Sprung Link Text
Significant Reforms to French Bankruptcy Proceedings Apply from October 1, 2021.
Ordinance n°2021-1193 of September 15, 2021 (the “Ordinance”) and its application decree of September 23, 2021, transposes into French law the 2019 European Restructuring Directive (Directive (EU) 2019/1023 of the European Parliament and of the Council of June 20, 2019). The law seeks to improve the position of creditors, as well as to simplify the rules governing security interests in the context of insolvency proceedings (the “Reform”).
The following sets out the main changes, considered from a creditor’s perspective. These changes bring about a rebalancing of power between the debtor and its creditors, illustrated by limiting the ability to term-out creditors refusing to accept the debtor’s restructuring proposals and introducing the requirement to place creditors in classes alongside a prescribed cram down procedure. The effective shareholder veto has also been limited.
Case law will have an important role in clarifying certain aspects of the Reform, including in relation to the constitution of classes and voting rights.
1.1 Grace Periods
In the wake of temporary measures taken in response to the pandemic, the Ordinance confirms the suspension of a creditor’s right to demand payment of a claim where conciliation proceedings have been initiated. In practice, the court will be entitled, at the request of the debtor, to delay or reschedule:
(a) for a maximum duration of two years, claims that are due and payable, where the creditor (i) has formally demanded payment or sued the debtor, or (ii) has not accepted within the time limit set by the conciliator a standstill request; and
(b) for the duration of the conciliation proceedings (i.e. a maximum of five months), claims that are due but not yet payable, if the relevant creditor has not accepted, within the time limit set by the conciliator, a standstill request.
From a procedural standpoint, while the court will decide upon the debtor’s request in an accelerated time frame, the relevant creditor will be heard by the president of the court and therefore will have the opportunity to present their position as to why payment should be made (i.e. based on considerations like material harm to the creditor, that payment is otherwise justified and does not undermine a conciliation procedure, etc.).
1.2 Guarantees and Security Interests
The Ordinance adds a new article to the conciliation provisions whereby the termination of the conciliation agreement (which is essentially a restructuring agreement) shall not entail the termination of the clauses of that agreement whose purpose is to regulate the consequences of such termination. In other words, the parties to the conciliation agreement will be entitled to provide for the fate of the guarantees and security interests granted to the creditors to secure new money granted as part of the conciliation and, more specifically, that such guarantees and security interests shall not become null and void upon termination of the agreement.
That being said, clauses included in the agreement to that effect will not be able to prevent public policy rules applicable in a subsequent insolvency of the debtor such as those governing the hardening period.
2.1 General Features
With the removal of accelerated financial safeguard, the new accelerated safeguard will have a pivotal role for financial restructurings of French entities. While it was initially designed for larger companies, the Ordinance removes all applicable thresholds so that all companies, regardless of their size, will now have access to the new accelerated safeguard.
In practice, the only remaining eligibility conditions are (i) having its financial accounts certified by statutory auditors or prepared by a chartered accountant, (ii) being involved in conciliation proceedings and (iii) having in the course of the conciliation, prepared a draft plan likely to be accepted by the classes of affected parties within the time frame of an accelerated safeguard. The reason for a mandatory recourse to a preliminary conciliation lies in the short duration of the accelerated safeguard, which makes it almost impossible for a debtor to reach an agreement with its creditors if it was not prepared in advance during the five months of the conciliation.
The maximum duration of the accelerated safeguard procedure is four months (two months plus an extension of up to two months at the request of the debtor and the conciliator), meaning that the safeguard plan will have to be adopted within that time frame. If no accelerated safeguard plan is adopted within that period, the accelerated safeguard will terminate automatically, and the court will not be entitled to term-out the creditors.
The accelerated safeguard can only be initiated at the debtor’s request. No third parties, shareholders or creditors have the ability to apply to court to commence the process.
Despite the fact that accelerated financial safeguard no longer exists under French Law, the option for the debtor to limit the effects of the new accelerated safeguard to financial creditors remains; provided that the nature of its liabilities is such that a plan is likely to only concern and to be adopted by financial creditors.
Creditors’ committees are replaced by classes of affected parties, which is a major part of the Reform. Such classes have to be mandatorily constituted in accelerated safeguard (unlike in regular safeguard and judicial reorganization proceedings) and are required to vote on the proposed plan. If the plan is rejected by one or several classes, the court will be entitled, under certain conditions, to resort to a cross-class cram down.
2.2 Accelerated Safeguard Plan Adoption
2.2.1 Class Definition. Classes of affected parties, which are mandatory in accelerated safeguard proceedings, will be constituted by the court-appointed trustee, on the basis of pre-petition claims and verifiable objective criteria, which therefore will have to be disclosed. For the purposes of the Ordinance, affected parties are the creditors, whose rights are directly affected by the proposed plan, as well as equity holders, to the extent that their rights or the by-laws of the debtor are modified by the proposed plan.
Within each class, affected parties will have to share a sufficient community of economic interest. The trustee, in creating the classes, will also have to ensure that creditors collateralized on the debtor’s assets and other unsecured creditors sit in different classes, that the class formation is consistent with pre-existing subordination agreements and that the equity holders are in a class of their own. Although the statute remains silent on the number of classes, it is possible to infer from the above set of criteria that, at a minimum, there will be a class of senior secured creditors, a class of unsecured creditors and, at times, a class of equity holders. In a complex restructuring, the number of classes will be potentially higher.
The court-appointed trustee must provide each affected party with its determination of the class to which that affected party will belong as well as the voting rights it will have in that class (based on the amount of its pre-petition claims). If the party disagrees, each relevant affected party is entitled to challenge that determination before the bankruptcy judge within 10 days of the notification of the determination. The bankruptcy judge, in turn, has 10 days to issue his decision. If it fails to do so, the affected party may ask the court to decide, which it must do within a new 10-day period. An appeal can be lodged against the above decisions within five days of their notification, which the court of appeals must decide upon within 15 days.
2.2.2 Regular Adoption of the Plan. Following discussions between the debtor and the affected parties, the draft plan, which may include any type of restructuring option (including with respect to corporations, debt-for-equity swaps), must be submitted to the classes to vote. The classes have to vote within a 20 to 30-day period (which can be reduced by the bankruptcy judge to 15 days). The decision is made by each class, requiring a 2/3rd majority (in claims value) of the class members having cast a vote. After the adoption of the plan by all the classes, the court must sanction it, which it can do only after it has confirmed that the plan meets several conditions, including that:
(a) the affected parties within a same class received an equal treatment and were treated proportionally to their respective claims;
(b) the plan is reasonably capable of preserving the debtor’s business, and
(c) the “best interest of creditors” test is met in respect of the dissenting creditors within a given class.
As defined by the Ordinance, the so-called “best interest of creditors” test implies that the court must verify that none of the affected parties that have voted against the plan is in a less favorable situation as a result of the plan than it would have been if the plan had not been sanctioned, and instead there had been either a judicial liquidation of the debtor (with such creditor receiving payment according to the prescribed order of priority), a sale of its business as a going-concern or a better alternative solution.
2.2.3 Cross-class Cram down. In instances where the plan was rejected by one or several classes, it may nevertheless be adopted by the court and forced upon the dissenting classes; provided that the following main conditions are met:
(a) the debtor requests (or approves the receiver’s request for) the application of the cram down procedure (which raises the question of the potential involvement of the management’s liability if the management were to refuse its approval abusively or in breach of the debtor’s corporate interest);
(b) the plan complies with the criteria mentioned in section 2.2.2 above;
(c) the plan was approved by a majority of classes (including a class of secured creditors or a class ranking higher than the class of unsecured creditors) or, failing that, by at least one class of creditors who would be “in the money” in a liquidation or sale of the business as a going-concern scenario;
(d) the “absolute priority” rule is satisfied, which means that the creditors of a dissenting class must be fully repaid in order for a lower-ranking class to be entitled to any payment or to retain an interest under the plan. That rule only applies in the event where the plan is adopted through a cram down; and
(e) the plan should not permit a class to receive or retain more than the full amount of its claims.
In instances where one or several classes of equity holders were constituted but voted against the plan, the court can still have recourse to the cram down mechanism but only if the following additional conditions are met:
(a) the debtor alone or with its subsidiaries has 250 employees and a net turn-over of at least 20 million euros, or a net turn-over of at least 40 million euros;
(b) it is reasonable to assume that shareholders would be “out of the money” in the event of a liquidation or sale of the business as a going-concern scenario;
(c) if the new plan encompasses the issue of new shares, such shares are proposed in priority to the shareholders (in proportion of their existing rights); and
(d) the plan does not provide for the compulsory assignment of the shares of the equity holders belonging to the classes that voted against the plan.
Most of the new rules detailed above also apply to regular safeguard. However, the main differences are the following:
(a) in regular safeguard proceedings, debtor does not need to be involved in preliminary conciliation proceedings;
(b) in regular safeguard, the requirement to place affected parties into classes for voting is only mandatory if the debtor, alone or together with its subsidiaries, has 250 employees and a net turn-over of at least 20 million euros, or a net turn-over of at least 40 million euros. However, below those thresholds, the bankruptcy judge may permit classes to be constituted at the request of the debtor;
(c) the duration of the regular safeguard is limited to 12 months in aggregate (although no penalty is provided for if the debtor breaches that rule);
(d) the possibility for the court to term-out the creditors over a maximum duration of 10 years remains in safeguard proceedings where no classes of affected parties were constituted; i.e. for debtors which do not reach the thresholds mentioned above and in respect of which the management did not request the formation of classes. In such a case, no installment shall be lower than five percent after the 3rd year and lower than 10 percent after the 6th year.
Most of the new rules detailed above with respect to the new accelerated safeguard also apply to judicial reorganization (redressement judiciaire). However, the main differences are the following:
(a) the duration of judicial reorganization is limited to 18 months in aggregate;
(b) classes of affected parties are only mandatory if the debtor, alone or together with its subsidiaries, has 250 employees and a net turn-over of at least 20 million euros, or a net turn-over of at least 40 million euros. However, below those thresholds, the bankruptcy judge may permit classes to be constituted at the request of the debtor;
(c) while in safeguard proceedings only, the debtor is entitled to propose a plan, in judicial reorganization proceedings, any affected party is entitled to propose an alternative restructuring plan;
(d) while in safeguard proceedings, the cram down of classes can only be implemented with the approval or at the request of the debtor, in judicial reorganization, it may be implemented with the agreement of the debtor or an affected party, which significantly enhances the value of the cross-class cram down mechanism for senior creditors;
(e) if no plan is eventually approved, the court will be entitled to term-out the creditors over a 10-year period. In such a case, no installment shall be lower than five percent after the 3rd year and lower than 10 percent after the 6th year.
French law already provides new money providers within the context of conciliation proceedings with protection ensuring that such new money benefits from priority over pre-existing lenders (including secured) if the debtor is unable to restructure through the conciliation proceedings and eventually has to file for safeguard, judicial reorganization or judicial liquidation. However, no such mechanism existed in connection with new money contributed by creditors following a filing for safeguard or judicial reorganization until pandemic related legislation created it on a temporary basis. The Ordinance now makes that protection permanent.
As a result, French law now includes a protection applicable to new cash contributions (excluding equity contributions) made by any person (including shareholders; provided that they contribute their money as a loan) in the following two circumstances:
(a) during the observation period (i.e. post filing but prior to plan adoption), to ensure the continuity of the debtor’s business during that period of time; provided that such financing is approved by the bankruptcy-judge after he has confirmed that the financing is indeed necessary for the continuation of the business during the observation period—such new money does not need to be specifically approved by the creditors in any subsequent plan and will remain protected even if the subsequent plan is rejected; and
(b) in the context of the implementation of a safeguard or reorganization plan, pursuant to the terms of that plan, in which case the new financing would need to be disclosed as part of the plan submitted to the vote of the classes of creditors and approved by them. Such financing would necessarily have to be conditional upon the approval of the plan before it could be provided.
For the sake of clarity, eligible contributions will have to be fresh money and could not, for example, be made under the form of the refinancing of a pre-petition debt.
As is the case for the conciliation protection mentioned above, claims benefiting from this new post-money privilege cannot be termed out or forgiven in the context of subsequent proceedings (unless, of course, with the relevant creditor’s consent). Specifically, they cannot be altered by the classes of creditors votes, which is, of course, essential to the protection and effectiveness of the protection.
The Ordinance introduces a few significant clarifications or changes to the regime of guarantees and security interests in insolvency proceedings:
(a) the substitution of security interests during the hardening period is authorized; provided that the new security is equivalent in nature and scope, which means that the “release and retake” mechanism often seen in refinancing transactions should now raise no concern;
(b) the prohibition, after the opening judgment, of any increase in the scope of a security interest, whether by addition, complement or transfer of goods or rights, is confirmed. This principle, which shall, for example, prevent the addition of shares issued post-petition to a share pledge, shall be nonetheless inapplicable to a Dailly transfer of receivables by way of security entered into pre-petition;
(c) the beneficiary of a security interest granted by the debtor over its assets to secure the debt of a third party is now subject to the automatic stay resulting from the opening of the proceedings;
(d) in conciliation proceedings, guarantors and security providers (whether natural or legal persons) will benefit from the grace periods granted to the debtor by the judge during the implementation of the conciliation agreement. In other words, guarantors will now benefit from payment delays granted to the debtor from the beginning of the conciliation until the end of the implementation of the conciliation agreement; and
(e) natural persons in their capacity of guarantors or third-party security providers can now avail themselves of the provisions of the plan in judicial reorganization proceedings, as was already the case in safeguard proceedings.
The new accelerated safeguard proceeding is available to both companies incorporated in France and in the EU (and in the latter, will be subject to the jurisdictional rules under the EU Regulation 2015/848 on Insolvency Proceedings, meaning that for it to be commenced in priority to any other EU proceeding, the company’s COMI must be in France).
The new accelerated safeguard proceeding will be an insolvency proceeding capable of recognition across the EU under the provisions of the EU Regulation 2015/848 on Insolvency Proceedings.
The U.K. is, of course, no longer subject to the EU Regulation on Insolvency Proceedings, so the new proceeding will not be automatically recognized in the U.K. If the accelerated safeguard proceeding modifies French law obligations, then an English court is likely to recognize the proceeding’s effect on French law as a matter of applicable law (on the basis that the Rome Regulation still applies). If the accelerated safeguard proceeding purports to modify English law obligations (or other overseas law obligations), the position will be more difficult—on the basis that the English courts are bound by the so called Rule in Gibbs, which requires an English law obligation to be discharged pursuant to English law (and in the context of a legal process which purports to bind all creditors without their express consent, must be an English legal process). This may mean that English law debt will continue to need special consideration and possibly an English process.
For NY law debt, the accelerated safeguard should be capable of recognition pursuant to Chapter 15 of the U.S. Bankruptcy Code, although that relief is a matter of the U.S. bankruptcy court’s discretion and may depend on whether the company has its COMI in France or not.
A special thanks to attorney Charlie Gelbon for his contribution to this publication.