cease day to day trading unless it is evident that it is worth less as a going concern than on a break up basis.
Not investigating the directors' behaviour
According to the IA 2004, if an insolvency procedure ends with the payment of two thirds or more of all debts, and is concluded within less than 3 years, there will not be an investigation into the Directors' behaviour prior to insolvency. Therefore, Directors will not face disqualification in any such case (unless they have committed a criminal offence). This is a clear trade-off between the public interest of punishing misbehaviour and the need to ensure businesses and creditors suffer the least prejudice through the operation of an insolvency procedure. Sadly insolvency "as early as possible" will therefore offer company Directors a fresh start.
The three possible ways to rescue inside insolvency proceedings
Inside the concurso de acreedores there are three different ways to reach a solution that rescues – at least part of – a business as a going concern.
The "Pre-packaged Plan" (Convenio anticipado)
This is the preferred restructuring solution It consists of an agreement reached initially by the debtor and creditors owed at least 20% of the company's liability. This agreement must include the continuation of the business, and can be proposed to the rest of the creditors from the start of proceedings (together with the insolvency petition) or in the weeks thereafter. There are no legal constraints to the proposal of such a plan and it is applicable to all sorts of restructuring operations: debt cancellation, exchanges of debt for equity, and mergers. It is also the cheapest possible route for a restructuring, since it reduces drastically the duration of the insolvency procedure. The plan must be approved by creditors representing the majority of the debt.
The "Insolvency Plan" (Convenio ordinario)
If no pre-packaged plan is submitted, there is still one last chance for an agreed solution to the insolvency: the ordinary "Plan". This solution is less attractive. It has legal restriction: for instance, there cannot be a debt cancellation beyond 50% or a payment adjournment longer than 5 years. Although the opportunities for reorganising or rescuing the business as a going concern are the same as for a Pre-packaged Plan, the Insolvency Plan takes longer to put into effect and is more costly. This Plan also implies the continuation of the business and can give effect to numerous restructuring operations involving third parties.
It is legally considered the "last solution". However, the IA 2004 has made a considerable effort to design a winding-up system that captures the real value of the company. Unlike Spain's former Insolvency Law, winding-up in this new law moves the process away from a liquidation on a break up basis (traditionally a way to destroy value), and requires the sale of the business (or part of it) as a going concern. It is about "liquidating the debtor (company), not the business". In a liquidation, the liquidator is given a free reign to obtain the best price reasonably possible for the business. The liquidator must draft a "Liquidation Plan", that need not be approved by the debtor or the creditors. It is purely a technical decision taken by three "experts". Third parties must be included in the picture. Usually, liquidators create subsidiaries and transfer the viable parts of the businesses to those subsidiaries. They will then sell the subsidiaries (by means of an Auction or by direct sale). If a liquidation takes place within the concurso de acreedores, Directors who have breached their duties to the company may face disqualification and personal liability for the company's debts.
- There has not been much of a restructuring tradition in Spain.
- The IA 2004 offers adequate restructuring tools, that are prompt and a fair way to preserve the value of the company within insolvency proceedings.
- This makes the possible solutions in concurso de acreedores all the more appealing.
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.