A 21st-century make-over of the 1909 Insolvency Law pt.2 by John M. Ryan (March 8, 2010)

Business World (03/08/2010)

(Second of two parts)

In the first part of this co-lumn, I wrote that the House of Representatives and the Senate each have approved a separate version of a bill, but that no consolidated version has been agreed upon and sent to Malacañang. I then com-pared the changes in House Bill 7090 to the Insolvency Law of 1909 (Act No. 1956) and the Rules on Corporate Rehabilitation issued by the Supreme Court in 2001, as amended in 2008.

I am now informed that a consolidated version has been agreed to with House Bill 7090 prevailing and that presently the Senate is proofreading the final version and once done, the House will proceed with the printing. This is a very timely development for companies as we see the increasing need for corporate rehabilitation due to factors that were either unforeseen or nonexistent when the original Insolvency Law was enacted in 1909.

I summarize a few more salient changes to the House Bill 7090 that will be very useful to both creditors and debtors. These include the following:
• The timing for overturning transactions deemed preferential is increased to 90 days from 30 days. If the rehabilitation receiver fails to question the preferential treatment, any creditor or group of creditors may step into the shoes of the rehabilitation receiver and receive the benefit of any successful action up to the limit of the participating creditor claims.

The rights of secured creditors in respect to security protection are enhanced. The bill specifically provides that secured creditors’ collateral shall not be impaired. Payments or additional alternate security may have to be provided. In fact, the rehabilitation plan now must provide to maintain the security interests of secured creditors. More benefits to secured creditors include the following:

1. Payments under the plan must now respect the preference of credits under the Civil Code. Banks’ secured priorities are set out in Articles 2241 and 2242; and

2. The present value of payments under a plan must now be more than a creditor would receive in liquida-tion. This will help curtail abuses that debtors have previously bestowed on banks.
• If a rehabilitation plan is not approved within one year from the date of filing the petition, the proceedings will turn into one of liquidation. This will force creditors and debtors to be more reasonable and timely in their negotiations. Similarly, if the approval of a plan is deemed obtained by providing materially misleading information or by fraud, then the Court may turn the proceedings into liquidation.
• Different arrangements can now be made within a class of creditors subject to the approval of 50% of each sub-class and class affected or 80% of all creditors. This should assist in dealing with the needs of varying types of creditors such as regular trade creditors, construction trades, unsecured financial institutions and employees.
• Payments under a rehabilitation plan must now respect preferential rights under the concurrence and preference of credit provisions of the Civil Code which should help protect creditors to the extent they are secured, employees for past unpaid services, contractors who supply materials and labor to construction sites and the claims of government. Banks will now need to keep track of these types of unpaid liabilities better, knowing that payment will be required by a debtor in rehabilitation prior to their unsecured advances. This provision will require clarification as it could be very complicated to sort out claims and the amounts each such creditor would be entitled.
• A plan must now provide for payment to any objecting creditor whose net present value is more than the objecting creditor would receive in liquidation

In the past, debtors simply needed to try to show that a secured creditor would receive more under a rehabilitation plan than in liquidation. Debtors would schedule payments over extended periods without consideration to the lender’s cost of funds. This created great abuse of secure creditors. This section also will similarly apply to unsecured creditors.

There is provision for the approval of a plan despite the objections from an owner, partner or stockholder if the terms of the plan are required to rehabilitate the debtor. This could, however, be effectively overturned by the debtor filing for voluntary liquidation. If the court truly believes that the debtor can be rehabilitated, perhaps, consideration might be given to requiring approval of a petition into liquidation by the rehabilita-tion court.
• A plan must now be confirmed within one year of the filing of a petition

In the past, debtors dragged proceedings in an attempt to negotiate better terms with creditors. More often than not, the debtor continued to lose substantial amounts to the detriment mostly to the creditors.

The business landscape has undergone numerous upheavals since 1909. House Bill 7090 is now in keeping with the times, particularly with respect to corporate rehabilitation. Among others, it provides more rights and protection to creditors, particularly secured creditors. It creates more flexibility in rehabilitating a distressed corporation and also allows for a better flow of information to creditors. The approval of rehabili-tation plans will also become more timely and predict-able. These are welcome changes that can now address the challenges of the more complex corporate dynamics of the 21st century.
(John M. Ryan is a managing director of Ernst & Young Transaction Advisory Services Inc.)

This article was originally published in the BusinessWorld newspaper. It is for general information only and is not a substitute for professional advice where the facts and circumstances warrant. The views and opinion expressed above are those of the author and do not necessarily represent the views of SGV & Co.