TOPIC VII
Corporate Governance in foreign
investments, privatization and the
significance of insolvency regimes
7.3 Insolvency Regimes
and their effect on Corporate
Governance
Submitted by: Submitted to:
Ronnel C. Valenzuela Prof. Carolina Guerrero
May 9, 2014
What is Insolvency?
Insolvency arises when an individual or organization can no longer meet its
financial obligations with its lender or lenders as debts become due. Insolvency can
lead to insolvency proceedings, in which legal action will be taken against the insolvent
entity, and assets may be liquidated to pay off outstanding debts.
Before an insolvent company or person gets involved in insolvency proceedings,
it will likely be involved in more informal arrangements with creditors, such as making
alternative payment arrangements. Insolvency can arise from poor cash management, a
reduction in the forecasted cash inflow or from an increase in cash expenses.
Insolvency regime in the Philippines
The Insolvency law act no.1956 is an act providing for the suspension of
payments, the relief of insolvent debtors, the protection of creditors, and the punishment
of the fraudulent debtors.
Insolvency in the country is governed by Republic Act No. 1956 or the Insolvency
Law, which was enacted way back in 1909. It defines insolvency as the state of a
person who has accumulated more liabilities than assets and may therefore be unable
to meet obligations when they are due. The insolvent may petition the court to declare
him or her in a state of suspension of payments while working things out with creditors.
In its unamended form, the insolvency law merely provides for the distribution of
an insolvents assetswhatever is left of itamong creditors. It was no more than a
bankruptcy system or, in the words of Prof. Augusto A. San Pedro of the UP College of
Law, an elaborate ritual for partitioning the carcass of a dead company.
RA 1956 remained untouched for 67 years, until Presidential Decree No. 902-A
was passed in 1976 to address the growing needs of the economy. More than simply
giving a distressed company time to rationalize the distribution of its remaining assets,
PD 902-A increased the scope of suspension of payments by giving corporationseven
those whose liabilities have exceeded their assetsa chance to pull their act together
through rehabilitation and, hopefully, get a new lease on life. The procedure under RA
1956, explains Pasadilla, did not effectively provide for breathing space for
corporations that are undergoing temporary difficulties; PD 902-A provided this avenue
through rehabilitation.
Insolvency regime in the United Kingdom
United Kingdom insolvency law regulates companies in the United
Kingdom which are unable to repay their debts. WhileUK bankruptcy law concerns the
rules for natural persons, the term insolvency is generally used for corporations formed
under the Companies Act 2006. The main sources of law include the Insolvency Act
1986, the Insolvency Rules 1986, the Company Director Disqualification Act 1986,
the Employment Rights Act 1996 Part XII, the Insolvency Regulation (EC)
1346/2000 and case law. Numerous other Acts, statutory instruments and cases
relating to labor, banking, property and conflicts of laws also shape the subject.
Corporate insolvencies happen because companies become excessively
indebted. Under UK law, a company is a separate legal person from the people who
have invested money and labor into it, and it mediates a series of interest
groups. Invariably the shareholders, directors and employees' liability is limited to the
amount of their investment, so against commercial creditors they can lose no more than
the money they paid for shares, or their jobs. Insolvencies become intrinsically possible
whenever a relationship of credit and debt is created, as frequently happens
through contracts or other obligations. In the section of an economy where competitive
markets operate, wherever excesses are possible, insolvencies are likely to happen.
The meaning of insolvency is simply an inability to repay debts, although the law
isolates two main further meanings. First, for a court to order a company be wound up
(and its assets sold off) or for an administrator to be appointed (to try to turn the
business around), or for avoiding various transactions, the cash flow test is usually
applied: a company must be unable to pay its debts as they fall due. Second, for the
purpose of suing directors to compensate creditors, or for directors to be disqualified, a
company must be shown to have fewer overall assets than liabilities on its balance
sheet. If debts cannot be paid back to everybody in full, creditors necessarily stand in
competition with one another for a share of the remaining assets. For this reason, a
statutory system of priorities fixes the order among different kinds of creditor for
payment.
Insolvency regime in France
The successful work-out or restructuring of loans and other debts owed by a
French company is largely dependent upon how quickly the parties recognize the
problem and how quickly they can achieve a consensual resolution prior to the
commencement of formal insolvency proceedings. Several factors make both quick
identification of the need for a restructuring and prompt implementation of the
restructuring imperative.
Under French law, a company must file for bankruptcy relief within 45 days of it
first becoming insolvent on a cash flow basis (i.e., upon it becoming unable to meet its
debts, as they become due, with its available assets) or its management subjects itself
to civil sanctions. Upon a company's insolvency, any creditor, the commercial court or
the public prosecutor may also properly commence an involuntary bankruptcy
proceeding against it. In addition, as from 1 January 1,2006, companies experiencing
difficulties which they cannot overcome and which lead to their becoming insolvent on a
cash-flow basis are entitled (but not required) to commence certain voluntary
bankruptcy proceedings known as safeguard proceedings. The bankruptcy court may
look back up to 18 months prior to the date on which it opens the bankruptcy
proceedings to determine, if such is the case, at what date during that period the
company become insolvent.
Insolvency regime in East Asia
Most jurisdictions in East Asia present challenges to the realization of value from
troubled enterprises different than those in Europe and the United States. Although
each jurisdiction has its own particularities, there are a number of common attributes.
Despite the variety of social systems and economies, there generally is a
preference for out-of-court consensual solutions. Governments are reluctant
to support foreign creditors use of domestic courts to enforce claims against
domestic obligors. Domestic creditors in East Asia prefer traditional
solutions.
Large business groups in East Asia enjoy considerable political influence. If
government support is not available on acceptable terms, governments are
likely to suggest brokered solutions, sometimes involving combinations with
There is little transparency. Public companies usually are controlled by
families or groups which use cross-holdings to maintain effective control with
the public float reflecting only a minority interest. Related party transactions
can mean the control over the key asset such as land or inputs are
maintained indirectly by the principal shareholders and revenues diverted by
marketing or distribution channels controlled by the ultimate majority
shareholders.
Domestic banks and finance companies may act on the basis of more than
purely commercial considerations either to impede or support solutions
offered by foreign creditors.
Domestic insolvency statutes often are of little practical significance. Black
letter statute can be important but selective enforcement often is the pertinent
aspect.
General Electric The failure of this mega-conglomerate would impact the
world economy with at least the same force as the implosion of AI. With
most analysts proposing that it would qualify as "ai big to fail," maybe this is all much
ado about nothing.
General Electric (NYSE: GE) is generally seen as a proxy of the entire U.S. economy,
and coinciding with general opinion that the worst is over, GE stock has rallied +63%
over the past year. GE has continually posted positive EPS, but it did have to cut
its dividend in 2009 to conserve cash.
There are two schools of thought on GE:
A) Because GE's business is so diversified, good news for GE is good news for
the entire economy and vice versa (on that note, GE reports its first quarter results
on Friday, April 16th).
B) GE is essentially a hedge fund pretending to be a blue-chip. The finance wing has
made bad loans, bad decisions and has piled loads and loads of debt onto a tiny sliver
of equity, leaving absolutely no room for error.
Before you make up your mind as to which school you're in, think about this: GE had an
85% debt ratio in December 2009, meaning that every dollar of assets was financed
with 85 cents of debt. But to believe that ratio, you have to be willing to value almost
$375 billion in loans and accounts receivable at $375 billion. In other words, you have to
assume that GE made such good loans to its customers that if GE had to sell
the receivables for cash today, it would get full price. I don't know about you, but I
wouldn't pay full price for any loan portfolio these days.
If the economy continues to improve, GE may be able to continue paying
down debts with profits. But if the assets listed on GE's balance sheet are overvalued by
just 15%, then GE is already underwater. If there's another downturn, or even just a little
wobble, GE's debt load may prove to be too heavy.
Bankrupt GE to Spend $30 Billion As Obama Administration Continues To Fund
The failure of this mega-conglomerate would impact the world economy
with at least the same force as the implosion of AI. With most analysts proposing that it
would qualify as "ai big to fail," maybe this is all much ado about nothing.
After GEs secret $16 billion taxpayer-funded bailout while US
Government enforced the use GE mercury-laced light bulbs on American citizens,
President Obama called on GEs chief Jeffrey Immelt to head his economy recovery
advisory panel as Obama made special arrangements for the upcoming $53 billion in
taxpayer funds used to subsidize GEs construction of a high-speed rail system.
Remedies to companies for insolvency
Members Voluntary Liquidation - A tool for winding up a solvent registered
company. Statutory declaration of solvency made by the directors.
Company resolves by special resolution to be wound up
Creditors Voluntary Liquidation - A tool for winding up a company where a
statutory declaration of solvency cannot be made. No reason is required
for a CVL. Company resolves by special resolution to be wound up.
Compulsory Liquidation - Application to the court by directors or company
to wind up.
Administration - Theoretically, a business rescue tool giving a company
protection from creditors during a restructuring period.
Creditors Voluntary Agreement - A voluntary arrangement for repayment
of debt binding upon creditors.
Effects of insolvency/insolvency regimes on corporate governance
Effect on directors
Directors may be personally liable for debts incurred by the
company if it trades while insolvent. A company may be liable for
the debts of a subsidiary if it allows the subsidiary to trade while
insolvent. A director may be held personally liable for unpaid taxes.
Effects on secure Lenders
Insolvency is usually an event of default and may allow for the
appointment of a receiver or voluntary administrator. Be aware that
the value of the security is at risk. Security taken after a company is
insolvent may be invalid, unless new monies are advanced.
Effects on unsecured creditors
Payment of accounts outside normal trading terms may be
recovered as an unfair preference by a future liquidator if the
liquidator can show that the creditor had a suspicion that the
company was insolvent.
Effects on advisors
Anyone who instructs or directs directors may be deemed to be a
director themselves and could also be personally liable for debts
incurred by the company if it trades while insolvent.
Advisors need to be careful how they structure fee arrangements to
guard against the fees being recovered by a liquidator as an unfair
preference.
Restructuring - A significant modification made to the debt, operations or structure of a
company. This type of corporate action is usually made when there are significant
problems in a company, which are causing some form of financial harm and putting the
overall business in jeopardy. The hope is that through restructuring, a company can
eliminate financial harm and improve the business.
When a company is having trouble making payments on its debt, it will often consolidate
and adjust the terms of the debt in a debt restructuring. After a debt restructuring, the
payments on debt are more manageable for the company and the likelihood of payment
to bondholders increases. A company restructures its operations or structure by cutting
costs, such as payroll, or reducing its size through the sale of assets. This is often seen
as necessary when the current situation at a company is one that may lead to its
collapse.
References:
http://www.dailypaul.com/84915/ge-possibly-going-bankrupt
http://deepblue.lib.umich.edu/bitstream/handle/2027.42/39774/wp390.pdf?sequence=3
http://en.wikipedia.org/wiki/United_Kingdom_insolvency_law
http://fsia.com.au/guidance-for-unsecured-creditors/effects-of-insolvency-on-directors-creditors-and-
advisors.html
http://en.wikipedia.org/wiki/General_Electric_timeline
https://mises.org/daily/6596/General-Electrics-Crony-Capitalism
http://en.wikipedia.org/wiki/Corporate_scandals
http://www.bankofengland.co.uk/research/Documents/fspapers/fs_paper05.pdf
http://www.examiner.com/article/general-electric-is-going-bankrupt
http://www.investopedia.com/terms/i/insolvency.asp
http://www.lw.com/upload/pubContent/_pdf/pub1844_1.pdf
Table of Contents
Insolvency . 2
Insolvency regime in the Philippines . 2
Insolvency regime in the United Kingdom . 3
Insolvency regime in France . 4
Insolvency in East Asia . 4
General Electric . 5
Remedies for companys insolvency . 7
Effects of Insolvency on corporate governance . 7
Parce qu'elle me fait sourire
