Учебный год 22-23 / corporate restructuring and insolvency prtougal

Corporate crises always present themselves as a challenge to companies and their stakeholders.

This challenge becomes increasingly difficult to overcome in depressed economic periods, most notably when such periods have severe credit constraints.

Complexity has been a remarkably long-standing feature of restructuring mechanisms and insolvent liquidations.1 The ever increasing multiplicity and interpenetration of the (often conflicting) interests involved continues to take its toll in the normative treatment of a corporate

crisis, namely in its statutory framework:

•directors wish to avoid liability and (if they find the business viable) continue to try to deliver shareholder value;

•shareholders wish to avoid losing their entire equity and avoid assuming any further liability;

•tradeandfinancialcreditorswanttofullyrecovertheir credits without assuming any liability whatsoever;

•employeeswanttoremainunaffectedor,atbest,receive full payment for the work carried out until liquidation; and

•government authorities want to preserve fully functioning and wealth producing economic units (protecting those entities that may temporarily be facing difficulties) and prevent definitely distressed ones from impairing economic flows.

In addition to the usual challenges that present themselves in other jurisdictions, local restructurings and insolvencies entail certain accentuated and additional difficulties, arising, inter alia, from the fact that statutory interpretations and certain market practices remain largely untested by prior court decisions, that the judicial system is particularly sluggish on formal procedures and that out of court restructurings lack a strong market practice in terms of inter-creditor cooperation in multi-creditor situations.

However, these problems tend to be increasingly alleviated as local market practice becomes more sophisticated and it therefore is capable of focusing on reaching out of court restructuring solutions that do not require formal procedures.

General overview of financial lending market practices

This introductory analysis focuses particularly on the main aspects of corporate restructuring and insolvency procedures from a financial lenders’ perspective2 and therefore a quick survey of the local financial lending market practices is recommended.

In general, corporate credit agreements used in local market practice have acceleration clauses based

on the breach of payment obligations, but they also increasingly tend to allow acceleration upon breach of other covenants and representations, including, inter alia, negative pledge, pari passu and cross default clauses. These also tend to include, with particular importance for distressed situations, acceleration upon the direct occurrence of insolvency and pre-insolvency situations or the occurrence of certain facts that may reveal approaching difficulties, such as creditors’ processes, cessation of business, etc.

Certain local public infrastructures, such as highway concessions, have been financed through LMA based agreements that are governed by English law and include the relevant standard contractual protections that are directed at making the alarm sound, in theory, well before the situation is definitively lost.

These contractual protections have tended to become increasingly used in agreements governed by Portuguese law. This has been more frequent in sophisticated financing structures, such as project finance or asset based financing, including leveraged buy out financing transactions. Performance and financial structure ratios are also heavily relied upon in these more complex situations.

It is therefore safe to conclude that these contractual protection mechanisms tend to be increasingly used in local market practice.

Despite this fact, there are still a material number of situations in which international market practice has not fully made its way into local market practice. As an example, relationships between creditors in syndicated loans tend not to be contractually detailed in all their relevant aspects, especially in enforcement situations where unanimous decision making requirements are still frequent.

On the other hand, these contractual protections also tend to be less frequently used in other financing structures, such as credit instrument based financings, acceptance credit and overdrafts. In these situations, lenders have to rely more heavily on statutory protections.

Distressed companies, insolvency and imminent insolvency

The international practitioner accustomed to dealing with the most relevant civil law jurisdictions will adapt with considerable ease to most statutory solutions prescribed by the Portuguese Insolvency and Recovery Code approved by Decree Law No 53/2004, of 18

March 2004, and generally termed CIRE (Código da Insolvência e da Recuperação de Empresas). 3

This statute relies heavily on the German Insolvenzordnung that had been enacted a decade

before and contains several solutions similar to the Spanish Ley Concursal enacted in 2003, particularly in relation to certain rules that are relevant for out of court restructuring transactions.

The CIRE implemented a single formal procedure and it represented a simplification of the former statutory structure.4 The proclaimed purpose of the procedure is to ensure that the creditors are satisfied, either through the liquidation of the insolvent debtor’s assets and the distribution of the resulting cash or as set forth in an insolvency plan approved by the creditors that may include a restructuring. The debtor’s restructuring is therefore seen as merely instrumental to the satisfaction of the creditors’ interests.

The key operating concept is that of insolvency, defined as a situation in which a certain debtor is not able to pay the obligations that have become due.5 A company and certain other entities are also considered insolvent if their liabilities materially exceed their assets.

The debtor has a duty to file for insolvency within 60 days after the date on which it becomes aware that it is insolvent or the date on which it should have become aware of that fact.6 The debtor is definitively presumed (iuris et de iure) to be aware that it is insolvent if it has been in generalised breach of certain obligations for more than three months. These obligations include tax, social security and labour obligations as well as leasing and mortgage payments for the premises in which the debtor carries out its activity or has its head office. Breach of these duties may result in criminal charges and certain other sanctions (including restrictions on carrying out certain activities).

In order to avoid undesired delays in filing for insolvency and to allow for eventual restructurings before a material part of the company’s assets have been exhausted, the CIRE allows the debtor to file for insolvency in situations where the insolvency is merely imminent.7

The company’s creditors and the Attorney General (Ministério Público) can file for the initiation of a debtors insolvency procedure in the following situations:

•generalised non payment of due obligations;

•defaultofoneormoreobligationsthatrevealincapacity for performing the generality of its obligations;

•flight of the board members or abandonment of the head office or principal place of business, related to the lack of solvency and without proper replacement;

•dissipation and abandonment of assets, rapid or damaging liquidation of assets and fictitious creation of credits;

•lack of sufficient assets for the creditor’s satisfaction following an executive procedure filed against the debtor;

•breach of the relevant obligations set forth in the insolvency plan;

•generalised breach of certain obligations for more than six months, including tax, social security and labour obligations and leasing and mortgage payments for the premises in which the debtor carries out its activity or has its head office; and

•the fact that the debtor’s liabilities materially exceed their assets according to the last approved balance sheet or that there is a delay in approving the annual accounts for more than nine months.

Informal restructurings need to have adequate time to be completed before the company is termed insolvent, ideally well before the period in which debtors have to file for insolvency. Considering the time constraints, swift action is therefore required from the moment the first signs of trouble start to materialise.

Informal restructurings

The basic reasons for electing to execute informal rescue procedures do not differ significantly from those considered in other jurisdictions. The formal judicial restructuring mechanisms (that pursuant to the CIRE are an integral part of the single insolvency procedure) are quite cumbersome and filing for insolvency is still considered as dishonourable and may have a significant impact on the business’s value. In favouring (formal or informal) restructurings of viable businesses, financial lenders look forward to being in a more favourable position in terms of reimbursement of their credits and they may even be able to share in the benefits of a continued banking relationship with the company.

However, financial lenders have to be particularly aware of the risks they may be taking when deciding to initiate negotiations for informal restructurings, considering that if a formal insolvency procedure is filed at a later stage, such lenders can find themselves in a worse position than they were to begin with.

In addition to the risk that legal transactions are cancelled or challenged by the insolvency administrator pursuant to preference or avoidance rules (with special focus on the validity of new security interests), described in greater detail below, financial creditors may find their claim subordinated as a result of such cancellation or as a result of being considered related parties as de facto directors (albeit in a more limited set of circumstances).

Furthermore, in addition to liability that could arise from being considered a de facto director of the debtor, the debtor’s financial situation may deteriorate further.

As a result, debtors have to be aware that creditors are taking certain risks, even in situations where debtors themselves may not yet be taking any risks (for example if the duty to file for insolvency has yet to materialise). For these reasons, debtors that are facing difficulties have to fully cooperate with the lenders during this period.

In this light, the need for transparency is also one of the usual references in discussing informal restructuring procedures. However, financial lenders have to bear in mind that they should manage this information flow adequately: there are situations in which they can be receiving ‘too much information’ and this can have an adverse impact for considering them as ‘bad faith’ creditors, as further discussed below.

In relation to the informal restr ucturing procedures themselves, they tend to differ from one another as there are no local market guidelines or generic principles such as the UK’s Insol Principles that can help establish a solid market practice, particularly in terms of multi-creditor situations where inter-creditor cooperation is key. However, an increasing number of transactions are tending to follow international standard market practice formalities: initial approach and discussions with most relevant creditors; preparation of business plans; standstill agreements; term sheets; and documenting term sheet agreements with amendments to credit facilities, new security interests, inter-creditor agreements.

The work carried out in an informal restructuring may still be of use if a formal insolvency procedure is filed (before or after the restructuring is finalised). The parties can always use such materials in the insolvency plan.

In terms of actual restructuring solutions, debt to equity swaps entail certain relevant legal issues, particularly in terms of corporate law and banking regulation.

Out of court conciliation procedure

Apart from the eventual insolvency plan that can be approved in the formal insolvency procedure, there is a formalised out of court rescue procedure that is mediated by a public entity, the IAPMEI (Instituto de Apoio às Pequenas e Médias Empresas). This procedure is regulated by Decree Law No 316/98, of 20 October 2008, and basically consists of a mediation procedure in which the IAPMEI tries to facilitate an agreement for restructuring.

This procedure has certain positive features, including the fact that public creditors have a duty to participate in the conciliation and that once

creditors representing two-thirds of the credits have reached an agreement with the debtor, the latter may ask the court to force the other creditors to accept such an agreement.

However, the fact that an agreement with certain creditors is reached pursuant to this procedure does not stop creditors from filing for the debtor’s insolvency (even though it reduces the probability that an insolvency situation persists) and does not stop the legal transactions included in the conciliation agreement from being challenged pursuant to avoidance rules. The conciliation agreement can, notwithstanding, be used as a basis for the insolvency plan if a formal insolvency procedure is filed.

On the other hand, unlike other rescue procedures, this conciliation procedure does not suspend the right of creditors to enforce their credits (it only suspends the debtors’ duty to file for insolvency and this only for a limited period of time) or to file for the debtors insolvency (it does not entail an automatic stay or a special protection for the debtor).

This procedure is not frequently used: 4,949 formal insolvency procedures were terminated in first instance courts in 2008 (7,047 in 2009), whilst there were only 232 filings for the conciliation procedure in the same year (representing a 20 per cent increase vis-à-vis 2007), with a conciliation agreement being reached in 29 per cent of the situations.

Avoidance

As a general rule, the CIRE8 provides that, upon the insolvency of a debtor, acts entered into or omitted before the opening of the insolvency proceedings may be cancelled if they:

•hinder the insolvency estate (ie, actions that delay, hinder or frustrate the payment to the insolvency estate’s creditors) – the actions that can be challenged pursuant to Article 121 of the CIRE, as described below, are definitively presumed (iuris et de iure) to hinder the insolvency estate, irrespective of being concluded outside of the hardening periods described in Article 121;

•have been carried out in bad faith; and

•have been carried out within the four year period preceding the opening of the insolvency proceedings.

The insolvency administrator has six months to cancel these actions from the moment it becomes aware of them, but may, as a rule, never do it after a two year period has elapsed from the opening of the insolvency proceedings.

Bad faith for these purposes is knowledge, as of the date of the transaction in question, that:

•the debtor was insolvent;

•insolvency proceedings had commenced against the debtor; or

•the transaction in question would be detrimental to the creditors of the debtor and the debtor was in an imminent insolvency situation.

There is a refutable presumption of ‘bad faith’ if the transaction is effected in the two year prior to the commencement of insolvency proceedings and is made with certain related parties (the concept of related parties includes that of de facto directors).

As an exception to the above rules, Article

121 of the CIRE identifies certain actions that are automatically considered as hindering the insolvency estate and that may be cancelled irrespective of bad faith. The following actions included in Article 121 are particularly relevant for restructuring procedures:

•payments or other forms of debt extinction made in the six month period prior to the commencement of the insolvency procedure and carried out in unusual terms for standard market practice and that the creditor could not claim for. This is specially relevant for the delivery of assets in lieu of payment;

•payments or other forms of debt extinction made before the relevant credits had become due that occurred in the six month period prior to the commencement of the insolvency procedure or after such commencement but before the credits had become due;

•granting security interests (garantias reais) to preexisting credits in the six month period prior to the commencement of the insolvency procedure;

•granting security interests (garantias reais) simultaneously with the secured obligation in the 60 day period prior to the commencement of the insolvency procedure; and

•granting personal guarantees in the six month

period prior to the commencement of the insolvency procedure for which the debtor has no real interest.

Unlike other jurisdictions, the CIRE does not contain statutory provisions exempting certain acts implemented in order to protect bona fide restructurings (as examples from other jurisdictions, we have the recent reforms made in Spain to the Ley Concursal in relation to out of court debt refinancing (Real Decreto Ley 3/2009 of 27 March 2009); and the exceptions contained in Article 67 of the Italian Legge Fallimentare that include an exception from the revocatoria for acts, payments, security interests and guarantees made or granted in the implementation of the reputable restructuring plan).

Formal procedure: a quick overview

Filing for insolvency and declaration of insolvency

Formal insolvency procedures can be filed with the relevant Portuguese courts by the debtor, its creditors and certain other entities, such as the Attorney General (Ministério Público).

In general, if the filing is submitted by the debtor, the insolvency should be immediately declared by the court, as a rule within three business days from the date in which the procedure is distributed to the judge. If there is no reason for immediate dismissal of the filing made by a creditor or another entity other than the debtor, the latter is notified in person and then has a ten day period to oppose the insolvency request. Meanwhile, certain protective orders may be approved by the court, including the appointment of a temporary insolvency administrator.

If the debtor has opposed the filing and if his notification has not been exempted, the judge will then schedule a court hearing, following which they will declare the insolvency or dismiss the filing.

Appointment of the insolvency administrator

As a rule, from the moment in which the insolvency has been declared, the debtor’s powers to manage its own assets are transferred to an insolvency administrator appointed by the court (in general, this insolvency administrator can subsequently be replaced by the judge either following a vote from the creditors’ meeting if the judge considers the replacement adequate or if there is just cause). The insolvent company’s directors may continue in office but they will, however, not be entitled to receive remuneration.

Creditor’s claims and balance of powers

The debtor’s creditors, including secured creditors, have to file a claim for their credits with the insolvency administrator within 30 days from the declaration of insolvency. The administrator will organise a detailed list of recognised or admitted creditors with their relevant positions. This list can be challenged before the court.

A creditors’ committee is appointed by the court to, inter alia, support and supervise the insolvency administrator. The creditors’ meeting can dismiss the members of the committee, replace them, appoint additional members or decide not to have a creditors’ committee.

The insolvency administrator has to submit certain material acts for approval by the creditors’ committee

or the creditors’ meeting. These include the sale of the assets or part of the assets as a going concern, the sale of shares in companies with a significant relationship with the debtor, entering into long-term agreements, the sale of assets with a consideration that exceeds €10,000 and that represent at least ten per cent of the insolvent estate with certain exceptions, etc.

Approval of the insolvency plan

As discussed above, the insolvency plan can be approved in the ambit of an insolvency procedure for the purpose of restructuring or rescuing the company, or to provide special rules for the liquidation of the assets, but always with a view to permitting the ultimate satisfaction of the creditors.

The insolvency plan can be submitted to the creditors’ meeting, inter alia, by the debtor, the insolvency administrator or by certain creditors. With the above purpose constraints in mind and considering the required equal treatment of creditors, the CIRE grants the parties a significant amount of freedom to determine the restructuring measures to be carried out pursuant to the insolvency plan.

The insolvency plan must be approved at the creditors’ meeting and subsequently receive final sign-off (homologação) by the court. For these purposes, at least one-third of the credits must be present at the meeting and the plan must be approved by two-thirds of the votes cast (please note that, as a rule, credits that remain unaffected by the plan or certain other subordinated credits do not have a right to vote).

Winding up of the insolvent assets

Following the approval of a report submitted by the insolvency administrator, the creditors’ meeting will decide upon the continuation (notably as part of an insolvency plan) or termination of the company’s business.

If an insolvency plan is not approved, the insolvency administrator should initiate the winding up of the insolvent estate by selling the assets and then proceed with payments to the creditors with the cash obtained, after the insolvency estate’s expenses have been covered.

Certain tax issues

In addition to certain other tax considerations, particularly with respect to the impact on the creditor’s and debtor’s tax balance sheet, restructurings require a thorough analysis in terms of stamp tax.

Financial institutions and other special situations

As in most other jurisdictions, credit institutions and financial companies are per se not directly subject to CIRE.

Decree Law No 199/2006, of 25 October 2006, provides that such entities can only be liquidated if their licence is revoked by the Bank of Portugal or if their shareholders approve a resolution to liquidate the institution, subject to the Bank of Portugal’s authorisation (the licence can be revoked by the Bank of Portugal if, inter alia, the entity is unable to comply with its obligations).

Once the licence has been revoked, the institution will be liquidated in accordance with the rules set forth in the CIRE. Decree Law No 199/2006 provides for certain special liquidation procedures that differ from the CIRE provisions, including the right of the Bank of Portugal to propose an insolvency administrator or an insolvency commission.

Furthermore, with particular relevance for financial creditors, Decree Law No 105/2004 of 8 March 2004,

that implemented the Financial Collateral Arrangements Directive, contains specific provisions on the effects of insolvency on financial pledges and transfers of assets as collateral.

Notes

1The title of the Spaniard Salgado de Somoza’s seminal work is self revealing: Francisco Salgado de Somoza, Labyrinthus creditorum concurrentium ad litem per debitorem communem inter illos causatam

(Sumptibus Laurentii Anisson, Lugduni, 1646).

2The positions of the distressed company’s directors and general business creditor’s are, notwithstanding, also partly addressed. However, this introduction does not consider specific distressed M&A problems, such as buying assets from an insolvent company, acquiring a distressed business or investing in distressed debt.

3TheCIREisapplicabletobothcompaniesandindividuals(inaddition to other entities, such as autonomous assets). The analysis made herein only addresses distressed corporate entities.

4The former code distinguished between formal insolvent liquidation procedures and formal restructuring procedures, and included different sub-procedures.

5 Article 3 CIRE.

6When compared to an average person in the same position.

7This concept is inspired by the German drohende Zahlungsunfähigkeit.

8 Article 120 CIRE.

Published October 2010

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