The current Brazilian economic crisis brings forth a series of concerns to the M&A market as it is a driver of deterioration of balance sheets and shortage of financing sources. In this scenario, Brazilian out-of-court reorganization proceedings become an attractive alternative. The simplicity and swiftness of its procedure vis-à-vis court-supervised reorganization proceedings make it a valuable instrument for specific solvency issues.
The advantages of out-of-court reorganization include: (i) dealing with only one or some classes of private creditors; (ii) extension of the effects of the reorganization plan to dissenting creditors of a class (cram down) provided that the plan is approved by 60% of creditors of said class; and (iii) negotiation in a short period of time, allowing banks to improve credit ratings of transactions and avoid mandatory provisioning of amounts lent due to banking regulations (for example, transactions overdue for more than 180 days - the term for submission of the court-supervised reorganization plan – must have a 100% provision and be booked as a loss).
Despite all its virtues, out-of-court reorganization has its limitations and risks. The main limitation is the exclusion of tax, labor or labor accidents credits, as well as credits secured by fiduciary lien, or leasing credits, among others. The main M&A risks related to out-of-court reorganization derive from such limitation, as there is no strong legal precedent on the absence of succession of liabilities to purchaser, even if related to a sale of an Isolated Productive Unit - UPI [Unidade Produtiva Isolada] through judicial auction, especially in cases involving labor and tax liabilities.
In our practice, we identified a growing interest in out-of-court reorganization, especially for M&A transactions involving distressed companies (more specifically, those with large bank debts). However, the legal uncertainty that involves the matter still represents a risk to its use in large scale, requiring a thorough analysis of possible benefits and risks for each particular case before reaching a conclusion on the use of this alternative.
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.