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Captivity of Rehabilitation

Date of publication: 1 September 2016

Andrii Konoplia, Insolvency Receiver, Attorney at Law

Source: Yurydychna Praktyka

The debtor’s solvency restoration procedure, which is regulated in terms of rehabilitation and often involves a complex mechanism of its implementation.

The Law of Ukraine “On Restoring Debtor’s Solvency or Declaring a Debtor Bankrupt” is aimed at restoring solvency of the enterprise and envisages the procedures for the disposal of property, rehabilitation and liquidation.

In the course of the procedure for disposal of property financial and investment situation of the debtor and its position in the markets are analyzed. According to the result of such analysis, the meeting of the creditors decides on the next optimal procedure (rehabilitation, settlement agreement or liquidation) to meet the creditors’ claims in full or in part.

Rehabilitation and settlement agreement are aimed at restoring solvency of the debtor, and only if neither rehabilitation nor settlement agreement are possible the decision is approved to liquidate the company.

It should be noted that the transition to the rehabilitation procedure is possible also at the stage of liquidation, if the creditors due to some reasons, such as appearance of the investor, see the possibility to restore the debtor’s solvency.

Rehabilitation as it is

In accordance with Article 28 of the Law of Ukraine “On Restoring Debtor’s Solvency or Declaring a Debtor Bankrupt” rehabilitation is interpreted as a system of measures, which are carried out during the bankruptcy proceedings to prevent declaring the debtor bankrupt and its liquidation, aimed at improving the financial and economic situation of the debtor and satisfaction of the creditors’ claims in full or in part by restructuring the enterprise, debts and assets, and/or change of organizational and legal and production structure of the debtor.

The system of measures aimed at restoring solvency of the debtor is regulated in a special document – the rehabilitation plan, which must be developed by a rehabilitation manager. The rehabilitation plan also includes the conditions of repayment of creditors’ claims. Certainly, implementation of the rehabilitation plan depends on its quality.

In addition, the rehabilitation plan must be approved by the committee of creditors of the debtor, agreed in writing by secured creditors, and if there is state property – by the body authorized to manage the state property, and only then it is sent to the court for approval. The Law establishes a three-month period for submission of the rehabilitation plan to the court, which is calculated from the date of introduction of the rehabilitation procedures. If the rehabilitation plan is not submitted within 6 months by the rehabilitation manager for approval to the court, the latter has the right, at its own initiative, to approve the decision on termination of the rehabilitation procedure and transition to the liquidation procedure.

The realities of the practice

Transition to the rehabilitation procedure from the stage of disposal of the property or the stage of liquidation is quite common and does not cause any difficulties. The courts, as a rule, satisfy the appropriate motion and introduce the rehabilitation procedure.

During the rehabilitation process difficulties begin at the stage of preparation, coordination and approval of the rehabilitation plan.

For example, the question of coordination of the rehabilitation plan with the security creditors is often an insolvable problem.

Firstly, the Law does not set forth any criteria based on which such creditor has the right not to coordinate the rehabilitation plan and taking into account the guaranteed opportunity to obtain satisfaction of its claims through disposal of pledged property, such lender is usually disadvantageous to coordinate the rehabilitation plan.

Secondly, if the creditor refuses to coordinate the rehabilitation plan, the Law envisages the following options: 1) on allocation of pledged items from the property of the debtor, their sale at auction as envisaged by this Law, and satisfaction of claims of such creditor at the expense of money received from sale; 2) on redemption of debt according to the register of creditors’ claims. Thereto, the decision on choice of the first or the second option is made by other creditors rather than secured creditor, who refused to coordinate the rehabilitation plan. In most cases, the decision approved by other creditors does not satisfy such secured creditor, as the first are disadvantageous to set any privileges to a particular creditor, and the second is disadvantageous to adapt to the opinion of the majority.

In addition to the above, it should be noted that the Law does not set forth the time from which the rehabilitation plan shall be considered as coordinated in the above case: after approval of decision by other creditors, after implementation of the approved decision or after the end of litigation.

It should be noted that the rehabilitation plan that envisages full or partial repayment of debt in the short term at the expense of the debtor’s money problems does not usually create problems. However, in such cases, the parties to the bankruptcy case prefer to enter into a settlement agreement.

The rehabilitation plan usually contains a more complex mechanism of restoration of solvency. For example, the debtor has the object of unfinished construction. The rehabilitation plan in this case may envisage attraction of investor, completion, introduction of the object in operation and sale to satisfy the creditors’ claims.

Certainly, working out of such rehabilitation plan requires considerable effort and engagement of specialists in the field of construction. However, even in case of proper elaboration of the rehabilitation plan the question of its coordination arises, because it is impossible to forecast exactly when the construction is completed, when and at what price the item of real estate is sold. Thus, the rehabilitation plan can not exactly answer the question of the creditor (secured creditor) when and in what amount money will be received.

If the rehabilitation manager still managed to approve the rehabilitation plan, the problem of its implementation arises. In the case above, it may be delay in the work of contractors (subcontractors), change in prices for materials and work, problems with obtaining the authorization documents, termination of funding by the investor, lack of demand in the real estate market, etc. Thus, it is not always possible to implement the approved rehabilitation plan.

The potential investor might be scared by the possibility of the creditors’ committee to amend the rehabilitation plan. After all, the decision on amendment of the rehabilitation plan is deemed adopted if more than half of votes of the creditors – members of the creditors’ committee were cast for it. However, the investor does not have a voting right and even more so – the right to veto at the meeting of the creditors’ committee.

Perhaps all of the above circumstances are the reason that the rehabilitation procedure not often ends by implementation of the rehabilitation plan, approval of the report of the rehabilitation manager and restoration of debtor’s solvency.

The above-mentioned problems and many other issues arising during the rehabilitation procedure are not regulated by judicial practice sufficiently. And as far as a disputable situation is settled by judicial authorities, I think that the rehabilitation procedure will become more efficient.