Journal of Corporate Renewal

May 2014

INTERNATIONAL

• Does it receive goods or services from other likely nonviable parts of the organization that cannot be economically replaced?

• Are there significant contingent liabilities or underutilized assets?

• How are key constituencies likely to react to a parent’s Chapter 11 filing, including local management, employees, customers, vendors, and governmental agencies?

• Under what circumstances can the parent retain control of the operation? Is a local insolvency proceeding workable, or is a local filing likely to result in loss of control?

• If the operation is insolvent or likely to become so, what additional burden does that place on the relevant officers and directors?

Because of intercompany relationships among businesses, it’s critical to take a wide view to ensure all of the pieces are captured in the review; decisions cannot be made on an operation-by-operation basis. It is essential to identify relationships among operations that would impact the analysis. For example, are any subsidiary’s products or personnel key to another’s supply chain or integral in supporting domestic sales efforts? In a multijurisdictional restructuring, formal legal structures become paramount and will override typical global product group structures.

The “retain or release” decision is not always straightforward, obvious, or binary. Consideration must be given to the fact that this decision might trigger unintended consequences financially, operationally, or legally. For example, could an operation be impacted by a local adversary proceeding, or is it linked to a toxic asset? If the decision is to release an operation, does it have intercompany relationships with other retained operations in another jurisdiction, and will the release impact control of the retained operations?

Jurisdiction. Foreign insolvency
laws, although evolving, particularly
in Europe, may still not be as favorable
to a debtor-controlled restructuring
process as those of the United States.

The European Union (EU), for all practical purposes, is not unified in the development of insolvency proceedings. Administration turns over control to an administrator, who looks to optimize the assets of an operation through a sale or liquidation for the benefit of creditors.

Recently the U.K. scheme of arrangement has emerged as an alternative to court-appointed administration, leaving management in place and providing greater flexibility. However, outside the U.K., Germany, France, Spain, and Italy, insolvency remains focused largely on liquidation rather than restructuring.

Considering the inconsistencies in addressing insolvencies beyond the U.S. border, it is imperative to understand and consider local laws and practices that might restrict repatriation of cash, movement of assets, or impacts on employees.

What happens to local employees, especially management, if an entity becomes insolvent? Dire personal consequences, including criminal exposure, are possible. Senior management in filed entities may have to relinquish authority to court-appointed insolvency administrators. There could be considerable risk they might jump the gun and seek local protection from exposure to personal risk if a clear path to avoid, cure, or manage a potentially insolvent situation is not effectively planned and communicated.

A parent-subsidiary relationship, with intercompany dependencies, although viewed as independent operationally, may be disrupted by the U.S. restructuring, the result of which could impact local solvency tests. The often complex nature of these arrangements may trigger local filings.

Preserving Value. A primary objective
in preparing for a bankruptcy is
management of the global sources
of cash—credit facilities outside the
U.S. might dry up when news of a
U.S. parent’s filing is disclosed. These
facilities must be protected or minimally
replaced. Preservation of value
might include moving debt among
various operating entities in different
jurisdictions. Planning should take into
account the procedures or processes
that need to be addressed when moving
debt between operating entities.

Tax authorities at all levels may need to review the plan, debt load, etc., to confirm that the operation can take advantage of the increased interest charge as a deduction. Formal solvency reports may need to be developed, submitted, and reviewed to prove the point, which takes time and money.

Consideration should include potential impacts of the U.S. parent filing as well as the potential “release” of a foreign affiliate. What is the plan to address customers in general and key customers specifically? Do key suppliers need special consideration for one or several operations across foreign borders? How will employee concerns be addressed and coordinated with unions and local works councils? As with the U.S., are there any regulatory considerations?

Continued funding of retained operations must be addressed, and U.S. debtor-in-possession financing needs to cover foreign operations, especially any that are funded through parent operations or credit facilities via intercompany transactions. The local vendor community may need reassurance that continued funding is or will soon be available. Can local operations provide the cash flow to support and the assets to leverage through local independent credit relationships? Can foreign operations provide funding to each other, avoiding any impact or connection with the U.S. filing?

Finally, although incentive programs for key executives under U.S. bankruptcy laws require specific incentives to be closely tied to cause-and-effect performance measurements, retention programs or “stay bonuses” for key management outside the U.S. are not unusual and are considered to be a good way to ensure operational focus.