Structuring shareholders’ rights in insolvency proceedings
The ESUG has further developed and streamlined the insolvency plan process. The consideration of shareholders’ rights represents a significant innovation in this area. In future, creditors will be able to convert their claims into equity. As a result, they will have the opportunity to influence a company’s management decisions and participate in surplus company value. Previously, creditors were generally unsuccessful in acquiring equity interests during insolvency proceedings due to opposition from shareholders - who had to consent to a share transfer. Now, the ESUG permits a change in shareholders even if opposed by existing shareholders.
The typical insolvency plan under the current InsO provides that the creditors receive a percentage stated in the plan and must definitively waive the remainder of their claims. The rules do not address what happens if the company performs better than forecast in the insolvency plan. To date, only the legacy shareholders benefitted from surplus company value.
More structuring opportunities for creditors
While the current law permits the value of the company to be reviewed in the event that at least one group rejects the plan (prohibition on obstructions, Sec. 245 InsO), the court has no right of substitution: it cannot require a change in shareholders to provide the opportunity to participate in surplus value to creditors who are now required to waive their claims. The plan is accepted where there is no surplus value, or it fails, resulting in standard insolvency proceedings (= liquidation) as the legacy shareholders are to benefit from surplus value. Creditors have no real freedom of choice: they must choose between all or nothing. The ESUG gives creditors a new option: they may secure the ability to participate in surplus value by approving a plan which provides for their participation in the company. Legacy shareholders cannot prevent this from occurring, and must only be compensated for amounts in excess of 100% of all claims and rights. The ESUG does not address what happens in this situation – all options are available. A shareholder may only block the insolvency plan by means of so-called minority shareholder rights in the event that the plan disadvantages the shareholder as compared to its position without the plan.
This ability to force a change in share ownership had previously been rejected by lawmakers. To this extent, the fact that company organisation and membership in associations may also represent value, and therefore are recoverable assets, was not recognised. These include licenses, concessions, mining permits, leases as well as other rights tied to legal entities. Furthermore, in enacting the Insolvency Act, lawmakers were subject to the false impression that shareholders would participate in a constructive manner. In practice, this has hardly been the case. Following the initiation of proceedings, shareholders know that the process is dependent upon them, regardless of whether their position still has value in comparison to creditors’ rights and claims. Accordingly, the legacy shareholders must frequently be removed in the case of sustainable reorganisations and must be compensated dearly in the course of a change in shareholders. In future, this will not be necessary.
Conclusion
It remains to be seen whether the ESUG brings about a new planning mindset. In any event, movement in a direction benefitting creditors with regard to equity participation issues and the bargaining position of supporting early petition filing is noticeable.
Further ESUG issues...
(free for publication)
The typical insolvency plan under the current InsO provides that the creditors receive a percentage stated in the plan and must definitively waive the remainder of their claims. The rules do not address what happens if the company performs better than forecast in the insolvency plan. To date, only the legacy shareholders benefitted from surplus company value.
More structuring opportunities for creditors
While the current law permits the value of the company to be reviewed in the event that at least one group rejects the plan (prohibition on obstructions, Sec. 245 InsO), the court has no right of substitution: it cannot require a change in shareholders to provide the opportunity to participate in surplus value to creditors who are now required to waive their claims. The plan is accepted where there is no surplus value, or it fails, resulting in standard insolvency proceedings (= liquidation) as the legacy shareholders are to benefit from surplus value. Creditors have no real freedom of choice: they must choose between all or nothing. The ESUG gives creditors a new option: they may secure the ability to participate in surplus value by approving a plan which provides for their participation in the company. Legacy shareholders cannot prevent this from occurring, and must only be compensated for amounts in excess of 100% of all claims and rights. The ESUG does not address what happens in this situation – all options are available. A shareholder may only block the insolvency plan by means of so-called minority shareholder rights in the event that the plan disadvantages the shareholder as compared to its position without the plan.
This ability to force a change in share ownership had previously been rejected by lawmakers. To this extent, the fact that company organisation and membership in associations may also represent value, and therefore are recoverable assets, was not recognised. These include licenses, concessions, mining permits, leases as well as other rights tied to legal entities. Furthermore, in enacting the Insolvency Act, lawmakers were subject to the false impression that shareholders would participate in a constructive manner. In practice, this has hardly been the case. Following the initiation of proceedings, shareholders know that the process is dependent upon them, regardless of whether their position still has value in comparison to creditors’ rights and claims. Accordingly, the legacy shareholders must frequently be removed in the case of sustainable reorganisations and must be compensated dearly in the course of a change in shareholders. In future, this will not be necessary.
Conclusion
It remains to be seen whether the ESUG brings about a new planning mindset. In any event, movement in a direction benefitting creditors with regard to equity participation issues and the bargaining position of supporting early petition filing is noticeable.
Further ESUG issues...
- Enhancing the influence of creditors
- From a provider of financing to an owner of the business: the debt-equity swap
- Self-Administration: from the exception to the rule
(free for publication)