Vittorio Lupoli and Lucio Guttilla provide an overview of the current restructuring market in Italy; detailing various plans and procedures, as well as recent reforms which are set to improve the speed and fairness of debt restructuring.
1. What trends, in terms of activity levels, affected industries or investor focus, have you seen in the restructuring and insolvency market in your jurisdiction over the last 12 months?
Activity in the restructuring market has been stable over the last 12 months. However, the number of bankruptcy (“fallimenti”) and pre-bankruptcy agreements (“concordati preventivi”) has been slowly decreasing.
In Italy, real estate and construction, oil and gas, energy, commodities, fashion and shipping have been the main industries that have experienced crises over the last 12 months.
Foreign investors have been particularly interested in the energy and fashion sectors.
2. What is the market view on prospects for the coming year?
The market view on prospects for the coming year regarding the Italian economy is mildly optimistic. Italy’s GNP is predicted to increase slightly, as is the number of M&A (including distressed M&A) deals.
The same trends seen in 2015 are expected for 2016.
3. What are the key tools available in your jurisdiction to achieve a corporate restructuring – are they primarily formal, court-driven processes, or are informal out-of-court restructurings possible? Do you feel that the tools you have available are effective in terms of providing speedy, fair and predictable outcomes?
Debtors in a state of crisis may pursue restructuring through the following means, which entail varying levels of court involvement:
(a) Restructuring plan: the plan has the effect of preventing the risk of claw-back actions on acts and payments carried out in accordance with the plan, when its feasibility has been “certified” by an independent expert, who must also certify the truthfulness of the financial statements. The plan usually also entails an agreement between the debtor and its creditors, whose terms and conditions are freely negotiable but usually contain: (i) a moratorium and postponement of claims; (ii) the partial or total waiver of claims; (iii) debt refinancing; and (iv) an undertaking by the creditors to refrain from requesting that the debtor enter insolvency proceedings. The agreement is binding only on creditors that are party to it and does not call for any court involvement.
(b) Debt restructuring agreement: this is entered into between the debtor and creditors that represent at least 60 per cent of the indebtedness. The truthfulness of the financial statements, the viability of the plan and the debtor’s ability to settle the claims of all creditors not party to the agreement have to be assessed by an independent expert. The terms and conditions are freely negotiable (but generally contain the same provisions outlined in point (a) above), and limited involvement of the bankruptcy court is required (the bankruptcy court has to approve the agreement). This then prevents the risk of claw-back actions for payments and acts carried out in accordance with the plan.
In general, the debtor must ensure full settlement of the claims of creditors that are not parties to the agreement: (i) within 120 days from the court’s approval for claims due and payable on the approval date; and (ii) within 120 days from the maturity date for all claims not matured on the approval date.
Under the bankruptcy law reforms approved between June and August 2015, if the debtor’s financial indebtedness is at least 50% of the debtor’s total indebtedness and the debtor enters into a debt restructuring agreement with financial creditors that represent at least 75% of the financial claims, the dissenting financial creditors are also bound by the agreement, subject to certain conditions.
(c) Pre-bankruptcy agreement procedure: the debtor is placed into this procedure when: (i) it is in a state of crisis; and (ii) it proposes a plan to its creditors, which may provide for debt restructuring and payment of claims by any possible means (including the sale of assets, the assignment of shares or other securities to the creditors, the assignment of the debtor’s assets to an assignee, “assuntore”, etc.).
The creditors may be divided into different classes according to their legal status (i.e., seniority) and economic interests, and may then be treated differently (but without affecting priority of payment of priority claims).
The plan must be supported by an independent expert’s report attesting to the viability of the pre-bankruptcy agreement.
The proposed pre-bankruptcy agreement has to be approved by the majority of the creditors (when different classes of creditors are envisaged, the proposal is deemed approved if the majority of creditors in the majority of classes have voted favourably). Priority claims to be paid in full do not carry voting rights unless the creditors partially or fully waive their right of priority.
The bankruptcy court is then called on to grant final approval.
The Italian bankruptcy law reforms that were approved between June and August 2015 introduced specific rules concerning the creditors’ ability to submit a “competing proposal” and the creditors’ and third parties’ ability to submit “competing bids” in the case of pre-bankruptcy agreement proposals that include pre-packaged deals.
(a) A “competing proposal” can be filed (as an alternative to the debtor’s pre-bankruptcy agreement proposal) by one or more creditors representing at least 10 per cent of the debtor’s indebtedness if the debtor’s proposal provides for settlement of less than: (i) 40 per cent of the claims of unsecured creditors in case of liquidation; and (ii) 30 per cent of the claims of unsecured creditors in case of continuation of the business.
A “competing proposal” may contemplate third-party investment in the share capital of the debtor company.
If a “competing proposal” is filed, creditors must vote on all the proposals (i.e., that of the debtor and of creditor(s)). If none of the proposals receive the required majority of votes, the bankruptcy court submits the proposal that received the highest number of votes to the creditors again.
(b) The court, when the debtor intends to sell significant assets/going concerns to a third party (investor), must launch a tender for “competing bids” (using adequate forms of publicity) in order to reach other possible investors and, ultimately, obtain the highest purchase price possible, in order to maximise the reimbursement of all the creditors’ claims.
The recent bankruptcy law reforms aim to increase the speed and fairness of debt restructuring. More specifically, the ability to bind dissenting financial creditors to a debt restructuring agreement is expected to speed up the process, and the ability of creditors/third parties to propose “competing proposals” for a pre-bankruptcy agreement and “competing bids” for significant assets/going concerns up for sale is expected to increase the fairness of the outcome of a pre-bankruptcy agreement.
However, as the reforms only entered into force recently, it is difficult to assess how the courts will apply them.
4. In terms of intercreditor dynamics, where does the balance of power lie as between shareholders and creditors, and as between senior lenders and junior/mezzanine lenders? In particular, how do valuation disputes between different stakeholders tend to play out?
The priority of enforcement and ranking of financial claims are generally provided under intercreditor agreements which, in large international transactions, can be governed by foreign law (often English law).
Generally, borrowers and shareholders are not parties to intercreditor agreements, which are entered into between financial lenders only. It is quite common for the financial lenders to appoint an “agent” that acts on behalf of all lenders in dealing with the debtor company, and in this case the agent is also a party to the intercreditor agreement.
Intercreditor agreements generally grant the majority (often 2/3 of the overall amount of financial claims vis-à-vis the debtor company) the power to terminate the restructuring agreement and/or accelerate the relevant claims if an event of default occurred.
The provisions of the intercreditor agreements governed by foreign law are recognised and given effect by the Italian courts, subject to any obligations mandatorily preferred by law, as long as the debtor is not in bankruptcy proceedings.
If bankruptcy proceedings start in Italy, the intercreditor agreement may be terminated by the receiver and its provisions discharged. In this case, the ranking of claims is determined on the basis of mandatory provisions of law only.
Unlike in other jurisdictions, creditors’ committees do not have strong powers to guide the restructuring in Italy. In broad terms, creditor’s committees survey the proceedings and are required to provide opinions on specific matters (but only in circumstances provided by law is their opinion binding). The proceedings are guided by the relevant bodies, under court supervision or, when the debtor is a large company in extraordinary administration proceedings (“EAP”), under the supervision of the Ministry of Economic Development.
Valuation issues are usually handled by the receiver in bankruptcy (or by the extraordinary commissioner in EAP) with the support of experts, with limited/no involvement of creditors or shareholders.
5. Have there been any changes in the capital structures of companies based in your jurisdiction over recent years caused by the retreat of banks from loan origination? In particular, have you found that capital structures now increasingly comprise debt governed by different laws (such as New York law governed high yield bonds)? If so, how do you expect these changes to impact on restructurings in the future?
The retreat of banks from loan origination has not substantially changed the capital structure of companies in Italy. However:
(i) recent reforms have encouraged recourse to the issuance of bonds, including by small and medium-sized companies. These so-called mini bonds are becoming increasingly common in Italy;
(ii) financial creditors, as a consequence of restructuring deals, sometimes participate in the capital structure of debtor companies after the switch of (part of) the financial indebtedness in equity or (most frequently) in participatory financial instruments (“strumenti finanziari partecipativi”, “SFP”). Depending on the specific provisions of the relevant regulations, SFP may be assimilated to equity or indebtedness. However, in restructuring deals SFP are usually structured to be considered “equity” in order to lower the company’s level of indebtedness; and
(iii) recourse to bonds governed by foreign laws (including New York, Luxemburg, and Dutch law) is quite common but limited to large companies within international groups. When bonds are issued by foreign companies within the group, the contractual documentation is governed by different law/jurisdictions. It may therefore happen that bonds are issued by a company whose shares are listed in both Italy (under Italian law) and in Luxembourg (under Luxembourg law), while the indenture (“contratto di emissione”) is governed by New York law and the intercreditor agreement is governed by English law. These elements – although complex – can be acceptable to market players in a “normal” situation, while in a situation of crisis/insolvency they can cause uncertainty and complicate the restructuring process.
6. Is there significant activity on the part of distressed debt funds in your jurisdiction? How successful have they been in entering the market, and how much has market practice (or law) evolved in response? If funds have not successfully entered the market, can you identify reasons why?
Nonperforming loans (NPLs) more than tripled to 17 per cent (June 2014) of total loans, from just above 5 per cent in 2007. This rapid rise reflects the prolonged recession, which has worsened the creditworthiness of borrowers, particularly that of small and medium-sized businesses.
Following the ECB Asset Quality Review that started in late 2013, Italian banks have introduced processes to reduce the high levels of NPLs and meet updated capital ratios.
Reflecting the paucity of domestic players, activity in the purchase of Italian NPLs comes mostly from foreign hedge funds and foreign private equity funds, whereas the sellers are mostly large Italian and foreign-owned banks.
Foreign investors’ interest in NPLs is increasing, particularly since the reforms implemented between June and August 2015.
The main issues that have prevented significant development in the NPL market are as follows:
(i) Inefficient and lengthy judicial process: however, the reforms implemented between June and August 2015 and those envisaged for 2016 are expected, among other things, to shorten the time to issue bankruptcy decisions and to promote out-of-court settlements.
(ii) Limited incentive to write off loans: until 2013, write-offs were generally not tax deductible without a court declaration of insolvency, which could take several years to obtain. Now, however, provisions and write-offs can be deducted immediately or over five years, depending on the case.
7. Are there any unusual features of your insolvency or restructuring law that an external investor should be aware of (such as equitable subordination, or substantive consolidation)?
Repayment of loans granted by shareholders of a limited liability company (uncertain whether applicable also to joint-stock companies): (a) is subordinate to payment of the other creditors if the loans were granted when (i) the company had excessive debt compared to net capital, or (ii) a contribution would have been reasonable; and (b) must be returned if performed in the year preceding the declaration of bankruptcy.
The same principles apply to loans granted to subsidiaries (both limited liability and joint-stock companies) by the parent company or other subsidiaries.
Italian law does not provide for substantive consolidation: the debtor company, also if part of a group, is liable only for its own debts with its own creditors (as an exception, parent companies can be liable for the subsidiaries’ debts in case of abuse of the management and direction it exercises over the subsidiary). As mentioned under question 8 below, the Government is expected to launch in 2016 an in-depth review of bankruptcy (the precise timing is not yet clear), which is also expected to introduce additional provisions on insolvency of groups. However, according to the preparatory work, the new provisions will concern procedural aspects: accordingly, the principle of substantive consolidation is not expected to be introduced.
8. Are there any proposals for reform of the legal framework that governs insolvency and restructurings in your jurisdiction?
The Government is expected to commence an in-depth review of bankruptcy law in 2016 and has already instructed a commission to prepare a draft of the new law, but specific timing is not yet clear.
According to the commission’s preliminary work, the review will concern: (i) grounds for commencing insolvency proceedings; (ii) effects of commencing insolvency proceedings on the debtor, on the relevant acts and on contracts in force; (iii) insolvency of groups; (iv) “alert” proceedings; (v) administrative proceedings to eliminate insolvency; and (vi) crises of “small” debtors.
9. If it was up to you, what changes would you make?
The main aspects of Italian bankruptcy law that operators and authors believe require review are those that the abovementioned commission has stated are due to be covered in the Government’s review.
In particular, practice has evidenced the need for: (i) rules that provide for a coordination of restructuring proceedings involving companies within the same group; and (ii) “alert” proceedings, aimed at incentivising the debtor to timely take appropriate action as soon as signs of a crisis appear.