The Insolvency Code: perfect timing for a new legal framework for distressed companies
22 min read
On 12 January 2019, the Italian Government enacted Legislative Decree No. 14 (so called "business crisis and insolvency code (codice della crisi d’impresa e dell’insolvenza)", which entered into force on 15 July 2022 (the "Insolvency Code").
The Insolvency Code provides for, inter alia, the following:
- new tools aimed at preventing the onset of a situation of crisis or insolvency, by adopting restructuring measures facilitating an early composition of financial distress on a going concern basis;
- a single set of common procedural rules applicable to all in-court insolvency proceedings, in order to ascertain the occurrence of a state of crisis or insolvency and offer interim protection;
- new rules facilitating the implementation of restructuring tools by companies in financial distress; and
- ad hoc rules for the management of a crisis or insolvency of companies belonging to the same group.
This alert examines the key features of the Insolvency Code which innovate the framework outlined by the Bankruptcy Law, with particular focus on new tools available, including the newly introduced "negotiated composition for business crisis management (composizione negoziata per la soluzione della crisi d'impresa)" (the "Negotiated Composition")2
The Negotiated Composition (composizione negoziata per la soluzione della crisi d'impresa)
The Negotiated Composition allows companies and their advisors to conduct fair negotiations regarding a possible restructuring with creditors and other stakeholders in a protected environment and under the supervision of an independent expert appointed by the Chamber of Commerce (the "Expert"). The purpose of the Negotiated Composition is to find an amicable solution for recovering a business in a situation of "capital imbalance (squilibrio patrimoniale)" or "economic-financial imbalance (squilibrio economico-finanziario)" that make a crisis or insolvency likely to occur, where and to the extent that the recovery of the business is "reasonably feasible (ragionevolmente percorribile)".
Hence, the Negotiated Composition is a tool meant to be used in situations where there is a possibility for the company to continuing its business rather than proceeding with its immediate liquidation.
One of the key features of the Negotiated Composition is the availability of several protective tools that make it possible for a company and its advisors to conduct fair negotiations with creditors and other stakeholders, while preserving its going concern and assets, and namely:
(a) the ability for a company to apply for a stay of preventative and enforcement actions by all creditors (other than employees) over its assets and/or on any goods and rights used to operate the business;
(b) the temporary exemption from the mandatory provisions of law imposing the recapitalization or liquidation of undercapitalized companies;
(c) the lending banks' inability to freeze or terminate the "banking facilities (affidamenti bancari)" granted to a company as a result of the mere circumstance of the commencement of the Negotiated Composition;
(d) the creditors' inability to unilaterally refuse the performance of their obligations vis-à-vis the company or terminate the relevant agreements following the failure non-payment of receivables accrued prior to the start of the Negotiated Composition.
For the entire duration of the Negotiated Composition, directors of the company maintain the ordinary and extraordinary management of the business. However, the company must be managed to avoid hindering its economic and financial sustainability and the company shall give prior written notice of any extraordinary transactions to the Expert.
One of the key strengths of the Negotiated Composition is the faculty of the company to carry out, with the prior authorization of the Court, certain transactions under a special favorable regime, such as:
(a) the entering into "debtor-in-possession" financings (made available by either shareholders or third parties) which qualify as super-senior receivables (crediti prededucibili) in the context of any subsequent insolvency or enforcement proceedings started towards the company; and
(b) the transfer of the business in any form (including by way of lease) without joint liability of the transferee for debts pertaining to the transferred business (other than debts owed to employees).
Furthermore, transactions, actions and payments made in the context of the Negotiated Composition are not subject to claw-back action in the case of subsequent restructuring proceedings or insolvency proceedings of the company need to be implemented and are exempted from certain bankruptcy criminal offences, provided that (i) such transactions, actions and payments are aligned with the status of the negotiations and the perspective recovery of the company and (ii) the company complies with the requirements regarding the prior Court authorization or communication to the Expert, as the case may be.
The ultimate goal of the Negotiated Composition is for the company to reach an agreement with its creditors (and other relevant stakeholders, as applicable) on a proposal to overcome its financial distress. If such proposal is agreed upon, the relevant parties will execute one or more agreements which, if certain conditions are met, would entail additional benefits, such as (i) a haircut on tax receivables and penalties (if the Expert's report certifies that such agreement(s) is/are adequate to ensure the continuation of the business for at least two years) and (ii) an exemption from claw-back actions and certain bankruptcy criminal offences in respect of all transactions, actions and payments carried out in performance of such agreement(s) (provided that also the Expert executes those agreement(s)).
If the proposal is not agreed upon by the creditors, the company, as an alternative to other tools or proceedings available under the Insolvency Code, may also enter into a newly introduced restructuring proceedings called "simplified composition with creditors for the liquidation of the assets (concordato semplificato per la liquidazione del patrimonio)" (the "Simplified Composition"). This option is available to the company only in the case of a negative outcome of the Negotiated Composition and only if the Expert, in its final report, certifies that the negotiations were conducted in good faith and that the proposal made for overcoming the financial distress through an agreement with the creditors was not successful.
The proposal for a Simplified Composition, which shall be filed with the competent Court by the distressed company, together with a liquidation plan (which may contemplate the transfer of the business or a business branch), may also contemplate the grouping of the creditors into "classes" (each of which comprises creditors homogeneous by nature and underlying economic interests). The filing of the relevant petition has substantially the same effects as the filing of the petition for a "composition with creditors proceedings (concordato preventivo)" (the "Composition with Creditors") (see below).
Unlike the Composition with Creditors proceedings, the proposal for a Simplified Composition does not require the approval of the creditors, which are not entitled to vote. The Simplified Composition is "approved (omologato)" by the Court if the company's proposal does not entail any prejudice to the creditors compared to a Judicial Liquidation, scenario and ensures some benefit to each creditor.
Upon the Court "approval (omologazione)" of the Simplified Composition, the Court appoints a liquidator to implement the liquidation plan. If the liquidation plan contemplates the sale of the business, such sale should be carried out in the context of a competitive bid and, upon transfer, all liens encumbering the relevant assets will be canceled and, unless otherwise provided in the liquidation plan, the transferee will not be jointly liable with the company for debts pertaining to the transferred business (other than debts towards employees).
The Certified Recovery Plan (piano attestato di risanamento)
The Insolvency Code contains a full set of provisions regulating the certified recovery plan (piano di risanamento attestato) (the "Certified Recovery Plan")3, an out-of-Court restructuring tool already contemplated by the Bankruptcy Law which entails (i) the preparation by the company and its financial advisers of a recovery plan aimed at restructuring the indebtedness of the company and rebalancing its financial situation on a going concern basis, and (ii) the execution of one or more agreements with creditors implementing such plan.
The vast majority of such provisions reflects — with limited exceptions — best practices followed by the market practice under the Bankruptcy Law. Such new rules state, inter alia, the contents of the recovery plan, which shall include:
(a) mechanisms and elements of flexibility able to ensure that its feasibility is preserved in spite of any critical circumstances that may occur in the course of its implementation (so-called "self-adjusting plan");
(b) the timing of the actions and transactions to be performed under the plan, so as to track its implementation over time (so called "milestones"); and
(c) an industrial plan with evidence of the relevant effects on the forecasted financial situation of the company.
The new common judicial procedure for entering into the in-Court restructuring proceedings provided under the Insolvency Code
The Insolvency Code provides for a new common judicial procedure aimed at assessing the existence of a crisis or insolvency as a preliminary step before the admission to a Composition with Creditors, the approval of a “debt restructuring agreement (accordo di ristrutturazione dei debiti)" (the "Debt Restructuring Agreement") or a “restructuring plan subject to approval (piano di ristrutturazione soggetto ad omologazione)” (the "Restructuring Plan") or the opening of a Judicial Liquidation4.
Through the common judicial procedure, the Insolvency Code grants the company — as already provided under the Bankruptcy Law — the ability to file a petition with the Court seeking protection from, inter alia, potential actions by creditors during the time needed to file for the admission to a Composition with Creditors or to obtain the approval of a Debt Restructuring Agreement or a Restructuring Plan. However, the Insolvency Code imposes several limitations on these protective measures which were not contemplated in the previous Bankruptcy Law. In particular:
(a) the period for which the protective measures will operate has been significantly reduced, increasing the risk of the company not being able to timely prepare and file all the documentation pertaining to the restructuring plan before such period of time elapses (its initial duration is up to four months, with the possibility of further extension under certain conditions, provided that the total duration does not exceed 12 months); and
(b) the stay of claims and preventative and enforcement actions against the company does not operate automatically upon the publication in the Companies' Register of the relevant petition, but it is subject to judicial approval to be given within 30 days from the publication of the petition, and does not operate in respect of wages to employees.
On the other hand, in certain instances, the protective measures under the Insolvency Code have a broader scope compared with the analogous measures provided by the Bankruptcy Law. For example:
(a) the stay of claims and preventative and enforcement actions operates not only with respect to the company's own assets, but also any assets and rights utilized by the company in operating its business (which could be construed as a reference to assets and goods leased or licensed to the company);
(b) the company's creditors affected by the protective measures cannot unilaterally refuse performance of their obligations nor terminate key supply agreements on the believe payments will not be made to the them.
The Debt Restructuring Agreement (accordo di ristrutturazione dei debiti)
The Insolvency Code contains provisions regulating the Debt Restructuring Agreement5, a two-staged two-step restructuring proceeding based on the execution of an agreement with creditors representing at least 60% of the indebtedness of the company on the basis of a restructuring plan certified by an independent expert and approved (omologato) by the Court. While the main features of this proceeding are identical to those under the Bankruptcy Law, the Insolvency Code contemplates certain new provisions aimed at facilitating access to such proceeding6, including the following:
(a) the ability to obtain the court approval of a Debt Restructuring Agreement entered into with creditors representing at least 30% of the aggregate indebtedness of the company (as opposed to the 60% minimum threshold otherwise required), provided that (i) no moratorium on the payment of the receivables owed to non-adhering creditors is provided and (ii) no interim protective measures are requested by the company; and
(b) the strengthening of the cram-down of non-adhering creditors, allowing the company to extend the effects of the Debt Restructuring Agreement to all creditors. More specifically, the company may:
(1) group the creditors into "classes" according to their nature and underlying economic interests;
(2) ask the Court to extend the effects of the Debt Restructuring Agreement to non-adhering creditors included in one or more of such “classes”, at the discretion of the company, provided that:
(i) creditors representing at least 75% of the receivables of the relevant "class(es)" adhere to the agreement; and
(ii) the plan underlying the agreement provides for the continuation of the business and the repayment of creditors (in a significant or prevailing measure) from the proceeds of the continuation of the business7.
The Composition with Creditors (concordato preventivo) and the Certified Restructuring Plan (piano di ristrutturazione soggetto a omologazione)
The Composition with Creditors is an in-Court restructuring proceeding based on a restructuring plan assessed by an independent expert and a proposal to the creditors to be voted by the same creditors and "approved (omologato)" by the Court, which has undergone several changes under the Insolvency Code8. Unlike the Bankruptcy Law, the Insolvency Code:
(a) allows the company to enter into a "Composition with Creditors on a going-concern basis (concordato con continuità aziendale)", provided that (i) the continuation of the business results in an increase of the prospected recovery ratio of the creditors compared to a Judicial Liquidation scenario and (ii) the creditors' claims are satisfied (in whole or in part) from the proceeds flowing from the continuation of the business, which continuation may be either direct (i.e. where the business stays with the company) or indirect (i.e. where the business is transferred in whole or in part, leased or contributed to a third party); and
(b) restricts access to the Composition with Creditors for liquidation purposes (concordato liquidatorio), due to the circumstance that (i) third parties' financial resources shall be made available in order to increase the total assets (attivo) available at the moment of the filing of the relevant petition by at least 10% and (ii) it shall ensure the satisfaction of unsecured receivables in a percentage representing at least 20% of their original aggregate amounts.
For these reasons, the application of the Composition with Creditors for liquidation purposes may be discouraged by the fact that, reasonably, no third party is likely to finance a distress company only to allow the sale of its assets and the repayment of its creditors.
The Insolvency Code also includes several additional provisions related to:
(a) the mandatory grouping of creditors into separate "classes" (e.g., in case of creditors secured by security interests granted by third parties other than the company, for which an ad hoc class shall be created and, in any case, in the context of a Composition with Creditors on a going-concern basis);
(b) the payment of (i) receivables accrued prior to the filing of the petition, the payment of which must be authorized by the Court; and (ii) outstanding loans secured by mortgages on properties needed for the conduct of the business, in respect of which the company can be authorized to pay any amounts outstanding from time to time;
(c) the moratorium on employees' secured receivables, which cannot exceed six months from the date of Court “approval (omologazione)” of the Composition with Creditors on a going concern basis;
(d) the conditions under which secured creditors are not admitted to vote, by providing that their voting rights are disregarded if such creditors are satisfied in cash within 180 days from the Court “approval (omologazione)” of the Composition with Creditors (which term is reduced to 30 days for employees’ secured receivables); and
(e) the calculation of the majorities required for the approval of the Composition with Creditors by the creditors, which requires the favourable vote of (i) creditors representing at least the majority by value (and by number, if one single creditor has the majority by value) of the voting receivables, and (ii) if the creditors are grouped in separate “classes”, the majority of the “classes” in the Composition with Creditors for liquidation purposes or all classes in the Composition with Creditors on a going concern basis9.
One of the new tools provided under the Insolvency Code is the Certified Restructuring Plan, which was recently introduced by the Italian Government in implementation of the Restructuring and Insolvency Directive10.
The Restructuring Plan is an in-Court restructuring proceeding similar to the Composition with Creditors, both from a substantial and a procedural standpoint, but with a few significant differences. Specifically:
(a) the Restructuring Plan can provide for the satisfaction of creditors through the proceeds generated in implementation of the restructuring plan in derogation of the absolute priority rule and the provisions governing the ranking among receivables;
(b) payments of receivables accrued prior to the filing of the petition and transactions outside the ordinary course of business are not subject to the prior authorization of the Court (however, if the payment or a transaction is not coherent with the Restructuring Plan, the judicial commissioner may inform the Court and trigger the termination of the proceedings);
(c) the creditors must be grouped into “classes” and the proposal must be approved by all classes of creditors (also if the Restructuring Plan entails the liquidation of the business); and
(d) secured receivables owned by employees cannot be rescheduled or written-off and must be repaid in full within 30 days from the date of Court "approval (omologazione)".
The company may, at any time and at its discretion, file with the Court a petition to amend the proposal to the creditors requesting the approval of a Composition with Creditors, thereby converting the Certified Restructuring Plan into the latter proceedings. Conversely, the company may amend the petition for the Composition with Creditors requesting the approval of a Certified Restructuring Plan until the start of the voting by the creditors.
The provisions for the restructuring of companies belonging to the same group
The Insolvency Code favors a unified management of the crisis or insolvency of a group of companies, in order to avoid several parallel proceedings at the same time11.
Multiple companies in crisis or insolvency belonging to the same group (each having its center of main interest in Italy) can utilize the Composition with Creditors or a Debt Restructuring Agreement12 by filing a single petition and on the basis of a single plan for all the group companies or different plans mutually linked if this results in a better recovery for the creditors of each company, in comparison with the recovery that they would theoretically obtain if each company proposes a separate plan. This requirement shall be assessed taking into account the individual interests of the creditors of each company, in compliance with the principle of separation of assets and liabilities, which prevents the creditors of a company to be satisfied with the assets of another company.
However, the Insolvency Code contemplates certain exceptions to the principle of separation of assets and liabilities: the plan underlying the Composition with Creditors or the Debt Restructuring Agreement may envisage contractual and reorganization transactions, including intra-group transfers of resources, provided that an independent expert certifies that such transactions are necessary (i) for the continuation of the business of the companies pursuant to the plan and (ii) are consistent with the aim of optimizing recovery for the creditors of all group companies.
Dissenting creditors and shareholders may challenge such intra-group transfers of resources. However, in spite of such a challenge being made, the Court can rule to approve the Composition with Creditors or the Debt Restructuring Agreement it if the following additional conditions are met:
(a) in case of a challenge by creditors, the Court considers, on the basis of an overall assessment of the plan or linked plans, that the creditors can obtain a recovery of their receivables equal or better than what they would obtain in a Judicial Liquidation of the company; and
(b) in case of challenge by shareholders, if the Court – on the basis of the group plan – excludes the occurrence of an impairment of the value and profitability of their shareholdings in light of the countervailing benefits arising to the individual companies involved.
Among the novelties of the Insolvency Law is the introduction of the so called "group judicial liquidation (liquidazione giudiziale di gruppo)"13, pursuant to which multiple companies in insolvency and belonging to the same group (each having the center of its main interests in Italy) may be subjected to Judicial Liquidation before a single Court if the coordinated liquidation of their assets is deemed appropriate to achieve the best recovery ratio of the creditors of the group companies (in compliance with the principle of separation of assets and liabilities, which prevents the creditors of a company to be satisfied with the assets of another company).
In such a case, the receiver appointed by the Court is granted special powers including, inter alia, the power to start a judicial procedure for the opening a Judicial Liquidation towards any other group company in any case where a situation of the insolvency is detected by the same receiver in respect of such company.
Features concerning “debtor-in-possession” financings
The Insolvency Code contemplates provisions aimed at reorganizing and simplifying the regulation concerning "debtor-in-possession" financings, which rank super-senior (prededucibili) in the context of any future restructuring or enforcement proceedings which the company is subjected to. More specifically, the Insolvency Code provides for multiple forms of “debtor-in-possession” financings, including:
(a) financial accommodations granted to the company by its shareholders or third parties in the context of the Negotiated Composition with the prior authorization of the Court; and
(b) financial accommodations granted in any form (including by way of guarantees) to the company (i) before the Court approval (omologazione) of a Composition with Creditors or a Debt Restructuring Agreement (in each case on a going concern basis and subject to the prior authorization of the Court) and (ii) after the Court approval of the Composition with Creditors or Debt Restructuring Agreements and in performance of the relevant plan.
As already provided under the Bankruptcy Law, the Insolvency Law provides that, if "debtor-in-possession" financings are granted by shareholders (whether by way of loans, guarantees), they will rank super-senior (prededucibili) only for 80% of their amount (differently from “debtor-in-possession” financings granted by third parties, which will rank super-senior (prededucibili) for 100% of their amount).
Lastly, the Insolvency Code, unlike the Bankruptcy Law, contemplates that "debtor-in-possession" financings will not rank super-senior (prededucibili) if they were granted based on false statements, omissions, and fraudulent acts made in prejudice of the creditors and it is demonstrated that the relevant lenders were aware of such circumstances.
The Insolvency Code represents a significant step forward that marks the transition to a new chapter for the Italian restructuring and insolvency framework, providing for more economic and efficient tools for managing a situation of distress for the benefit of both debtors and creditors without neglecting the interests of shareholders and other stakeholders.
While it is a very broad and ambitious set of rules, its effectiveness will depend on many factors, including the ability of the operators to take advantage of the opportunities offered by the new tools and to adapt them to an economic and business environment that is constantly and unpredictably changing.
As of today, although most of the new rules are poorly tested in the Italian market, there are signs of a growing awareness of the opportunities offered by the reformed legal framework, primarily with regard to more flexible tools, such as the Negotiated Composition, which features make it particularly suitable for facilitating transactions ultimately aimed at the acquisition of distressed businesses.
1 The said Legislative Decree was subsequently amended and supplemented multiple times, most recently by Legislative Decree No. 83 of 17 June 2022 which, inter alia, implemented Directive (EU) 2019/1023 (the "Restructuring and Insolvency Directive") into the Italian legal framework. Upon entering into force on 15 July 2022, the Insolvency Code superseded the Italian Royal Decree No. 267 of 16 March 1942 (the "Bankruptcy Law").
2 As the primary purpose of this alert is to provide a high-level analysis of the new Italian restructuring and insolvency legal framework with a view to structuring and implementing transactions apt to prevent or overcome a situation of crisis or insolvency, it does not address the new rules concerning the so called "judicial liquidation (liquidazione giudiziale)" (the "Judicial Liquidation"), which structure, purposes and features remain substantially the same as those of the bankruptcy proceedings regulated by the Bankruptcy Law.
3 Such common procedure is regulated by articles 40 and ff. of the Insolvency Code.
4 The Debt Restructuring Agreement is regulated by articles 60 and ff. of the Insolvency Code.
5 Such provisions, which were firstly contemplated by the Insolvency Code prior to its entry into force, were also introduced in the Bankruptcy Law by Law Decree No. 118 of 24 August 2021 with immediate entry into force.
6 This requirement do not apply if at least 50% of the indebtedness of the company is towards financial creditors and cram-down is imposed only to classes comprising non-adhering financial creditors.
7 The Composition with Creditors is regulated by articles 84 and ff. of the Insolvency Code.
8 In each class, the proposal is approved if a majority of the receivables allowed to vote is reached or, failing that, if two-thirds of the receivables of the voting creditors have voted in favor, provided that creditors holding at least half of the total receivables of the same class have voted.
9 The Restructuring Plan is regulated by articles 64-bis and ff. of the Insolvency Code.
10 The management of crisis or insolvency of group companies is regulated under articles 284 and ff. of the Insolvency Code.
11 While such provisions also apply, mutatis mutandis, to the Recovery Plan, it is disputed whether such regulation on groups is applicable to the Restructuring Plan, as they are not mentioned in the relevant provisions.
12 The "group judicial liquidation" is regulated under article 287 of the Insolvency Code.
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