An insolvency practitioner's view on the European Parliament's vote on the EC Regulation on Insolvency reforms

What will the changes proposed by the European Parliament to the reforms to the EC Regulation on Insolvency mean for UK insolvency practitioners? Chris Laughton, a licensed insolvency practitioner and partner at Mercer & Hole, spoke to us about the effect of last week’s vote by the European Parliament.

What has happened?

Press Release: European Parliament backs Commission proposal to give viable businesses a 'second chance', LNB News 05/02/2014 147

The proposals, including extending insolvency rules to cover rescue proceedings, have been approved by the European Parliament in order to modernise the EU’s rules on insolvency.

What's your general reaction to the changes?

In my view, the Parliament’s proposals have too much court-based, liquidation-type thinking behind them, which could be the product of too much litigation experience and not enough commerciality on the European Parliament's Committee on Legal Affairs (JURI committee). A theoretical and potentially impractical emphasis was revealed in the Recitals to the proposals by the Parliament’s stated intention, in the context of helping sound companies to survive and giving a second chance to entrepreneurs, of promoting the rescue of debtors in severe financial distress, rather than those that are economically viable. Some debtors that are not viable need to fail.

What about multiple proceedings?

I am not sure I can wholeheartedly support the suggestion that 'the possibility of avoiding the opening of multiple proceedings' was endorsed. Any endorsement was begrudged. For example, the Parliamentary amendment limiting the period for the insolvency representative of the main proceedings to challenge the opening of secondary proceedings to one week (art 29a(4)) results in a period that is unnecessarily short. More pertinently, the Commission have introduced a proposal to amend art 18 to allow the liquidator in main proceedings to give an enforceable and binding undertaking to recognise the distribution and priority rights that local creditors would have had if secondary proceedings had been opened. A Parliamentary amendment (art 29a(2C)) proposes that the court seised of a request to open secondary proceedings may appoint a trustee with limited powers (including of petitioning the court in the main proceedings) to ensure that the undertaking is duly performed and to 'participate in its implementation'. This additional layer of non-judicial supervision not only adds cost and complexity, but flies in the face of the principle that all officeholders in main and secondary proceedings act in the interests of all the debtor’s creditors (to the extent that they are recognised in each officeholder’s jurisdiction). Any undertaking given to a group of creditors (for example from a jurisdiction that may be susceptible to the opening of secondary proceedings in relation to the debtor) in the interests of creditors will generally be enforceable through the court that opened the main proceedings. This would be likely to be at significantly lower cost to the estates than through the additional involvement of the secondary jurisdiction court and a trustee.

What about the three month relation back period for centre of main interest (COMI) and establishment?

A significant Parliamentary amendment has been the introduction of an apparently arbitrary three-month relation back period for the determination of COMI (art 3(1)) and for the identification of an establishment (art 2(g))—apparently in an attempt to avoid forum shopping. Regrettably, it ignores the fundamental principle of freedom of movement, which enables a debtor to move its COMI and should not be restricted if to do so does not harm the interests of creditors generally ('good' forum shopping), and it fails to address 'bad' forum shopping, where the COMI-shift is harmful to creditors generally. There are anomalies between the two provisions—'at least three months prior to the opening of insolvency proceedings' for COMI, compared to 'in the three months prior to the request for the opening of the main insolvency proceedings' for establishment. Worse, each provision introduces significant legal uncertainty, not least because they seek to define the applicability of the Regulation by reference to a future event. 'At least three months prior' means at any time three months or more before. The provision as amended would allow the COMI to be determined as the place where the debtor had conducted the administration of his interests on a regular basis up to, say, four months prior to the opening of insolvency proceedings. It could at the same time allow the COMI to be determined as the place where the debtor had conducted the administration of his interests on a regular basis between four and three months prior to the opening of insolvency proceedings. This is untenable. 'In the three months prior' means at any time during the preceding three months. This would allow secondary proceedings to be opened in more than one member state if the an establishment had moved from one member state to another during the three months before the request for opening main proceedings. The current provisions, which the Commission did not seek to change, provide far more legal certainty in this respect and the amendment, which indiscriminately disadvantages debtors seeking to move between member states, should be reversed.

Is the proposed restriction on types of proceedings helpful?

On the positive side, in my view, limiting in art 1(1) the scope of proceedings subject to the Regulation to exclude those based on a law relating to adjustment of debt and including only those based on a law relating to insolvency seems helpful from a UK perspective, because it would appear to remove any possibility of Companies Act 2006 schemes of arrangement being in Annex A. However, including insolvency-related proceedings for the purpose of avoidance of liquidation in place of those for the purpose of rescue seems to be a retrograde step.

What about the proposed new group proceedings?

The introduction of group coordination proceedings is another controversy introduced by the JURI committee—allegedly to strengthen the restructuring of a group and/or its members without being binding on the individual proceedings. There is no readily available evidence about the experience of the members of the JURI committee in international group insolvencies, but it is a little surprising—and very definitely not in the interests of creditors—that the legislature should seek to introduce such a significant additional layer of cost and unnecessary complexity. The complexity and risk of costly argument in different courts is highlighted by the amendment proposals (art 42da) requiring courts to assess 'the most crucial functions' on various bases such as economic significance and the taking and enforcement of decisions of strategic relevance, with the proviso that a race to the courts could prevail if that determination is too difficult. This does nothing to encourage the cooperation and communication on which the Regulation has been based and which is widely recognised throughout the insolvency profession, the relevant judiciary and academia as central to international coordination of insolvency proceedings.

The full text adopted by the European Parliament at its first reading on 5 February 2014 is at: European Parliament—Texts adopted, part 3 (p 428–463).

For further details of the Commission's original proposals, see Practice Note: Reforms to EC Regulation on Insolvency 1346/2000.

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