The pace of change in international reorganizations and restructurings continues to accelerate. As businesses continue to globalize, international businesses and their stakeholders must pay much closer attention to the international and domestic issues and contingencies in structuring their business transactions and investments.

The European Union Regulation on Insolvency Proceedings

The most dramatic new development in international insolvency is certainly the European Union (EU) Regulation on Insolvency Proceedings. The Insolvency Regulation is a mechanism to coordinate insolvency proceedings in the member states of the European Union. The objective of the Regulation is to provide a primary forum for insolvency proceedings in the jurisdiction in which the debtor has its "center of main interests," with any other insolvency proceedings being secondary and local.

The potential breadth of the Insolvency Regulation is illustrated by an early case that arose out of the Enron collapse and involved a subsidiary incorporated in Spain with business primarily in Spain, but whose headquarters were effectively in London. The English High Court accepted the argument that the center of main interests of the company for purposes of the Insolvency Regulation was England, and the Court consequently issued an Administration Order against the company as the primary proceeding under the Insolvency Regulation. Subsequently, a French court in fact dismissed an insolvency proceeding in France that had been taken against a company that had filed in its center of main interests in England. From this example, the new Regulation seems to be working as intended.

The Insolvency Regulation will likely have a broader effect on non-EU credit grantors than might be expected. In an insolvency, creditors from all countries of the European Union will be able to prove their claims against the debtor, and these claims will include tax claims and social claims. Moreover, subsidiaries incorporated abroad may fall within the scope of the Insolvency Regulation because they may well have their center of main interests within the European Union. There may well be potential conflicts between EU and non-EU administrations where a particular company falls both within the Insolvency Regulation and within the jurisdiction of an overseas court.

Major Changes in U.K. Practice

Major new legislation became effective in the United Kingdom in September that brought major changes in the insolvency and restructuring regime in England. The most fundamental and startling change brought an end to private receivership as a major insolvency procedure. For the country that largely invented and developed the concept of private receivership, this is a very significant change of course. In another major departure from long-established U.K. practice, the priority status of governmental claims has been abolished in all insolvencies. Governmental claims will now be treated on the same basis as those of ordinary unsecured creditors, which is a thoroughly remarkable development. Preferences for the claims of employees have been retained.

The benefit of the abolition of governmental priority claims was intended to go to unsecured creditors. To do that, a percentage of the recovery made by secured creditors holding floating charge security (i.e., 20 percent up to £600,000) is set aside for unsecured creditors. Secured creditors' deficiencies do not qualify as unsecured claims for purposes of payment from the carve-out amounts. In other words, approximately 20 percent of the realization on assets that are subject to floating-charge security is directed for the benefit of unsecured creditors.

As part of the continuing re-orientation of the U.K. insolvency system toward restructurings and away from liquidations, the statutory objectives of the new legislation now specifically and explicitly encourage reorganizations of business in financial difficulties. This is a major and very profound shift in U.K. practice.

New Initiatives in Japan

Japan's Corporate Reorganization Law was originally enacted in 1952 and was significantly reformed earlier this year. Because of the new amendments, it may well prove to be Japan's most effective major reorganizational system.

The Corporate Reorganization Law binds both secured and unsecured creditors, in contrast to earlier Japanese legislation, which did not bind secured creditors. Prior to its amendment, the bankruptcy court had a tendency to refuse to accept filings if the court felt that a business lacked the ability to reorganize. The new act eases these requirements and is expected to make its procedures more attractive for reorganizations. Under the amended act, the court can issue an order for relief even if it is apparent that the debtor may not be able to come up with a satisfactory reorganization plan. Time constraints have been tightened: For example, a debtor has only 12 months from the order for relief to file a reorganization plan.

Commencing proceedings under the revised law involves a comprehensive injunction restraining creditors from pursuing claims against the debtor. The injunction is effectively similar to the automatic stay in the Bankruptcy Code. Sales of assets prior to a plan are allowed, although substantial concurrence on behalf of the creditors is required. The revised law also provides for administrative claims in Japanese reorganizations for the first time: Claims incurred after the order for relief, but before the filing of the plan, will have priority over other pre-petition claims.

The Japanese government also launched earlier this year a major financial initiative intended to improve the ability of Japanese companies to reorganize. The initiative involved the creation of the Industrial Revitalization Corporation of Japan (IRCJ). The IRCJ has been capitalized with U.S. $100B of financial resources to pursue its activities.

The concept is that the IRCJ will purchase loans made by "secondary" Japanese banks to companies that are candidates for financial rehabilitation. The IRCJ will then monitor the progress of the company's rehabilitation and ultimately sell the loans it has acquired to appropriate purchasers. The period between the purchase and the sale of loans is intended to be less than three years.

The IRCJ has been given the ability to issue standstill notices to bank creditors requiring them to abstain from loan collection activities. The IRCJ's purchase of claims against major entities is intended to reduce the number of parties involved in complex reorganizations, ideally down to the debtor, its primary lender and the IRCJ.

A former Justice of the Supreme Court of Japan, Dr. Shinjiro Takagi, has been appointed to take charge of the IRCJ committee that selects and monitors the progress of major situations that require financial rehabilitations. Dr. Takagi has contributed several articles to the Journal and has had extensive cross-border and international experience in major restructurings as a practitioner, judge and academic, and is exceptionally well suited to the responsibilities of guiding the rehabilitation activities of the IRCJ.

The American Law Institute Guidelines for Court-to-court Communications

For many years, insolvency professionals and the courts have been aware that, in transnational cases, the prospects for a successful financial restructuring are always enhanced if there is effective "real-time" communication between the insolvency administrations in the countries involved.

As Mr. Justice J.M. Farley of the Ontario Superior Court of Justice observed some time ago (in "A Judicial Perspective on International Cooperation in Insolvency Cases," ABI Journal, March 1998 at 12), reorganizational cases involve "real-time litigation" where matters must often be dealt with urgently if there is to be anything left to save. This contrasts with "autopsy litigation," where it "doesn't matter much whether the case is dealt with this month or next year." It is also increasingly important that courts in different countries that are faced with administering different segments of the same global enterprise at the same time be aware of what each other is doing. There have been amazing advances in technology over the last half-dozen years, and it is encouraging to see a trend developing where courts in insolvency cases are taking advantage of opportunities presented by these kinds of advances.

The most focused work in this area has been produced by the American Law Institute (ALI) in its precedent-setting Transnational Insolvency Project. The ALI's Transnational Insolvency Project was intended to develop cooperative procedures for use in business insolvency cases involving companies with assets or creditors in more than one of the three NAFTA countries.

The Project consequently produced its Guidelines for Court-to-Court Communications in Cross-Border Cases. (The text of Guidelines was published earlier in the Journal; see Vol. XVIII, No. 10, December/ January 2000). The guidelines are intended to permit rapid cooperation in a developing insolvency case while ensuring due process to all stakeholders. The concept of court-to-court communications is better seen as a linking of two concurrent court hearings that are being conducted in accordance with all appropriate applicable procedures. The only change from a purely domestic hearing is the technological link to the other court.

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If the model law is widely adopted in domestic insolvency legislation around the world, it will move international insolvency cooperation to an entirely new and higher plane.

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The guidelines have now been adopted and approved in several cross-border cases between Canada and the United States. As an example of their application, the most recent case, Re Systech Retail Systems Corp., involved a number of interrelated companies that provided "retail point of sale services" in North America. The ultimate parent of all the companies was an Ontario corporation, but the companies' principal place of business was in Raleigh, N.C. The Systech companies eventually filed for protection under chapter 11 of the U.S. Bankruptcy Code in Raleigh on Jan. 13, 2003, and a day later under the Companies' Creditors Arrangement Act in Toronto. The guidelines were incorporated into a cross-border insolvency protocol that was approved by Mr. Justice J.D. Ground of the Ontario Superior Court of Justice on Jan. 20, 2003, and by Hon. A. Thomas Small of the U.S. Bankruptcy Court for the Eastern District of North Carolina on Jan. 30, 2003. The proceedings in Systech were also notable for featuring a subsequent joint hearing between the bankruptcy court and the Canadian court (Mr. Justice Farley) held in accordance with the guidelines, which resolved and coordinated a number of cross-border issues in the case. The Systech case is another valuable example of the growing use and acceptance of the guidelines, and we anticipate that this trend will continue. See In re Systech Retail Systems (USA) Inc. (Bankr. E.D.N.C., Case No. 03-00142-5 ATS, Hon. A. Thomas Small), and Re Systech Retail Systems Corp. (Ontario Superior Court of Justice, Toronto, Case No. 03-CL-4836, Mr. Justice Farley). Guidelines has also been successfully applied in In re Matlack Systems Inc. between Toronto and Delaware (In re Matlack Systems Inc. (Bankr. D. Del., Case No. 01-01114 MFW, Hon. Mary F. Walrath)), and Re Matlack Inc. (Ontario Superior Court of Justice, Toronto, Case No. 01-CL-4109, Mr. Justice Farley), and in In re PSINet between Toronto and the Southern District of New York (In re PSINet Inc. et al. (Bankr. S.D.N.Y., Case No. 01-13213, Hon. Robert E. Gerber) and Re PSINet Limited (Ontario Superior Court of Justice, Toronto, Case No. 01-CL-4155, Mr. Justice Farley).

These cases represent a significant step forward in international cooperation in cross-border cases. It seems clear that courts that are involved in cross-border cases are becoming confident of the utility and constructiveness of using Guidelines as a means of facilitating communications between courts in different countries that are dealing with the same business enterprise. Use of the guidelines in Systech, Matlack and PSINet sets very prominent examples for other courts in other significant cross-border cases.

Guidelines and the full texts of the Reports on United States, Mexican and Canadian Insolvency Law and Practice, together with the Principles of Cooperation in Transnational Insolvency Cases, have now been published and can be ordered from the ALI. Ordering information can be found on the ALI's web site at www.ali.org. (The author was the chair for Canada on the American Law Institute Transnational Insolvency Project and was the project reporter for Domestic Aspects of Canadian Insolvency Law.)

On the international plane, the guidelines have been translated into French, Spanish, German, Italian, Portuguese and Korean, with a Japanese translation pending. The object of the translations is to enable courts in all of the major economies to be able to rely on and utilize an internationally approved standard for communications between courts. The translation of Guidelines will ensure that, in most cases, despite different languages in cross-border cases, the courts involved will be able to refer to an authentic version of Guidelines in the domestic language of the forum. Translations of the ALI guidelines in the languages listed above are available electronically from the author for interested readers of the Journal.

The Third Circuit's Call for International Cooperation

The Third Circuit has issued a remarkable judicial call for cooperation and coordination in international bankruptcy cases. The decision emerged from the acrimonious litigation in the two-country reorganization of Lernout & Hauspie Speech Products N.V. in the United States and Belgium. L&H had filed under chapter 11 in Delaware, but had also filed a second plenary insolvency proceeding a day later in Belgium. Conflicts inevitably arose as to the ranking of claims in the chapter 11 proceeding, including a contentious issue as to whether stockholder claims should be subordinated (under §510(b) of the U.S. Bankruptcy Code) or treated as ordinary claims (under Belgian law). The Third Circuit ultimately remanded the case to the bankruptcy court for further determination but, in the course of its decision, issued a remarkable exhortation for international cooperation in very strong terms:

Situations such as this call out for coordination of the two plenary proceedings. The parties have alluded to, and we are aware of, the ability of courts to discuss and ultimately agree upon an amicable resolution of these types of issues by way of an understanding or "protocol" that becomes a governing instrument by agreement. Maxwell was the "poster" case for how courts can work together when dual proceedings take place, and other courts have followed suit...
We strongly recommend, in a situation such as this, that an actual dialogue occur or be attempted between the courts of the different jurisdictions in an effort to reach an agreement as to how to proceed or, at the very least, an understanding as to the policy considerations underpinning salient aspects of the foreign laws...
While we do not know whether the cooperation [in Maxwell] was initiated by the court or the parties, there is no reason that a court cannot do so, especially if the parties (whose incentives for doing so may not necessarily be as great) have not been able to make progress on their own.
[W]e urge that, in a situation such as this, communication from one court to the other regarding cooperation or the drafting of a protocol could be advantageous to the orderly administration of justice.

The decision is a very strong recommendation from a very distinguished appeals court on the need for and advantages of international cooperation and judicial communication in cross-border cases, and is certain to set the tone for more communications between administrations in different countries in the days ahead. See Stonington Partners v. Lernout & Hauspie Speech Products N.V., 310 F. 3d 118 (3d Cir. 2002). See, also, the very extensive analysis of communications between courts by Prof. Jay L. Westbrook in "International Judicial Negotiation," 38 Texas I.L.J. 567 (2003).

The UNCITRAL Model Law on Cross-border Insolvency and the UNCITRAL Legislative Guide on Insolvency

The United Nations (U.N.) Commission on International Trade Law (UNCITRAL) is a major U.N. organization headquartered in Vienna. It began a study in April 1994 to establish a set of uniform principles for foreign insolvency representatives who needed to have access to the courts of other countries in cross-border cases. The Model Law Project ultimately became an agreed-upon international model for domestic legislation dealing with cross-border insolvencies that could be adopted anywhere in the world. The Official Text of the Model Law has now been widely disseminated and is available on the UNCITRAL web site at www.uncitral.org/en-index.htm.

The primary goal of the model law is to facilitate domestic recognition of foreign insolvency proceedings and to increase international cooperation in multinational cases. The model law contemplates a high level of cooperation between courts in cross-border cases, and domestic courts are directed to cooperate "to the maximum extent possible" with foreign courts and foreign insolvency representatives.

Mexico was the first major economy in the world to officially adopt the UNCITRAL Model Law on Cross-border Insolvency as part of its domestic insolvency legislation. (A translation of Part XIII of the new Mexican Insolvency Act by Josefina Fernandez McEvoy (which incorporates the provisions of the UNCITRAL Model Law) is available at [email protected].)

South Africa subsequently passed legislation to enact the UNCITRAL Model Law (Bill No. 4B-2000), although this legislation has as yet still not been proclaimed in force.

Japan also has passed legislation that adopted the principles of the UNCITRAL Model Law on Cross-border Insolvency. Prior to the adoption of Japan's Law on Recognition of and Assistance in Foreign Insolvency Proceedings, the Japanese system for insolvencies had been highly territorial and Japan neither recognized foreign insolvency proceedings nor sought to extend the effect of its own domestic insolvency proceedings to property of a Japanese debtor abroad. Consequently, the adoption of the new legislation represented a very significant and very important change in Japanese insolvency legislation. (A paper by Prof. Kazuhiko Yamamoto of Hitotsubashi University, which compares the new Japanese legislation with the UNCITRAL Model Law, is available electronically from the author.)

More recently, the model law has been adopted by the Republic of Montenegro, a member of the Yugoslav Federation, and by Poland and Romania. Legislation also has been passed in Spain that is to become effective in 2004; it has international insolvency provisions that parallel and, in fact, may be more extensive than those in the model law, but that also reflect the EU Regulation on Insolvency Proceedings. In addition, enabling legislation in the United Kingdom that will allow the adoption of the model law has been enacted in Parliament. In Argentina, a bill has been submitted to Congress for the adoption of the model law in that country. In addition, both Australia and New Zealand have studied the model law, and reports for the governments of both of those countries have recommended its adoption. In Canada, a Parliamentary committee has received submissions on the prospective adoption of the model law in Canada and is expected to issue a report to the government with its recommendations within the next two to three months.

In addition to the United States, where the model law forms a new chapter 15 to the pending amendments to the Bankruptcy Code, the model law has been adopted or recommended for adoption in a wide variety of countries around the world as follows: Mexico (adopted and enacted), Montenegro (Yugoslavia; adopted and enacted), Japan (adopted and enacted with variations), Poland (adopted and enacted), Romania (adopted and enacted), South Africa (adopted and enacted, but not yet in force), Spain (legislation to come into force in 2004 with international insolvency provisions that parallel the model law and also reflect the EU Regulation on Insolvency Proceedings), United Kingdom (enabling legislation for adoption passed and enacted; adoption expected), Australia (adoption recommended) and New Zealand (adoption recommended).

The introduction of the model law in Mexico, South Africa, Japan, Poland and Romania, and its prospective adoption in the United States, Britain and Argentina, will provide an impetus to other countries who are currently studying its adoption. If the model law is widely adopted in domestic insolvency legislation around the world, it will move international insolvency cooperation to an entirely new and higher plane.

Conclusion

The globalization of commerce has dramatically increased the interdependence in cross-border reorganizations of systems and procedures that facilitate the preservation of enterprise values through international cooperation and coordination.

The steadily increasing cooperation between courts in cross-border insolvencies and reorganizations, the expanding adoption of the UNCITRAL Model Law on Cross-border Insolvencies and the experience gained under the EU Regulation on Insolvency Proceedings all prove that international insolvency systems and procedures have advanced more in the last 10 years than in the previous 100 years. Moreover, the pace of change is accelerating and will continue to bring benefits to international trade and commerce and all of those who participate in it.