By Wolfgang Höller & Barbara Steger
While in other jurisdictions creditors of an insolvent company may swap their debts into equity, creditors in Austria are still confronted with a "take it or leave it" approach as to the proposed quota payment to unsecured creditors. The recent insolvencies of large Austrian companies show the inadequacy of Austrian insolvency law in that respect.
Financial crisis just arrives
The past year has again witnessed a spectacular surge in corporate restructuring around the world, driven by the financial crisis and the increasingly intense global competition for capital supply.
Austria is no exception. Some of the major Austrian companies are highly leveraged due to the excessive use of debt capital from the capital markets in the past. While refinancing of corporate bonds was no big issue in the pre-Lehman era, it became much more complicated for leveraged companies after the credit crunch. With final repayment dates approaching, companies increasingly face a situation where they have fewer, or no, options for refinancing their outstanding bonds.
Austria's best practice – resting on laurels
Recent examples show that these efforts more often fail. Bondholders do not accept exchange offers on their bonds proposed to them as a structured haircut. New bonds aimed at refinancing the old ones are not even brought on the market due to the lack of interest. And bank creditors nowadays tend to focus on their own engagement with no intention to increase their engagement by refinancing corporate bonds.
Under Austrian law the management of such overleveraged companies may file for insolvency at a very early stage. Even when the company's illiquidity is only imminent, the management may file for so called restructuring proceedings with self administration. It enables reorganisation of the debtor's business by discharging the debtor from a part of its debts (up to 70%) and enables the debtor to continue its business if the creditors accept the proposed restructuring plan (Sanierungsplan). The restructuring proceeding with self administration is extremely streamlined and shall be accomplished within three months. The restructuring plan only needs a simple majority of the unsecured creditors representing more than 50% of the total claims.
While the debtor is released from its debts, unsecured creditors usually suffer a substantial loss of their investment. This often happens due to a lack of alternatives to the restructuring proposal of the company, forcing them to choose between the devil and the deep blue sea. They may either suffer a forced haircut on their claim through a restructuring plan or be confronted with the unpredictability of a liquidation of the company (if they can avoid the approval of the restructuring plan at all). Austrian law in particular does not provide for a compulsory option for unsecured creditors to transform their debt capital into equity capital.
Practical need for a debt to equity swap
In the new insolvency law, introduced on 1 July 2010 (Insolvenzrechtsänderungsgesetz 2010; IRÄG), the legislator did not seriously take into account that unsecured creditors would be willing to waive their quota in exchange for participating in the corporation's future success. In its explanatory remarks to the IRÄG the Federal Ministry of Justice stated that, given the current corporate environment, there was hardly any demand from creditors for such a debt to equity swap and reserved this issue for serious consideration at a later stage.
Recent insolvency cases clearly show that the legislator was wrong. The lack of a compulsory debt to equity swap ultimately protects shareholders. While they benefit from their company becoming substantially deleveraged, unsecured creditors still do not have any chance to get a piece of the cake. They are still confronted with an uncreative "take it or leave it" situation where they have to vote against a restructuring plan which might not be in their interest nor to the benefit of the company.
To sum up, the recent reform of the insolvency proceedings has not tackled the big issue of creditors' participation in future corporate success. The legislator's opinion that there is no practical need for such instruments has been proven wrong by recent insolvency cases. The legislator should give this issue serious reconsideration, and soon.
This article was originally published in the schoenherr roadmap`11 - if you would like to receive a complimentary copy of this publication, please visit: http://www.schoenherr.eu/roadmap.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.