Never let a good crisis go to waste: A toolkit for the Greek financial crisis and Chinese stock-market crash
Fellow INSOL International
Partner, Henry Davis York, Australia
“A pessimist sees the difficulty in every opportunity; an optimist sees the opportunity in every difficulty.”
― Winston S. Churchill
Sir Winston Churchill also famously proclaimed: "Never let a good crisis go to waste." At the moment, we are spoilt for choice - you can pick your crisis. With that sentiment in mind, there is urgency in now considering the implications for global insolvency systems if at some point, as is universally-reported, Greece suffers its highly anticipated systemic financial failure. Meanwhile in the East, the collapse of China's stock-market has suddenly burst on the scene and further complicated the dynamics of the global economy.
It is acknowledged that the situation in both countries is changing hour by hour and the events reported today may be overtaken by new events tomorrow. Be that as it may, an awareness of the realities of each country's insolvency system and its shortcomings may be vital for some during this period of extreme volatility.
Not since the collapse of Lehman Brothers and the cascading series of events that culminated in the financial crisis that infected the global economy, has there been a tectonic shift in economic and political matters with the potential to culminate in a calamity of such scale and which has the potential to test the robustness and efficacy of the global cross-border insolvency and restructuring framework.
At this stage of the cycle, it is cautionary to reflect on the key considerations as we stand poised on the precipice of the next globally significant stimulus of the insolvency and restructuring market. This will provide a convenient toolkit to grab from the virtual shelf as practitioners are catapulted into roles to assist in cleaning-up the consequences of the crisis.
These are 4 things that you need to know about Greek and Chinese bankruptcy law - on both the international and the domestic stage.
First, Greece has a cross-border insolvency toolkit.
There was nothing accidental about Greece's adoption of the UNCITRAL Model Law on Cross-Border Insolvency in 2010 (by Greek Law 3858/2010). Indeed, it was in part laying the foundation to enhance the robustness of Greece's insolvency system to ensure that it was best positioned to confront its current crisis. This is of course in addition to EU Regulation 1346/2000 on insolvency proceedings which prescribes a coherent system of legal rules to govern transnational insolvency procedures involving companies, traders or individuals across Europe and which permits coordinated measures to be taken concerning the assets of an insolvent debtor located in different EU countries. Neither has been put to much use, to date, in a Greek context - and in the case of the Model Law, not at all.
Active application where appropriate of the Model Law is one way of ensuring that the impending economic crisis will not go to waste. In the best traditions of ‘timing is everything’, the foresight of UNCITRAL and the Model Law’s architects was prescient, leaving a sufficient period since its formulation in 1997 for it to be tested and to mature before the emergence of the latest sovereign economic crisis. Now, the metaphorical laboratory door has been thrown wide open and we are hopefully about to go beyond hypothesis and instead road test elements of the Model Law which otherwise remain embryonic. Will this be the occasion when the Model Law truly achieves its laudable goals of promoting and facilitating international judicial co-operation and court-to-court communication at a level not previously witnessed?
The simultaneous court hearings and ultimate judgments delivered on 12 May 2015 by the Ontario Superior Court of Justice and the United States Bankruptcy Court for the District of Delaware carving up the approximately US$7.3 billion proceeds of sale of the Nortel group’s assets amongst creditors is a compelling illustration of how well recognition and court-to-court co-operation can work even in the most complex of circumstances. [See further Re Nortel Networks Corporation, 2015 ONSC 2987 and In re Nortel Networks Inc., 2015 WL 2374351 (Bkrtcy.D.Del.).]
In light of the approach in Nortel, it is timely to revisit the prescient remarks of Lord Neuberger of Abbotsbury, Master of the Rolls, delivered during a dinner address on 11 November 2009. His Lordship said: "In such a world it seems to me, and I am not alone in this, that we must do everything we properly can to ensure that such cross-border insolvencies are capable of being administered seamlessly across those very borders…..At the very least, national courts should pull together and co-operate in the administration of insolvencies to a degree not before seen. I suspect that we are moving inexorably towards the development of inter-court, cross-jurisdictional, framework agreements, of joint and simultaneous hearings via video-link, and so on. It may well see, who knows, the development of insolvency jurisdictions sans frontiers to match capitalism."
Second, China does not have cross-border insolvency legislative architecture.
The closely followed and widely commentated Suntech Power Holdings Co. Ltd bankruptcy was a reminder of the challenges that foreign creditors face when a Chinese company goes into bankruptcy. The challenges faced by foreign creditors are many and varied and as illustrated by Suntech, include the risk of domestic creditors taking ahead of foreign creditors, structural subordination, the heavy intervention of the Chinese government in restructuring involving Chinese companies (as played out in Suntech) and practical hurdles in the identification and recovery of company assets.
Unsurprisingly, these complications, compounded by the absence of the Model Law or any equivalent, creates the perfect environment for unfathomable legal and commercial complexity to thrive in any insolvency or restructuring of a Chinese company with foreign investors. It is for these, among other reasons, that US or English restructuring proceedings will increasingly be called upon to deal with Asian businesses which are able to establish jurisdiction in those countries. That was the case for Suntech, the provisional liquidation of which was ultimately recognised as a foreign main proceeding under Chapter 15 of the US Bankruptcy Code. In circumstances where there is, currently, a dearth of precedent, the Suntech decisions and response provide a roadmap for foreign debtors who seek to address a Chinese insolvency.
Third, the domestic bankruptcy law of Greece is, according to commentators practising in it, currently confronted by serious difficulties.
In a recently published critical assessment of the Greek insolvency system, the eminent authors conclude that the legal and institutional framework (including courts and professionals), combined with the prevailing economic conditions in Greece and the state of its financial institutions, are creating serious and complex systemic problems. There is a state of paralysis caused by limited liquidity, near-to-no turnover of businesses and capital and therefore no restoration of assets to productive use. Consequently, restructuring deals - where they exist - are not culminating in viable outcomes1.
Of greatest concern is the conclusion of the authors that the insolvency legal framework needs to be overhauled in order for the Greek economy to be restored and ultimately thrive. So what domestic insolvency tools are available in Greece?
In September 2011 (and in further refining amendments since then), the Greek Bankruptcy Code was overhauled to introduce extensive changes to the pre-bankruptcy process. A "rehabilitation" process came into force in place of a dysfunctional and problematic "conciliation" model. Chapter 6 of the Code prescribes the process for achieving restructuring agreements capable of court ratification, for the opening of the court proceeding for that purpose and for the appointment of mediators and experts.
There is a fundamental concern as to accessibility of the restructuring framework under the Code. Article 99 requires a debtor to be facing "a current or an imminent inability of discharging its due and payable pecuniary obligations in a general manner" - in effect, a cash-flow test of solvency. The concern with this test is that commencement of the restructuring process is too close to the point of insolvency, thereby risking an irretrievable and ultimately fatal loss of value while the restructuring process is being pursued.
Worse, it is well accepted amongst practitioners in Greece that the Article 99 process takes a minimum of 6 months, but more typically more than 12 months to be achieved due to the mandatory court process. This is exacerbated by overflowing court dockets meaning that, at a practical level, the process to reach a ratified restructuring agreement most often endures for longer than the remaining life of the ailing and distressed debtor. So while a pre-pack sale in the UK or pre-pack plan in the US may be effectuated in days between initiation and completion, the same process in Greece would require many months and multiple contested hearings in the glacially-paced Greek court system.
On the positive side, there is an emergent view that an informal restructuring process has the potential to overcome the shortcomings of the court-driven restructuring process. This development in Greece is consistent with the EU's principled approach across Europe. The EU has openly expressed its support for out-of-court solutions for business distress through Recommendation of the European Commission on a new approach to business failure and insolvency (C(2014)1500). Perhaps the current crisis will either drive acceleration in change to remedy the perceived malfunctions of the Greek insolvency system. Or, more realistically, once the current storm passes, the systemic review that is argued for so strongly by learned commentators may finally be prioritised.
Fourth, the domestic bankruptcy law of China is not all that it seems.
Unsurprisingly, the Enterprise Bankruptcy Law 2006 has been the focus of extensive commentary since its enactment. It was fundamentally promulgated with the aim of establishing an effective corporate bankruptcy system to help propel China's market economy reforms as that country continued its program of economic modernization. Given the dramatic recent free-fall of the Chinese stock-market, it is timely to make passing observations about the corporate reorganization of Chinese listed companies under the EBL2.
China boasts two stock exchanges - the Shanghai and Shenzhen Stock Exchanges - which have been operating for around 25 years. The majority of listed companies in China are former state owned enterprises. Leaving to one side listing rules, the EBL has three main procedures to deal with distressed listed companies - reorganization (chapter 8), compromise (chapter 9) and liquidation (chapter 10). These are part of a legislative response which is considered, on the whole, to be rescue-oriented.
A recent study3 of 43 reorganizations of China's domestically listed companies in the 6 years between 2007 and 2013 provides startling insights into the process and a reality compass for any practitioner who may be confronted by the need to conduct a listed Chinese reorganization. The key lessons are these:
- While Article 2 of the EBL suggests a straightforward process for commencing a reorganization procedure before a court, it is as a matter of law far more bureaucratic for listed companies. First, it is an essential but unlegislated prerequisite for the local court to procure the permission of the China Supreme People's Court before the listed company reorganization petition can be accepted4. Article 10 of the EBL, contrary to this requirement, vests sole discretion with the local court.
- Article 10 mandates a period of 15 days for the local court to accept or reject a reorganization petition. But on average, it takes 127 days for the court to make such an election, with a maximum period of 589 days.
- It takes on average, from the time of acceptance of the reorganization petition until the time of plan approval under Article 87, about 160 days in respect of listed company reorganizations. This may not necessarily be unreasonable when benchmarked against the speed of other courts in major jurisdictions. Indeed the EBL anticipates that a reorganization procedure will be concluded within 330 days (Articles 79, 84 and 86).
- Most listed company reorganizations in China are pre-packed.
- In 84% of cases, a local-government departmental official is appointed administrator to the listed debtor company at the time the reorganization petition is accepted by the court. The appointment of an administrator is envisaged by Article 13 of the EBL but the dominance of appointments drawn from local government sources has been strongly criticised.
This glimpse into Chinese listed company reorganizations leads to the perhaps inescapable conclusion that local governments are typically the winner from the process as the outcome may well serve the economic and political interests of those in control. In any event, not all is as it seems on the face of the EBL and practitioners dealing with distressed listed companies in China will be confronted by these and presumably many other more complex challenges in dealing with the reorganization of listed companies.
1 C Paulus, S Potamitis, A Rokas & I Tirado, "Insolvency Law as a Main Pillar of Market Economy - A Critical Assessment of the Greek Insolvency Law" 24 International Insolvency Review (2015) published online 10 February 2015 in Wiley Online Library.
2 A more extensive review and longitudinal study can be found in Z Zhang, Corporate Reorganization of China's Listed Companies: Winners and Losers (2015) Centre for Cross-Border Commercial Law in Asia, Singapore Management University.
3 Note 2 at p8 and following.
4 Note 2 at p9.