Where is the best place to go bust?
Laura Chesters compares US and European insolvency regimes
There is never a good time to become insolvent, but some places are better than others. A struggling property company’s fate can lie in the hands of its country’s insolvency laws.
Government practice varies from paying a bankrupted company’s wage bill or helping it to find low-interest loans to slapping the directors with criminal charges for failing to stop trading.
Stephen Taylor, who heads the corporate turnaround team at US restructuring firm Alix Partners, has experience of many European regimes.
“Some are more favourable for companies, some are more favourable to the creditors and some are downright dangerous to all,” he says.
Although most European countries have good insolvency regimes, sometimes the underlying infrastructure – such as experience, education and training to uphold that framework – may be lacking.
“Insolvency laws are a bit like cars. It all depends on what car and who is driving,” says Taylor. “A Ferrari may be the best car in the world, but it is not much good if you want to drive over a ploughed field.”
The international variations in insolvency law have led some companies to try to move their jurisdiction to another, more sympathetic country before going bust (see ’Shop around for best bankruptcy’ below).
In the past 10 years there has been a substantial amount of movement within Europe to change some of the insolvency laws, particularly as an awareness of the benefits of the US chapter 11 bankruptcy system became evident.
Taylor says the proliferation of insolvency laws in recent years has been focused around the protection of the entity. “Many insolvency laws across Europe have been softened to help make it easier to rescue companies,” he says.
But it can still be a minefield if you do not know your way around and the differences between regimes can be substantial. Here is a guide to navigate your way around the US and some of continental Europe’s procedures.
UK: has lost survival instinct
- The only European country where insolvency practitioners are licensed.
- Has a good, generally flexible insolvency framework, but it can be rigid in the sense that once an insolvency process is decided on, you have to choose one route and declare the aim of the administration.
- Some administrators also still have a “receivership mindset”, when the primary aim should be the survival of the company. “In the UK administration is rarely being used for the survival of the company, which is why there is this furore about prepacks,” says Taylor. “In a prepack an administrator is appointed in the morning and sells the assets in the afternoon.”
US: Europe’s direction of travel
- Highly effective chapter 11 of the Bankruptcy Act aims to drive value out of the existing business and take away the pain for the creditors. In most cases, when a company files for chapter 11 protection, it remains in control of its assets. The company then reorganises its debt with favourable terms on loans, by giving new lenders first priority on any future profit.
FRANCE: best laws, worst application
- Has the best insolvency law in Europe but is “not the best place in practice to be insolvent”, says Taylor.
- It has built in a gradual approach. Companies first install a mediator, who tries to help all parties come to an unpublicised agreement. Then a chapter 11-style “stay of execution” can be attempted. If that does not work, an insolvency practitioner can be appointed. If all else fails, a liquidation process begins.
- It is less effective in practice because of the fragmented court system. The application of the law, particularly in the regions outside Paris where some judges are part-time, can be haphazard.
LUXEMBOURG: laws are almost 200 years old
- Because so many property companies are set up in jurisdictions, such as the Netherlands and Luxembourg, it is important to know the insolvency regimes there.
- Luxembourg has so many holding companies and special-purpose vehicles that there is no regime for the survival of companies. Its insolvency laws date back to 1813 and require trustees to divvy up assets.
ITALY: bespoke law for every company
- Stephen Taylor, who heads the corporate turnaround team at US restructuring firm Alix Partners, says Italy is one of his “favourite” countries because of its process of “extraordinary administration”. If a very large company goes into administration, it can go straight to the minister of trade and shape an insolvency law that suits the occasion and needs of the company.
GERMANY: trading after bankruptcy is illegal
- Its previous system was extremely rigid. If a company is deemed insolvent, which Germany defines as the assets of the company being valued at less than its liabilities, the company directors have 21 days to rectify the situation or face criminal charges for continued trading. This is impractical. For example, if there is a need to contact bondholders on a restructuring, 28 days’ notice is required simply to call a bondholders meeting.
- Germany’s Ministry of Finance has now softened some of these regulations.
SWEDEN: breathing space for borrowers
- A good and useful regime.
- Has had to change some elements of its insolvency law because it did not fit well with other laws. Taylor says this is a very important aspect to understand, as insolvency incorporates so many other areas such as corporate law, tax law, and employment law.
- Its system allows a stay on creditor action, breathing space for borrowers and priority finance for operating costs.
- Government will pay the wages of employees of a company in administration for three months.
NETHERLANDS: a state of flex
- Has various approaches that an insolvent company can take and is continuing to introduce much more flexible approaches.
Shop around for best bankruptcy
“Forum shopping” – or trying to move the jurisdiction of a company to a country deemed more favourable for administration – has been a big talking point during the downturn.
The method of shopping for the best bankruptcy regimes boils down to proving the location of what is known as a company’s “COMI” – or “centre of main interest”. To forum shop, a company attempts to prove that its centre of main interest is in a country that will benefit them most.
The European Union Insolvency Regulation 2002, which had been in motion and debated since 1963 before becoming law, sought to make insolvency regimes more uniform across Europe and harder to forum shop. But Stephen Taylor, who heads the corporate turnaround team at US restructuring firm Alix Partners, says the irony of the legislation is that “no single [other] piece of legislation ever passed has encouraged more forum shopping”.
He says this is because the centre of main interest was not clearly defined. The law states: “A company shall be wound up in a country where it has its centre of main interest, which is where it is registered unless proved to the contrary”.
The law now defines how to “prove to the contrary”. The centre of main interest can also be defined as where the “mind of management” is, or where all key decisions affecting the company are taking place.
“The COMI is at the top of everyone’s agenda,” says Taylor. “Where you have a special-purpose vehicle set up for tax reasons, it is easiest to prove that the company’s centre of main interest is somewhere else. It is much harder to prove that a factory in Stuttgart’s centre of main interest is the UK.
“It may be in a company’s interest to move it to another jurisdiction, for example. There is some manoeuvring that goes on and you can enter a grey area here,” he says.
However, Taylor argues that this flexibility can be useful.
“The more freedom we have to operate, the more chance we have to save the business. Heavy-handed legislation can be very destructive as you can box people into a corner. The looser and more flexible, the easier it becomes to make it work.”