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Insolvency contesting has turned into a major risk factor for creditors in recent years. This is especially true where they are aware of business partners’ financial problems.
In a recent decision, the German Federal Court of Justice comprehensively described the requirements for contestability of out-of-court reorganization concepts, as a result increasing the risk of contesting insolvencies. Since the reform of the law pertaining to the contesting of insolvencies that is scheduled to enter into effect in the fall of 2016 will not entail changes to this area, it is necessary to review the decision in more detail.
The case at issue is an everyday occurrence: A customer turns to its creditors with an out-of-court reorganization settlement agreement. In the specific case, a company had offered its creditors a settlement agreement in 2007. On the basis of a plan drafted by an auditing firm, creditors were supposed to declare a partial waiver with debtor warrant against payment from third-party funding to be procured. The subsequent defendant agreed and received the corresponding installment payment. In 2011, the customer had to declare bankruptcy after all. The insolvency administrator challenged the installment payment received, at least partially successfully, before the Federal Court of Justice.
The court held that it is the creditor’s responsibility to check the conclusiveness of the reorganization plan. The creditor also needs to prove later that the concept was conclusive from the perspective of a reasonable third party. If it fails to do so, any payment received may be contested within a period of ten years.
This scheme poses considerable risks: When is a reorganization plan conclusive? How can this be proven?
The Federal Court of Justice fails to provide exact standards in this respect. The simple nodding through of an installment settlement rate will by no means be sufficient. On the other hand, however, a full report according to the guidelines of the German Institute of Auditors (IDW S6) will not necessarily be required. The Federal Court of Justice insinuates that based on company size, requirements to the reorganization plan are to be differentiated. The court leaves it open, however, as to where and how exactly this can be achieved.
So, what are the recommendations for daily practice?
First, the essential basics of the concept to allow examination must always be obtained. These include the presentation of the causes of the insolvency, the measures to eliminate them, and a positive going concern forecast.
Then, the conclusiveness of this information is to be checked. Complete, specific, and plausible starting figures, comprehensible and realistic forecasts, logical conclusions for sustainable reorganization, and reputable consultants are key checkpoints. With respect to relevant comparative amounts, specialized third parties should also be consulted to assess the conclusiveness of the concept.
The full text of the decision is available at the Federal Court of Justice website under case number: IX ZR 65/14.
The case at issue is an everyday occurrence: A customer turns to its creditors with an out-of-court reorganization settlement agreement. In the specific case, a company had offered its creditors a settlement agreement in 2007. On the basis of a plan drafted by an auditing firm, creditors were supposed to declare a partial waiver with debtor warrant against payment from third-party funding to be procured. The subsequent defendant agreed and received the corresponding installment payment. In 2011, the customer had to declare bankruptcy after all. The insolvency administrator challenged the installment payment received, at least partially successfully, before the Federal Court of Justice.
The court held that it is the creditor’s responsibility to check the conclusiveness of the reorganization plan. The creditor also needs to prove later that the concept was conclusive from the perspective of a reasonable third party. If it fails to do so, any payment received may be contested within a period of ten years.
This scheme poses considerable risks: When is a reorganization plan conclusive? How can this be proven?
The Federal Court of Justice fails to provide exact standards in this respect. The simple nodding through of an installment settlement rate will by no means be sufficient. On the other hand, however, a full report according to the guidelines of the German Institute of Auditors (IDW S6) will not necessarily be required. The Federal Court of Justice insinuates that based on company size, requirements to the reorganization plan are to be differentiated. The court leaves it open, however, as to where and how exactly this can be achieved.
So, what are the recommendations for daily practice?
First, the essential basics of the concept to allow examination must always be obtained. These include the presentation of the causes of the insolvency, the measures to eliminate them, and a positive going concern forecast.
Then, the conclusiveness of this information is to be checked. Complete, specific, and plausible starting figures, comprehensible and realistic forecasts, logical conclusions for sustainable reorganization, and reputable consultants are key checkpoints. With respect to relevant comparative amounts, specialized third parties should also be consulted to assess the conclusiveness of the concept.
The full text of the decision is available at the Federal Court of Justice website under case number: IX ZR 65/14.
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