The correlation between the main procedure and the secondary/territorial one in cross-border insolvency

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Author: Radu Damaschin

At the European Union level, the cross-border proceedings benefit under EU Regulation 848/2015[1] from a unitary framework who general declared purpose is to ensure the optimal functioning of the internal market. To this end, there are a series of rules and principles intended to prevent the transfer of assets or judicial proceedings from one member state to another in the attempt to obtain a more favorable legal situation to the detriment of the creditors’ list.

The entire structure that underlies this regulation has been practically created around two types of insolvency and the way in which they should interact. According to Art. 3 para. 1 of the regulation, the main insolvency is the procedure that can be opened against the debtor only by the courts of the member states on the territory of which the center of its main interests are located in the place where the debtor regularly exercises its interests. On the other hand, secondary insolvency is the procedure that can be opened by the courts of a member state other than the one on the territory of which the center of the debtor’s main interests is located, if said debtor (also) has an office on the territory of that state and if a main insolvency proceeding was previously opened[2]. The effects of a secondary procedure are limited, pursuant to Art. 3 para. 2, to the debtor’s goods located on the territory of the second member state.

Given these two procedures that can function simultaneously against the same debtor in different jurisdictions, it may at times become important for practitioners to identify those criteria based on which either of them may influence the nature or content of the other. This is a natural consequence of the fact that, most times, legal entities that engage in cross-border activity may have a completely different patrimonial/financial – and implicitly, insolvency – status in the state in which the center of the main interests is located (generally, the head office) as opposed to those corresponding to the activity carried out on the territory of another member state. Starting from this, both the debtor and the local creditors could be interested in the coordination of the potential parallel procedures so that their legal effects would not lead to inequitable results that would contradict the reason for their initiation.

For considerations that are easy to guess, EU Regulation 848/2015 does not operate under a sole definition at EU level of the notion of insolvency proceeding. In Art. 2 item 4, the regulation is limited to making a reference to annex A, which in its turn contains a lato sensu enumeration of the insolvency procedures specific to all the EU jurisdictions. An analysis of these annexes reveals that, according to the community lawmaker, the insolvency procedure covers an entire range of more or less similar mechanisms (that are governed by specific regulations in each of the member states), which are intended to save the undertakings that are experiencing hardship by forbearance agreements, annulment of debts or others restructuring methods, or, in their more radical form, to satisfy the creditors through the sale of assets and deregistration.

Regardless of whether we talk about main insolvency or territorial/secondary insolvency, a firm aspect that must be mentioned is that the rules applicable to each of these procedures are governed by the law of the member state on the territory of which the relevant insolvency procedure was commenced. This is clearly reflected in the wording of Art. 7 para. (1) of the regulation, according to which:

otherwise provided in this Regulation, the law applicable to insolvency proceedings and their effects shall be that of the Member State within the territory of which such proceedings are opened (the ‘State of the opening of proceedings’).

This text is corroborated by provision contained in recital 66 of the regulation, according to which:

“This Regulation should set out, for the matters covered by it, uniform rules on conflict of laws which replace, within their scope of application, national rules of private international law. Unless otherwise stated, the law of the Member State of the opening of proceedings should be applicable (lex concursus). This rule on conflict of laws should be valid both for the main insolvency proceedings and for local proceedings. The lex concursus determines all the effects of the insolvency proceedings, both procedural and substantive, on the persons and legal relations concerned. It governs all the conditions for the opening, conduct and closure of the insolvency proceedings.”

If we were to refer only to these legal provisions, we could conclude that the insolvency procedures opened against the same debtor in several EU member states are autonomous and that they should only depend, in structure and essence, on the interests of the entity who initiated the procedure and on the requirements mandated by the applicable national law. More specifically, according to such an interpretation, for example, the territorial/secondary insolvency against a debtor may consist in the liquidation of the assets located on the territory of that member state, whereas the main insolvency against the same debtor could be directed exclusively at the reorganization of the activity carried out in the state in which the center of its main interests is located. This interpretation could also be supported by the provisions of the recital 38 thesis I of Regulation 848, according to which:

“Following the opening of the main insolvency proceedings, this Regulation does not restrict the right to request the opening of insolvency proceedings in a Member State where the debtor has an establishment.”

Moreover, the changes brought to Art. 27 of EC Regulation nr. 1346/2000 through EU Regulation 848/2015 could be brought in support of this conclusion. According to the old communitary regulation, the secondary procedure could only be liquidation – thus the most radical form of insolvency – since Annex B, which is expressly cited in Art. 27, mentioned only liquidation procedures. In fact, Art. 27 only confirmed the solution regulated in Art. 3 para. 3 of Regulation 1346/2000, according to which  “3. Where insolvency proceedings have been opened under paragraph 1, any proceedings opened subsequently under paragraph 2 shall be secondary proceedings. These latter proceedings must be winding-up proceedings.”

However, such a conclusion would be only partially correct.

First of all, we must specify that currently, Art. 34 of Regulation nr. 848/2015, which corresponds to the former Art. 27 of Regulation 1346/2000, no longer requires/instates such limitation, so that the court deciding upon the procedure should, at least theoretically, be free to decide at its sole discretion with respect to both the advisability of opening the procedure and the nature of the type of insolvency. Such conclusion, albeit seemingly correct, would also not be technically correct.

Starting from an overview of the regulation and implicitly from the reason behind instituting certain rules that are common to cross-border insolvency procedures, the apparent conclusion above calls for serious nuancing and contextualizing, many of them confirmed by the case law of the ECJ, as we will show below.

Recital 48 of EU Regulation 848/2015 emphasizes the idea that the main and secondary procedures should contribute to the efficient management of all the assets that are the object of the debtor’s insolvency or to the efficient sale of all the assets, insofar as there is adequate cooperation between the actors involved in the parallel insolvency procedures. The text reiterates and expands upon the guiding principle that was previously established pursuant to the recital 20 of EU Regulation 1346/2000. The same text confirms expresis verbis the predominant role of the main procedure over any secondary procedure, which is likely to significantly influence the relation between the two types of procedures.

The ECJ addressed this issue in case C-116/11, Bank Handlowy vs Adamiak[3], stating that  “The principle of sincere cooperation laid down in Article 4(3) EU requires the court having jurisdiction to open secondary proceedings, in applying those provisions, to have regard to the objectives of the main proceedings and to take account of the scheme of the Regulation, which, as observed in paragraphs 45 and 60 of this judgment, aims to ensure efficient and effective cross-border insolvency proceedings through mandatory coordination of the main and secondary proceedings guaranteeing the priority of the main proceedings..” In the same decision, ECJ stated that “an overall examination of insolvency must be made, having regard to the debtor’s estate profile throughout the Member States, and not just based on isolated examinations limited to taking account of localised assets in a given territory.”

The reasoning of the European court can only confirm the rule according to which none of the parallel procedures should be carried out in a way that, albeit compliant with the state law under which it was initiated, cannot affect the interests of the local creditors or those or the principle of supremacy of the main procedure. The same principle of loyal cooperation is reiterated in case C-327/13 Burgo Group SpA vs Illochroma SA[4]. In this decision, the ECJ held, inter alia, that “the court before which the action seeking the opening of secondary proceedings has been brought must have regard, in applying its national law, to the objectives underlying the possibility of opening such proceedings”, and that, beside the fapt of protecting the local interest, “the secondary proceedings may follow different purposes”. Once such a procedure is opened, the court “must take into account the objectives of the main proceedings and take into account the economy of the Regulation, respecting the principle of loyal cooperation.”

These arguments are resumed and developed in case C-212/15, ENEFI Energiahatekonysagi Nyrt vs Direcția Regională a Finanțelor Publice Brașov[5] in which the court stated that “although Regulation No 1346/2000 provides for the possibility of opening secondary insolvency proceedings, subject to certain conditions, the Court has previously stated that the opening of such proceedings, which, pursuant to Article 3(3) of that regulation, must be winding-up proceedings, may run counter to the purpose served by main proceedings, which are of a protective nature, and that the regulation therefore sets out a number of mandatory rules of coordination intended to ensure, as expressed in recital 12 thereof, the unity required in the European Union.”.

All three decisions cited above were based on the provisions of EU Regulation 1346/2000, but the decision of the European court is also undoubtedly valid also by reference to the current regulation.

EU Regulation 848/2015, in a more detailed form than EU Regulation 1346/2000, implements mechanisms intended to ensure the coordination of cross-border procedures in a way that would allow for the protection of all the categories of interests, at the same time recognizing the predominant role played by the main procedure over any secondary procedure. To this end, we can give the example of the insolvency practitioner’s right in the main procedure to request, according to Arts. 46 and 47 of the regulation, the suspension of the process of selling the assets or the change of the nature of the secondary procedure, if the latter ensures better coherence between the main and the secondary procedures and if the interests of the local creditors are not endangered.

Thus, it can be concluded that the relationship between the main insolvency procedure and the secondary one requires an extremely complex and subtle analysis that must take into account both purely legal elements and the evaluation of certain economic factors, so that the decisions adopted will ensure the benefits of such a procedure are maximized.

Based on the general considerations above and without taking into account certain specific circumstances that might affect the courts’ decisions, we could nonetheless identify certain scenarios in which the potential solutions should take into account the following principle:

1. The main (or a similar) bankruptcy procedure, followed by a request for the opening of a secondary procedure.

In such a scenario, in principle, the secondary procedure could consist in just a procedure similar to the main one (with limited effect on the debtor’s assets located on the territory of that member state). A procedure for reorganization/restructuring or agreement would not be possible because they would be incompatible with the purpose of the main procedure, which is the liquidation of the debtor’s assets and its dissolution. From this perspective, we must reiterate the fact that the main insolvency procedure is directed at all the debtor’s assets, regardless of where they are located. In this scenario, the nature of the secondary insolvency is imposed by a technical consideration (the finality of the bankruptcy procedure), which trumps every other judiciousness consideration.

2. The main procedure for reorganization/restructuring or agreement followed by a secondary procedure

In such a scenario, it would be reasonable to consider that the secondary procedure should have, at least theoretically, effects similar to those of the main procedure or, eventually, less radical effects. Otherwise, the secondary procedure would be a major impediment to the success of the main procedure, which is obviously intended to redress the debtor’s activity. However, even in this scenario we could imagine the situation where the chances of reorganization of the main activity would not necessarily depend on the assets located in the jurisdiction in which the opening of a secondary bankruptcy was requested and it would not be possible to satisfy the interests of the local creditors in any other way than by liquidating the assets located in that jurisdiction. In this case, the secondary procedure would be a liquidation procedure.

3. The territorial insolvency procedure per se or agreement followed by the main procedure.

In such a scenario, the main procedure could, in any of these instances, be in the form of restructuring, agreement, or equivalent, because, if the creditors (together with the insolvency practitioner and, obviously, the court) considers that the activity of the company can be salvaged and only the assets in the state in which the debtor has the center of its business interests would be sufficient for this, then the nature and effects of the territorial procedure (that has become secondary) should be indifferent.

A more interesting discussion arises when the territorial procedure is an agreement or the equivalent, and the main procedure inclines towards the insolvency per se or bankruptcy. Starting from the previously analyzed scenario, we could be tempted to consider that in this case also symmetry should be respected, meaning that the main procedure may not have a different nature than the territorial procedure that was previously commenced.  In such case, we are of the opinion that the solution should first and foremost rely on the principle of the dominant nature of main insolvency. If the interests of the creditors from the jurisdiction in which the center of the business interests is located can only be satisfied through the liquidation of assets, this interest could not be sacrificed in favor of the creditors from another jurisdiction in which the debtor has an office, or to salvage the activity that the debtor carries out in another EU member state.

Obviously, it would be naive to think that we could capture all the potential scenarios that might occur. The scenarios identified above are the most predictable situations presented before the courts, and the solutions that we have only schematically outlined here arise only from the interaction of certain general principles and rules. The complexity of the economic, legal and social relations will always surprise us with details and questions to which practitioners and experts will not only have to provide answers, but also raise challenges that will promote the high level of professional discourse inherent to this field.

[1] EU Regulation 848/2015 applies to the insolvency procedures opened stating with 26th June 2019, replacing the provisions of Regulation (EC) No. 1346/2000.

[2] Prior to the opening of a main proceeding, only a territorial procedure may be opened in the territory of another Member State which (after the opening of a main proceeding) becomes a secondary insolvency ope legis.

[3] http://curia.europa.eu/juris/liste.jsf?num=C-116/11&language=EN

[4] http://curia.europa.eu/juris/liste.jsf?language=en&num=C-327/13

[5] http://curia.europa.eu/juris/liste.jsf?language=en&num=C-212/15

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