Court approval of refinancing agreements in Spain-EUROFENIX
The 4th Additional Provision of Law 22/2003 of July 9, on Insolvency (the “LC”) regulates one of the principle pre-insolvency instruments existing in Spanish law: court approval of refinancing agreements between a debtor company and its creditors.
As with other mechanisms of this nature, the legislature has tried – especially in the current economic crisis – to facilitate refinancing agreements between a debtor company and its creditors through court approval, with the primary goal of ensuring the economic viability of the debtor company and avoiding the need to carry-out a bankruptcy procedure that, in most cases, inexorably leads to the final settlement and termination of the company.
Perhaps the most important aspect of this “anti-insolvency” mechanism to highlight is the possibility of extending certain effects of the refinancing agreement (holds or debt cancellation, among others) to the so-called “dissident creditors”, i.e. those creditors who have opposed or have not signed the agreement, contingent on certain majorities of financial liability being met, as discussed below.
Thus, the law attempts to prevent the opposition from creditors with minor holdings that could pose a serious obstacle to the continuation of the debtor company. This is the direction of the latest reforms undertaken on court approval – such as Law 17/2014, of September 30, which adopted urgent measures on debt refinancing and restructuring of debtor companies – which have tended to favor creditors that have signed a refinancing agreement at the expense of dissenting creditors.
This article analyzes the fundamental aspects of court approval of refinancing agreements (requirements for court approval, court proceedings, effects, challenges, etc.) and takes a critical view of the LC.
Requirements to apply for court approval
The legal requirements to obtain court approval of a refinancing agreement are the following:
- The agreement should be signed by creditors representing at least 51% of the financial liabilities;
- The agreement should lead at least to a significant expansion of available credit or the modification or termination of the debtor’s duties, provided that the debtor meets a viability plan that allows the continuation of professional or business activity in the short and medium term;
- A certificate from the auditor of the debtor certifying the adequacy of the liability required to adopt the agreement.
- The agreement must be formalized in a public document.
Effects of court approval of a refinancing agreement
Court approval of a refinancing agreement has the following main effects:
- The extension of certain effects of the refinancing agreement to dissident creditors, depending on the percentages of approval of the agreement.
- The paralysis of the unique executions brought against the debtor for the debts related to the refinancing agreement.
- The inability to terminate the agreement if refinancing leads to subsequent bankruptcy.
Effects extending to dissenting creditors
As noted, one of the main purposes of court approval is the possibility of extending certain effects of the refinancing agreement to creditors opposed to the agreement. Under the LC, the percentage of the financial liability affected by the agreement determines which effects of the agreement extend to dissident creditors.
In this regard, when the agreement has the support of creditors representing 60% of the financial liability (65% for creditors whose claims are secured by collateral) the following effects of the agreement may be extended to the dissenting creditors:
- Forbearance of principal or interest payments for up to five years; and
- The conversion of debt into equity loans during the same period.
When the agreement has the support of creditors representing 75% of the financial liability (85% for creditors whose claims are secured by collateral) a greater variety of effects may be extended:
- Forbearance of principal or interest payments for a term of five years or more, but in no case more than ten;
- Debt pardons;
- The conversion of debt into shares of the debtor company;
- The conversion of debt into equity loans, convertible bonds or subordinated loans, or other similar instruments;
- The transfer of property or rights to creditors as payment of all or part of the debt.
Procedure for obtaining court approval
The procedure articulated by the LC to obtain court approval of a refinancing agreement is particularly characterized by its speed, which attempts to resolve a situation of actual or imminent insolvency that may order a company to end its economic activity. The main steps of this procedure are as follows:
- Application for court approval of the agreement addressed to the competent court of the registered office of the debtor company by the debtor or any signatory of the financing agreement, accompanied by certain documentation (refinancing agreement, certified auditor, etc.).
- Having examined the documentation, the judge will decide whether the application is admissible.
- After full satisfaction of the legal requirements provided in section II of this article, the judge shall automatically approve the agreement, without going into the merits, within fifteen days. The order shall be published in the Insolvency Public Register and the Official State Bulletin (BOE).
Challenging court approval
Although it is certainly restrictive, the LC allows dissident creditors to challenge the order of court approval of a refinancing agreement. Dissident creditors may only allege (i) the disproportionate nature of the sacrifice required of the dissident creditors; and (ii) the failure to meet the legally required majority of financial liability.
In relation to the first ground, the LC only refers to the disproportionate sacrifice very generically. Looking to Spanish doctrine and jurisprudence, determining the existence of a disproportionate sacrifice requires (i) an assessment of the effects of the agreement for dissident creditors by comparing the effects on the appellant with the corresponding effects on the signatories; and (ii) whether the planned restructuring limits the rights of dissenting creditors more than they could reasonably expect in the absence of a restructuring of the debtor.
The second reason for challenging court approval concerns whether the refinancing agreement meets the legally required majority for approval (51% of creditors) and, where appropriate, the extent of the agreement’s effects (from 60% up to 85%, depending on the case).
In challenging the court approval, dissenting creditors may be unsure about the period available to raise the challenge. The LC refers merely to a period of fifteen days from the publication of the order, but does not clarify whether it is fifteen business or fifteen calendar days.
In this regard, it should be clarified that the fifteen day period is a procedural term which therefore should exclude non-working days (Article 185 of the Organic Law of the Judiciary). This is because the period to challenge begins to run as a result of a procedural action, which in this case is the publication of the order in the BOE and Insolvency Public Registry. This is the understanding developed in the classical jurisprudence of our Supreme Court.
Despite not being an actual judicial notice, the “publication” is undoubtedly a procedural notification form which the LC chooses precisely to expedite the process and avoid possible delays arising from the difficulties of communication to each of the dissenting creditors.
Lastly, the steps to successfully challenge are plainly explained in the following points:
- The challenge should be initiated before the same court that approved the agreement.
- If the judge processing the challenge deems it appropriate, the judge shall transmit the challenge to the debtor and the other signatory creditors so they may oppose the challenge within ten days.
- The judgment ruling on the challenge of the court approval must be issued within thirty days.
As noted at the beginning of this article, the Spanish bankruptcy proceeding ends with a high percentage of cases of liquidation and termination in favor of the debtor. Therefore, the pre-insolvency phase – specifically with court approval of refinancing – stands as one of the determining factors in achieving business continuity in a critical financial situation, by setting up new instruments, amortization schedules, and financial conditions more in line with the market and enterprises, in addition to providing refinancing agreements of a significant level of legal protection against external perpetrators.
That being said – and without losing sight of the advantages that this institution offers – the current legal configuration of this provision cannot be ignored as some of its other key aspects are detrimental to minority dissenting creditors.
According to the latest legislative reforms, given the urgency of judicial proceedings, the current approval process leads to a “quasi-automatic” resolution of a refinancing agreement (making it unnecessary to formally assess the content of the agreement or the sacrifices that might ensue, deducing the whole process to mere formal requirements).
This has led the burden of pleading the invalidity of the refinancing agreement to fall exclusively on the dissenting creditors. This situation is aggravated by the fact that the creditors in question are not personally notified of the court’s decision or of the short time frame they have to appeal the decision (fifteen days).
Most major critics are skeptical of the fact that any challenge to the court’s approval would be presented before the same court that made the decision, with no recourse to appeal to an independent body. This leads to a certain degree of helplessness on the part of the dissident creditors (considering that it is complex for a judge to go against his or her own decisions and change the conclusion thereof).
Thus, the legitimate and necessary objective pursued by the legislative body to ensure the viability of Spanish companies cannot be done without preserving the right balance in the rights of dissenting creditors, who also play a key role in financing the debtor.
José María Mesa Molina & Alberto Álvarez Marín