Risk Management

Going Bust Not the Same All Over

Filing for bankruptcy protection means different things in different countries. Will a uniform code ever be adopted?
Kris FrieswickJuly 22, 2002

When Vancouver-based 360Networks Inc. faced insolvency and opted for bankruptcy protection in June 2001, CFO Vanessa Wittman quickly realized that not all workouts are created equal. The filing, for example, caused the company to shut down fledgling operations in Asia and triggered liquidations of its assets throughout Europe–most notably networks it had gained through swaps with other telecom providers. Only in the United States and Canada was the company able to work with the courts to restructure without being forced to liquidate.

Outside of those two countries, says Wittman, “the most developed sense of a bankruptcy procedure is in the United Kingdom.” But even there, bankruptcies aren’t conducted in the spirit of reorganization. “It’s in the spirit of freezing rather than eliminating your debts while you find other funding sources or sell your assets,” she adds. In the UK, the company’s assets were auctioned off piecemeal by a court-appointed administrator to pay off local creditors.

Most companies with overseas assets that file for bankruptcy face similar situations. The laws of the country in which they file do not apply in the countries where assets are located. And more often than not, the laws in those other countries lead to one outcome–liquidation. It is only in the United States, Canada, and some other common-law countries (where court precedent creates and interprets laws) that the concept of restructuring and court protection from creditors is stressed.

Even in economically developed nations like France and Germany, the rule is more akin to “one strike and you’re out.” These countries, which are ruled by civil law (laws handed down in a code that dates back to the Roman or Napoleonic empires), hold to the assumption that bankruptcy is management’s fault, and the first priority is to pay back local creditors by liquidating assets.

A country’s civil insolvency laws don’t make concessions for bankruptcy proceedings in other countries. “The civil law has always been territorial,” says Bruce Leonard, a cross-border insolvency attorney at Cassels Brock & Blackwell in Toronto and a delegate to the United Nations Commission on International Trade Law (Uncitral).

Wide Gaps

While these disparate rules were once the concern of only a few corporations, the increasingly global nature of business, coupled with the recent economic downturn, have fueled cross-border insolvencies. Although no specific data is available, bankruptcy experts say there has been a marked upswing in the number of cases in which a corporation files for multicountry bankruptcy protection. Big cases include Laidlaw, Global Crossing, and, of course, Enron. “About 10 years ago, you could hardly find a major bankruptcy case with an international aspect,” says Leonard. “Now it’s hard to find a case without one.”

Fortunately for these distressed corporations, a variety of government, legislative, and professional organizations have started to make progress toward bridging the gaps in how the world views bankruptcy. Organizations as diverse as Uncitral and Insol–a group composed of insolvency attorneys, creditors, and judges–have been working hard to create agreement on how these cases will proceed. Meanwhile, at the end of May, the European Union moved to simplify insolvency proceedings across member states. And ever so slowly, hopes are growing for the Holy Grail of bankruptcy laws–a uniform global code.

Baby Steps

For American companies, such a code would be a godsend. Even though U.S. law technically grants a stay on the disposition of all assets under bankruptcy protection, regardless of location, it’s tough to enforce on foreign creditors that are beyond the reach of the courts–and that have a company’s assets in their backyard. The U.S. court can usually enforce the protection only if the overseas creditor has assets in the United States that can be used as leverage.

To date, the best American companies could hope for was that the foreign court would agree to a cross-border insolvency protocol–an agreement between courts that seeks to harmonize court proceedings. In use since 1991, the concept was pioneered by Tina Brozman, former chief judge of the U.S. Bankruptcy Court in the Southern District of New York, and Bingham Dana attorney Richard Gitlin to manage the mammoth bankruptcy case of Maxwell Communications Corp.

Before Maxwell, says Brozman, “when we had bankruptcies that involved companies in more than one jurisdiction, they were territorial in nature. Each jurisdiction grabbed assets and used them for the benefit of local creditors. There was no coordination of proceedings.” The sheer size of the Maxwell case was guaranteed to set off a battle royale among U.K. and U.S. creditors to establish which country had primary jurisdiction and possibly delay proceedings until all assets were gone. Consequently, Brozman appointed Gitlin as examiner, with authority to harmonize the proceedings between the UK (where Maxwell was based) and the United States (where 80 percent of its assets were located). The result was a protocol that was “essentially a memorandum of understanding,” says Brozman, outlining the scope of jurisdiction for each court.

Thanks in large part to that protocol, the restructuring plan was filed in just 16 months and yielded about 75 cents on the dollar for creditors, says Brozman. Maxwell became the first case to show overseas creditors that allowing a company to restructure its debts and continue operating yielded better results for creditors and employees, adds Gitlin.

Today, standard cross-border insolvency protocols are largely confined to the United States and Canada. That’s why 360Networks was able to navigate the process without having the two courts compete, and without undue delays. Wittman, in fact, says working with the U.S. unsecured creditors and handling all the paperwork proved the most difficult part of the job. “The worst part has not been managing the multiple jurisdictions,” she adds.

Spreading the Word

Getting the rest of the world to adopt similar harmonization practices has been a slow process. But Brozman and Gitlin, now partners at the New York office of Bingham Dana, have zealously spread the message. In 1997, for example, in an effort the two colleagues helped initiate, Uncitral created a “model law” that member countries could adopt as part of their insolvency legislation.

In countries that adopt the model law, courts are required to “cooperate to the greatest extent possible” with any other courts in cross-border insolvencies to which that country was a party, and to work to enforce legal stays on a company’s assets. So far, Eritrea, Japan, Mexico, New Zealand, South Africa, Australia, and Canada have adopted the law in total or in part, or have filed legislation to have it approved. The United States wrote the law into Chapter 15 of the revised U.S. Bankruptcy Code legislation that was passed by both houses of Congress, but for reasons unrelated to the model law, the legislation is currently mired in committee. “Right now, the rest of the world seems to be waiting to see what the U.S. does on this,” says Leonard, who participated in the preparation of the law.

For its part, the European Union has forged ahead with its own new initiative on cross-border insolvency reconciliation. After nearly 40 years of negotiation, the EU Regulation on Insolvency Proceedings was adopted on May 31. Now all EU members, except Denmark, have pledged to cooperate in cases of cross-border insolvencies if the company is principally headquartered in a member country. The country in which the company has the “center of its main interests” will have jurisdiction, however, and all debtors and creditors will adjudicate their cases through that primary court. The regulation also stipulates that the EU countries will preserve the company’s assets until proceedings are complete. It’s a definite first step toward a uniform code, although nothing in the regulation alters any EU member’s existing bankruptcy law if it has jurisdiction, says Leonard.

Meanwhile, outside of the EU, steps toward a global code proceed slowly. In Latin America, for example, several countries, including Chile and Colombia, have passed reforms designed to avoid delays and overly hasty liquidations. Both the World Bank and the Asian Development Bank are urging China to update its bankruptcy laws, which currently put the interests of state workers ahead of creditors in any bankruptcy proceedings. And Uncitral has created model insolvency legislation that can be adopted by member countries that lack any restructuring-oriented insolvency laws at all.

Still, exporting the concept of restructuring doesn’t necessarily mean exporting the American concept of “fresh start,” in which debtors are absolved of debts and given a second chance, says Gitlin. In fact, the insolvency rules proposed by Uncitral put more emphasis on out-of-court workouts, in which creditors organize and work with the debtor to arrive at a reorganization plan before going to court. In some ways, says Gitlin, this method, also known as the London Approach, may represent an incremental move toward the concept of restructuring and may be more easily accepted by countries that haven’t yet developed reorganization laws that facilitate the fresh-start concept.

A Real Reality?

So how close will countries come to standardizing global bankruptcy rules? “Maybe in three to five years, you’ll see that the [Uncitral] model law will start to have a big impact on countries, and we’ll start to see a major change,” says Leonard.

Not everyone believes it will come that close, though. Jim Hogan, senior vice president of underwriting, national restructuring group, G.E. Capital Commercial Finance, says that overseas, the emphasis is still too strongly on reimbursing pre-petition creditors–vendors and employees–first instead of working out debt-repayment plans. He notes that in France and Mexico, for example, employees get priority status as creditors, which can mean two years of mandated paychecks after a company goes bankrupt. “It’s so far from how we do things that I don’t see it happening,” says Hogan, adding that until the rules change to favor post-petition creditors, G.E. Capital won’t offer debtor-in-possession financing in those countries, a crucial element of any restructuring.

For 360Networks, however, any standardized code will be far too late to soften the blow that the company has suffered through its bankruptcy proceedings. In addition to the liquidations overseas, the company recently announced that it probably won’t have a reorganization plan filed with the courts before the early July deadlines. It also announced it wouldn’t be filing its 2001 annual financial results until the restructuring plan has been completed. Still, Wittman is confident that the company will emerge from bankruptcy and go on to a successful future. “I still really believe in cable,” she says. Fortunately, the company’s primary assets are located in two countries that are among the few in the world willing to give her a chance to find out if she’s right.

Kris Frieswick ([email protected]) is a staff writer at CFO.

Where’s the Harmony?

The good news for companies seeking bankruptcy protection in Europe is the harmonization guaranteed under the European Union Regulation on Insolvency Proceedings, which went into effect May 31. There is a great deal of speculation, however, about how the EU will interpret the law as it relates to U.S. companies with EU-incorporated subsidiaries if the U.S. parent files for bankruptcy for the entire corporate entity.

The EU rules seem to ignore current U.S. bankruptcy stay rulings (which technically protect a U.S. corporation’s assets anywhere in the world until a U.S.-based restructuring plan is created) in favor of local adjudication of the assets. An EU court would likely find that a locally incorporated subsidiary has a “center of its main interests” in that EU country, and would therefore be subject to EU-based, not U.S.-based, proceedings. –K.F.