Financing Insolvency Estates Around the World

1. Financing Insolvency Estates Around the World International Insolvency Institute Annual Conference Fordham Law School June 10, 2002

2. Insolvency Law Reform Among international organizations, there exists broad consensus on the need to provide statutory authority for an insolvency representative to borrow funds in order to facilitate either the rescue of a debtor’s business or the sale of a debtors’ assets as a going concern.

3. International Monetary Fund In their August 1999 report on “Orderly and Effective Insolvency Systems,” the Legal Department of the IMF commented on post-commencement financing as follows:

4. International Monetary Fund “Given the importance of new financing for an enterprise during rehabilitation, it is important that the law give the administrator adequate powers to obtain such financing. This should normally include the power to give a post-petition creditor administrative priority or a security interest on unencumbered assets. Where necessary, consideration may also be given to granting a creditor priority over other administrative creditors. In contrast, permitting the granting of priority over secured creditors is not recommended as this runs the risk of severely undermining the value of security.”

5. Asian Development Bank In their April 2000 report on Insolvency Law Reforms in the Asian and Pacific Region, the ADB had the following to say about the need for post-commencement financing:

6. Asian Development Bank Good Practice Standard 5.6: The law should sanction and provide for a commercially sound form of safe ‘priority’ of funding that is necessary for the on-going and urgent business needs of a debtor during the rescue process.

7. Asian Development Bank • The ADB Report goes on to comment that “[a]n insolvency law should and can help this situation by providing power to obtain funding and by providing assurances or protection for the eventual repayment or recovery of this funding.” • “The law can do this by, firstly, recognizing the need for and sanctioning such funding and, secondly, by creating a form of ‘super-priority’ for its repayment to the provider. It can also assist by recognizing and enforcing, where it is appropriate, rights of subrogation.”

8. World Bank In their April 2001 statement on “Principles and Guidelines for Effective Insolvency and Creditor Rights Systems,” the World Bank similarly commented on the need for an insolvency law to permit such financing:

9. World Bank Principle 18: The law should provide for a commercially sound form of priority funding for the ongoing and urgent business needs of a debtor during the rescue process, subject to appropriate safeguards.

10. World Bank “Principle 18 allows priority financing on a flexible basis as determined to be appropriate in particular markets. Thus, if a court concludes that priority financing involving collateral is in the best interests of the creditors, and not prejudicial to the secured creditor with an interest in collateral, the court should be able to approve the financing. However, to the extent the solution developed impacts the rights of secured creditors or those holding a prior in time interest in assets, principle 18 must be interpreted in light of the general proposition upholding commercial bargains and the adequate protection requirement in principle 16. This calls for a carefully balanced approach.”

11. UNCITRAL In its Draft Legislative Guide on Insolvency Law, UNCITRAL’s Insolvency Working Group makes the following recommendations regarding post-commencement financing:

12. UNCITRAL • Recs. 110 and 111: “The insolvency law should permit the insolvency representative to obtain post-commencement finance where the insolvency representative determines it to be necessary for the continued operation or survival of the business of the debtor or the preservation of enhancement of the value of the assets of the debtor.” Such law “may provide that authorization of the court is required.”

13. UNCITRAL: Security for post-commencement finance • Rec. 112: The insolvency law should enable security to be provided for repayment of post-commencement finance, including security on unencumbered assets and a junior or lower priority on encumbered assets. • Rec. 113: The insolvency law should provide that a security over the assets of the debtor to secure post-commencement finance does not have priority ahead of any existing security over the same assets unless the insolvency representative notifies the existing security holder and obtains their agreement or follows the procedure in recommendation (114).

14. UNCITRAL: Security for post-commencement finance • Rec. 114: The insolvency law should provide that where the holder of the existing security does not agree, the court may authorize the [granting] [creation] of that security provided specified conditions are satisfied, including: • That the existing secured creditor has sufficient security in the assets that it will not [be harmed][suffer unreasonable harm] by a priority given to the post-commencement finance; • The secured creditor was given notice and the opportunity to be heard by the court; • The debtor can prove that it cannot obtain the finance in any other way; and • The interests of the existing security holder will be adequately protected.

15. UNCITRAL: Priority for post-commencement finance • Rec. 115: The insolvency law should establish the priority that may be provided for post-commencement finance, ensuring at least the payment of the post-commencement finance provider ahead of payment of ordinary unsecured creditors (an administrative priority).

16. Domestic Insolvency Laws Despite this consensus, few domestic insolvency laws authorize post-commencement financing and fewer still provide for the repayment of such financing on a priority basis.

17. Asia and Pacific Rim • In their comparative study of GPS 5.6, the Asian Development Bank found “a clear problem in the region in this area.” • Specifically, “[t]he laws of only three economies, those of Singapore, Korea and Thailand, expressly provide for the possibility of sanctioning the provision of ‘new money.’” • Moreover, “of these, only the Singapore judicial management law provides for protection by way of priority repayment of that new money.”

18. Central and Eastern Europe • In their report for USAID, Richard D. Coates and Arlene E. Mirsky found that treatment of post-commencement finance varies in CEE insolvency laws. • “Some countries give specific priority of repayment to such ‘post-petition finance’ (e.g., Estonia, Bulgaria). In others, we suspect that the ongoing business is financed informally through funds realized from pre-petition assets (e.g., receivables and inventory). In most cases, formalized sources of post-petition financing are unavailable to debtors in a reorganization.”

19. Germany • InsO §264(1) provides for the treatment of post-commencement loans in a plan. • Under that provision, the maximum amount of such loans “shall be fixed” according to a “loan ceiling,”and are given priority over the other creditors.

20. Israel • To date, there is no statutory provision on post-commencement financing in Israel. • Post-commencement financing would be permitted under a 1997 draft of a new Israeli reorganization bill, but the bill is yet to be introduced to the Knesset.

21. Israel • In Carmel Carpets Enterprise, the Israeli Supreme Court held that post-commencement loans are always junior to pre-commencement secured claims, as long as no statute provides otherwise.