Restructuring mechanisms in France and recent developments

In summary

After two years of extraordinarily low numbers of insolvency proceedings owing to exceptional covid-19 support measures implemented by the government in 2020 and 2021, 2022 saw an increase in both out-of-court and in-court proceedings, with the progressive reduction of state aid, coupled with rising costs, increasing interest rates and growing uncertainty. At the same time, 2022 saw the first accelerated safeguard proceedings governed by the amended French restructuring regime transposing Directive (EU) No. 2019/1023, which introduced classes of affected parties and cross-class cramdown, as well as disposed of the veto right of shareholders.

Discussion points

• Main features of the reform
• Overview of French proceedings
• Proceedings with classes of affected parties
• First illustrative cases

Referenced in this article

• Commercial Code
• Directive (EU) No. 2019/1023 on restructuring and insolvency
• Order No. 2021-1193 of 15 September 2021, amending Book VI of the Commercial Code
• Decree No. 2021-1218 of 23 September 2021, amending Book VI of the Commercial Code

French insolvency law after the previous reform

The reform introduced by Order No. 2021-1193 of 15 September 2021, in force since 1 October 2021, and Decree No 2021-1218 of 23 September 2021, did not radically alter the bankruptcy law; however, it is in line with Directive (EU) No. 2019/1023 and follows on from the temporary measures taken to help companies affected by the covid-19 pandemic. In particular, it strengthens preventive restructuring proceedings (the Reform).

The main new features of the Reform are the introduction of classes of affected parties and the possibility to enforce a plan through cross-class cramdown (even if it is, in principle, reserved to companies of a certain size) in the existing accelerated safeguard framework.

These rules, largely inspired by US Chapter 11 proceedings, provide better protection of creditors’ interests and better predictability regarding:

• consideration of subordination agreements in relation to the composition of classes;
• compliance with the best interest of creditors test and the absolute priority rule (in case of cross-class cramdown); and
• valuation of the debtor’s company (which may be subject to independent expert advice), which allows for the determination of ‘in-the-money’ and ‘out-of-the-money’ creditors.

The management is at the centre of the company’s restructuring since, in safeguard and accelerated safeguard proceedings, only the management can submit a draft plan and, in the event of dissenting classes, request the implementation of cross-class cramdown to the court.

Shareholders no longer benefit from a veto right and cannot enforce any plan, including in the case of cross-class cramdown. If the plan contains measures affecting their rights (eg, debt-to-equity swap and any change in the by-laws), they will be gathered into one or several classes of equity holders and may be subject to a plan imposed by the court, notwithstanding their negative vote on the plan, in the event of a cross-class cramdown, subject to the satisfaction of certain conditions.

Overview of French proceedings

French insolvency law provides for two types of proceedings: consensual out-of-court proceedings and judicial in-court proceedings. These proceedings can be combined.

Consensual out-of-court proceedings

General rules

In the context of mandat ad hoc and conciliation proceedings, the president of the court appoints an officer – a mandataire ad hoc or a conciliator whose duty is to assist the debtor to negotiate and conclude a consensual agreement with its main creditors (or any other stakeholders) – to put an end to debtor’s difficulties. These consensual out-of-court proceedings are confidential, whereas judicial in-court proceedings are public.

The effectiveness of mandat ad hoc and conciliation proceedings has been proven, and all stakeholders recognise that they are an absolute first step before insolvency proceedings to preserve as much as possible the business of the company and the value for stakeholders.

In such proceedings, contractual provisions that would trigger detrimental consequences for the debtor (by reducing the debtor’s rights or increasing the debtor’s obligations upon the sole opening of amicable proceedings) are considered null and void.

Mandat ad hoc proceedings

Mandat ad hoc proceedings are opened before the president of the court at the request of a debtor who is encountering difficulties but is not cash insolvent. Cash insolvency is defined as the inability of a debtor to face its debts as they fall due with its cash.

Mandat ad hoc proceedings are not time-limited. In practice, they are usually the prior step to the opening of conciliation proceedings.

Because of the purely consensual nature of mandat ad hoc, contractual provisions will apply to the amendment of any agreement as a result of the discussions, which generally implies reaching unanimous consent.

Conciliation proceedings

Conciliation proceedings are opened before the president of the court at the request of a debtor who is encountering legal, economic or financial difficulties, whether actual or foreseeable, but has been cash insolvent^[1] for less than 45 days.

The maximum duration of conciliation proceedings is four months, which can be extended by one month under certain circumstances.

The Reform introduced changes regarding the measures that can be imposed by the president of the court on creditors during conciliation proceedings:

• the debtor may request the president of the court to grant grace periods of up to 24 months when the debtor has received a formal notice from a creditor, is sued by a creditor or refuses any standstill; and
• the president of the court may also grant a standstill period for the duration of the conciliation.

If a conciliation agreement is concluded, this agreement is either acknowledged by the president of the court or approved by the court and is enforceable against the parties. In addition, any third party that has granted a guarantee or a security interest can benefit from the provisions of the conciliation agreement.

If the conciliation agreement is approved by the court, creditors that have granted new financings or new services in the context of the conciliation proceedings can be eligible for the ‘new money privilege’, which grants them priority for payment in the event of subsequent insolvency proceedings. Claims benefiting from this privilege may not be subject to deferred payment or write-off without the creditor’s consent.

Judicial in-court proceedings

General rules

In principle, judicial in-court proceedings are governed by a set of common rules: a stay of individual legal actions enforced against the debtor and a freeze of existing claims, a special regime for ongoing contracts that cannot be terminated as a consequence of the opening of judicial in-court proceedings.

The Reform introduced a few new rules:

• any increase in the basis of a contractual right in rem security interest is prohibited after the opening of judicial in-court proceedings, regardless of its terms and conditions, except with respect to security assignments under the Dailly Law;
• regarding the harmonisation of the treatment of the debtor’s guarantors in safeguard and reorganisation proceedings, natural persons who are co-obligors or who have granted a personal guarantee or have assigned or transferred an asset as security may benefit from the provisions of the plan; and
• a ‘post-money privilege’ was introduced to safeguard and reorganisation proceedings, which is similar to the new money privilege in conciliation proceedings.

The Reform introduced the concept of classes of affected parties, as well as the possibility of implementing a cross-class cramdown mechanism.

Accelerated safeguard proceedings

Under the Reform, accelerated safeguard and accelerated financial safeguard proceedings (the perimeter of which was limited to lenders and bondholders) have been merged into a single accelerated safeguard proceeding.

The purpose of accelerated safeguard proceedings is to enable the adoption of a restructuring plan that has been negotiated during conciliation proceedings and is supported by a sufficient majority – but not the unanimous consent of the stakeholders – following a vote of the classes of affected parties.

Accelerated safeguard proceedings are opened for two months and can be renewed once.

The conditions for the opening of accelerated safeguard proceedings are as follows:

• the debtor’s financial statements must be audited or certified by a certified accountant;
• conciliation proceedings must be pending;
• the debtor must be cash solvent or must have been cash insolvent for less than 45 days when it applied for conciliation; and
• the debtor must have prepared a draft plan in conciliation proceedings that has received sufficient support from affected parties that consider its adoption feasible in accelerated safeguard proceedings.

Most of the rules governing safeguard proceedings are applicable to accelerated safeguard proceedings with the exception of:

• the perimeter of the proceedings, which is limited to the parties affected by the plan; and
• the vote of the plan by classes of affected parties, without threshold conditions.

Safeguard proceedings

Safeguard proceedings are opened at the request of a debtor who has difficulties that it cannot overcome, but is not cash insolvent. The objective of the proceedings is to reorganise the company to allow the continuation of its business, preserve its jobs and repay creditors.

Safeguard proceedings can last for up to 12 months during which the debtor, with the support of the judicial administrator, prepares a plan that is proposed to the classes of affected parties composed by the judicial administrator. In the context of classes of affected parties, the plan can involve debt rescheduling, a recapitalisation of the company, a debt for equity swap or the write-off and sale of assets.

When classes of affected parties are not constituted (ie, the thresholds are not met), the creditors are consulted on an individual basis on the draft safeguard plan. The court may impose a term-out on the dissenting creditors over a maximum of 10 years (with minimum yearly instalments of 5 per cent of the total admitted liabilities after the third year, and 10 per cent after the sixth), but no write-off or debt for equity swap.

If the company is insolvent or becomes insolvent after the opening of safeguard proceedings, the court will order the conversion of the safeguard proceedings into reorganisation or judicial liquidation proceedings.

Reorganisation proceedings

If a company is insolvent, the court can open reorganisation proceedings at the request of the debtor, a creditor or the public prosecutor. The company must file for reorganisation no later than four days after the date on which it becomes cash insolvent, provided that conciliation proceedings are not ongoing. The objectives of reorganisation proceedings are the same as those in safeguard proceedings.

Reorganisation proceedings can last for up to 18 months. The rules governing reorganisation proceedings are similar to those for safeguard proceedings, with the exception that any affected party can present an alternative plan to the debtor’s plan and request the application of a cross-class cramdown with the approval of the judicial administrator.

If no reorganisation plan is sustainable, the judicial administrator may organise an open bid process to sell the business in its entirety or in part. There is no credit bid, and the choice between the different offers is made by the court based on the sustainability of the offer, the number of employees transferred and the proceeds offered.

When classes of affected parties are not constituted, creditors are consulted on an individual basis, as in safeguard proceedings.

Judicial liquidation proceedings

When a company is insolvent and no reorganisation plan is possible, the court can open liquidation proceedings at the request of the debtor, a creditor or the public prosecutor. The objective of these proceedings is to sell the business of the debtor as a whole or by branch of activity, or assets by assets.

A liquidator is appointed to conduct the liquidation operations, and the proceedings are terminated either by settlement of the liabilities or because of lack of assets.

Proceedings with classes of affected parties

The major innovation of the Reform is the introduction into French insolvency law of classes of affected parties, with the possibility to impose the plan on dissenting parties (including equity holders under certain conditions) through a cross-class cramdown.

Classes of affected parties must be constituted in safeguard and reorganisation proceedings when the company exceeds certain thresholds on the date of the request for the opening of the proceedings. The thresholds are as follows:

• the company employs more than 250 employees and has a net turnover exceeding €20 million; or
• the company has a net turnover exceeding €40 million.

These thresholds can be assessed at the group level of companies (ie, companies that own or control another companies).

Below these thresholds, the constitution of classes of affected parties may be requested by the debtor (or the judicial administrator in reorganisation proceedings) and authorised by the supervisory judge. In accelerated safeguard proceedings, the constitution of classes of affected parties is mandatory and does not have any threshold requirements.

Definition of affected parties

Affected parties are creditors whose rights are directly impacted by the draft plan. They may also include equity holders (shareholders and holders of securities giving access to equity) if their equity participation, the by-laws of the debtor or their rights are modified by the draft plan.

The status of affected parties and the right to vote in a class of creditors is ancillary to the claim arising prior to the opening judgment of the proceedings and is automatically transferred to its successive holders, notwithstanding any clause providing for the contrary.

Creditors of claims arising from employment contracts, pension rights and maintenance claims are not affected parties as their claims are not affected by the plan. The same is true for beneficiaries of a trust constituted as a guarantee by the debtor if their whole claim is secured by the trust.

Constitution of classes of affected parties

The judicial administrator is in charge of the constitution of classes of affected parties on the basis of the claims and rights arising prior to the judgment opening the proceedings. Each class gathers stakeholders that share a sufficient commonality of economic interests, determined on the basis of verifiable, objective criteria.

The judicial administrator must comply with the following legal requirements:

• secured creditors and unsecured creditors vote in separate classes (at least two different classes);
• subordination agreements entered into prior to the opening of the proceedings are taken into account, so the affected parties must disclose to the judicial administrator the subordination agreements entered into prior to the opening of the proceedings within 10 days of their notification to each party affected by its inclusion in a class; and
• if applicable, equity holders are divided into one or more classes that differ from classes gathering creditors.

The constitution of classes also takes into account the draft plan as members of the same class benefit from equal treatment.

After class constitution but 21 days before the vote, the judicial administrator notifies each affected party of the methods for constituting each class and calculating the voting rights corresponding to the claims and rights that allow them to vote.

The status of the affected parties, or the methods for constituting each class and calculating the voting rights corresponding to the claims or rights that allow them to vote, may be challenged before the supervisory judge within 10 days of the notification by each affected party, the debtor, the public prosecutor, the judicial administrator or the creditors’ representative.

Preparation of the plan and voting

Each class is invited to vote on the draft safeguard plan prepared by the debtor (or any alternative plan in reorganisation proceedings). A two-thirds majority of the voting rights held by the members expressing a vote is required to pass the plan.

Classes of equity holders vote in accordance with the provisions applicable to their respective meetings.

Adoption of the plan by the court

After the draft plan has been approved by each class of affected parties, the court rules on the draft plan, after having verified the following conditions:

• the plan has been adopted in accordance with the provisions on the constitution of classes of affected parties;
• affected parties with sufficient commonality of interest within the same class are treated equally and in proportion to their claim or right;
• all affected parties have been duly notified of the plan;
• where affected parties have voted against the draft plan, the plan must comply with the best interest of creditors test (ie, no dissenting affected party shall be worse off as a result of the plan than it would have been had the order of priority in a liquidation scenario been applied or under a better alternative solution); and
• if applicable, any new financing is necessary to implement the plan and does not unfairly prejudice the interests of the affected parties.

The court can refuse to adopt a plan if the plan does not have a reasonable prospect of preventing the insolvency of the debtor or ensuring the viability of its business.

The court ensures that the interests of all affected parties are sufficiently protected.

Cross-class cramdown

If the draft plan has been rejected by one or more classes, the court may, at the request of the debtor (or the judicial administrator with the consent of the debtor in safeguard proceedings), or any affected party with the consent of the judicial administrator in reorganisation proceedings, impose the plan on dissenting classes if the following conditions are met (in addition to the conditions required for regular adoption):

• the plan has been approved by:
  • a majority of the voting classes of the affected parties, provided that at least one of those classes is a class of secured creditors or is senior to the class of unsecured creditors; or
  • at least one of the voting classes of affected parties, other than an equity holders class or any other class that, upon a valuation of the debtor as a going concern, could be reasonably presumed not to be entitled to any payment or retain any interest in judicial liquidation proceedings or in the event of a sale plan in reorganisation or judicial liquidation proceedings;
• the draft plan complies with the absolute priority rule (ie, a dissident (senior) class must be completely compensated in the same or equivalent means before a lower-ranking (junior) class can be entitled to a payment or retain an interest under the plan);^[2] and
• no class of affected parties can, under the plan, receive or keep more than the full amount of its claims or interests.

The cross-class cramdown mechanism also applies to equity holders, subject to the following additional conditions:

• the company must exceed the same thresholds as those provided for the mandatory constitution of the classes of affected parties;
• equity holders must be out of the money;
• if the draft plan provides for a capital increase subscribed by cash contribution or by way of set-off against receivables, the shares to be issued must be offered by preference to the existing shareholders; and
• the plan does not provide for the transfer of all or part of the rights held by the dissenting classes of equity holders.

Failure to adopt the plan

In accelerated safeguard and (regular) safeguard proceedings with classes of affected parties, in the case of failure to adopt a plan, proceedings can be terminated or converted into reorganisation proceedings.

In reorganisation proceedings with classes of affected parties, an individual consultation of the creditors is possible after the adoption of the plan through a vote by classes of affected parties.

Legal recourse

Any affected party that has voted against the plan may challenge the plan before the court and request the court to verify that the following rules have been correctly applied:

• the best interest of creditors test; and
• in the context of a cross-class cramdown, the definition of classes that are in the money and out of the money and the absolute priority rule – in this case, the court shall determine the value of the debtor’s business and can decide to appoint an independent expert.

The court decision may also be challenged by each affected party, the debtor, the judicial administrator, the creditors’ representative or the public prosecutor before the Court of Appeal within 10 days of either its notification or, in the case of an appeal by the public prosecutor, of its communication.

First illustrative cases

As at the end of 2022, four plans have been adopted through accelerated safeguard proceedings, among which are the restructuring plan of the listed company Pierre & Vacances SA, which provided for the first conversion of a state-backed loan into equity, and the safeguard plan of Arc Holdings, where the debtor and the judicial administrator requested the adoption of a plan through cross-class cramdown. These first illustrative cases of the Reform demonstrate that French insolvency law encourages preventive proceedings and pre-packaged solutions.

Conclusion

New landmark cases are expected in 2023 that will likely give rise to the first disputes on the criteria to be verified for the constitution of classes of affected parties and the satisfaction of the absolute priority rule.

Notes