Contributed By CERHA HEMPEL Kališ & Partners
The year 2018 was notable for the preservation of the downward trend in the number of insolvencies in the Czech Republic. According to statistics derived from the Czech insolvency register and published by Crefoport s.r.o., this downward trend has been ongoing since 2013, when there were 6,021 cases of corporate insolvency as a result of the financial crisis and its subsequent impact on the economy. The total amount of 1,343 corporate insolvencies in 2018 represented the smallest number per year since Act No. 182/2006 Coll., the Insolvency Act, as amended (the Insolvency Act), entered into effect in 2008. This positive trend was driven mainly by two factors, a favourable macroeconomic situation in the Czech Republic and changes to legislation over the years imposing higher demands on creditors who wish to file an insolvency petition against a debtor as a result of some frivolous insolvency petitions in the past.
However, looking forward to the end of 2019 and 2020, we expect that this positive downward trend will end, and the number of corporate insolvencies will rise. Our assumption is mainly based on data showing warning signs of economic slowdown such as a drop in industrial production and lower margin rates. The provisional figures from the Czech insolvency register for the first half of 2019 verify our assumption, as the number of filed corporate insolvency petitions rose slightly in comparison with that of the same period of the previous year.
With regard to industrial sectors, the Czech markets cannot absorb the recent slowdown without loss and signs of the start of a crisis in the German automotive and machinery markets, the most important markets for many Czech suppliers, are also worrying. In connection with signs of an economic slowdown, another topic to address is the large number of private companies in various sectors issuing corporate bonds under loose regulation in the past year leading to significant indebtedness.
Amendments made to the Insolvency Act, adopted in the past year, were particularly focused on insolvencies of natural persons. A common feature of these changes in legislation was the enabling of a wider group of people to enter into a debt relief procedure (in Czech: oddlužení) allowing them to get rid of their old debts more easily. Therefore, an increase in the number of insolvency petitions related to natural persons can be expected.
Speaking of corporate insolvencies, there is an ongoing trend in Czech legislation to try to support and favour reorganisation (in Czech: reorganizace) as a manner of resolving a debtor's insolvency (in Czech: úpadek), enabling the debtor to continue its business operation instead of the still largely prevailing situation of bankruptcy (in Czech: konkurs) which usually leads to the termination of the debtor's business. This is in accordance with the trend visible across Europe. However, it has to be pointed out that, on average, only around twenty reorganisations are approved each year and an even smaller number of reorganisations is successfully completed (the remainder of the corporate insolvencies result in bankruptcy). Some reasons why the number of approved reorganisations is low despite the previously mentioned support from legislators are the complexity of the reorganisation procedure, the necessity of finding a suitable investor, and the restriction on exercising voting rights imposed over creditors from the debtor's group under Czech insolvency law.
In general terms, since the Insolvency Act went into effect in 2008, the Czech insolvency and restructuring market has not experienced any essential changes in the manner of executing financing, distressed M&A transactions, or debt investing and trading, as the basic strategies and principles used by the main stakeholders remain more or less the same. Of note is the more frequent use of a so-called pre-packed or pre-agreed reorganisation. The pre-packed reorganization enables the future key stakeholders of an insolvency proceeding to agree on restructuring measures and the associated documentation in advance, meaning that the subsequent formal insolvency procedure can progress faster.
In the future, an implementation of EU Directive 2019/1023 will definitely trigger changes in the Insolvency Act, especially in the field of preventive restructuring frameworks as so far this field has not been sufficiently addressed by the Insolvency Act.
The basic regulation of the insolvency of both natural and legal persons in the Czech Republic is contained primarily in the Insolvency Act, whereas Act No. 99/1963 Coll., the Civil Procedure Code, as amended, applies complementarily to the Insolvency Act. The insolvency proceedings are further governed by several regulations related to the Insolvency Act such as Regulation No 311/2007 Coll., on the rules of procedure, Regulation No. 313/2007 Coll., on the rewarding of insolvency administrators, and Regulation No. 191/2017 Coll., on the requirements of certain documents submitted during insolvency proceedings. The activities and the performance of the office of insolvency administrators (trustees) are governed by Act No. 312/2006 Coll. on insolvency administrators.
There are some small exceptions to the general effects of the Insolvency Act such as its inapplicability in the case of insolvencies of financial institutions and health insurance companies during the time that they are in possession of respective licences, or in the case of political parties and movements during the time of elections. Insolvencies of licensed financial institutions are governed by Act No. 374/2015 Coll. on recovery and resolution in the financial market, as amended, and other special financial regulation. Following the withdrawal of a licence, the special Chapter IV of the Insolvency Act applies.
Under Czech law a liquidation procedure (in Czech: likvidace), irrespective of whether voluntary or involuntary, relates to the dissolution (wind-up) and termination of a business of a solvent company or other legal person. The process of liquidation is governed mainly by Act No. 89/2012 Coll., the Civil Code, as amended, and Act No. 90/2012 Coll., the Business Corporation Act, as amended. However, should the appointed liquidator obtain knowledge that the liquidated company is insolvent (meets the criteria of insolvency) he or she is obliged to file an insolvency petition against the company. In such cases the liquidation procedure will change to an insolvency proceeding and result in the bankruptcy of the company.
Under the Insolvency Act there are three basic ways to resolve a debtor's insolvency, and those are:
As mentioned above in 2.1 Overview of Laws and Statutory Regimes, a special regime applies in the case of financial institutions. Prior to choosing one of the above-mentioned manners of resolving insolvency, an insolvency court has first to declare that the debtor is insolvent. This can be done only by the insolvency court and on the basis of an insolvency petition, which can be filed either by a debtor or a creditor (please see 2.3 Obligation to Commence Formal Insolvency Proceedings). This means that the insolvency court cannot declare insolvency or open an insolvency proceeding by itself, without the filing of an insolvency petition.
It is also possible to start an insolvency proceeding against a debtor who is not yet formally insolvent (in insolvency). In the case of so-called imminent insolvency, which occurs when, given all the circumstances, it may be reasonably assumed that the debtor will not be able to duly and timely fulfil the substantial part of its financial liabilities, the debtor is entitled to voluntarily file an insolvency petition or to file a petition to declare a moratorium. The moratorium itself does not have to necessarily result in an insolvency proceeding. Should a debtor recover and avert the imminent insolvency within the maximal statutory period of three months, which can be further extended by the insolvency court for maximum of 30 days, there is no need to later file the insolvency petition.
However, it has to be pointed out that the vast majority of declared moratoriums in the Czech Republic usually result in a company's insolvency. The main reason for this is a general unfamiliarity with the institution of moratorium, which is broadly recognised being the same as insolvency. Therefore, a company that is already in bad financial condition suffers from the same harms typically associated with an insolvency, such as loss of market confidence.
In the case that a factual status of insolvency occurs (for the statutory criteria of insolvency please see 2.5 Commencing Involuntary Proceedings), the company is obliged to file an insolvency petition without undue delay after knowledge about the insolvency is obtained (or should have been obtained when acting with due care) and therefore initiate a formal insolvency proceeding. The same obligation relates to the company's statutory body.
Should the above-stated obligation to file for insolvency not be met, the obliged persons (including members of the company's statutory body and liquidators) shall be personally liable for damages caused to creditors. The late submission of an insolvency petition, or the lack of submission, may also result in the potential guarantee of a company's debts, a disqualification decision or criminal liability for the company's directors (for more details on potential penalties and liabilities please see 12 Duties and Personal Liability of Directors and Officers of Financially Troubled Companies).
In the case of an insolvency, a debtor is always obliged to file an insolvency petition and to initiate a formal insolvency proceeding without any exceptions, since Czech law does not recognise receivership, administration or any other similar legal instrument for formal voluntary procedure.
However, in the case of imminent insolvency a debtor is entitled (not obliged) to file an insolvency petition or to file a petition for moratorium. Please note that the imminent insolvency, unlike the insolvency itself, does not authorise creditors to file an insolvency petition. This allows debtors to solve their financial difficulties in advance.
Together with an insolvency petition a company can suggest a manner of resolving its insolvency (ie, bankruptcy or reorganisation) or may also refrain from making any suggestion. Should the company be interested in entering a reorganisation without the necessity of having this plan approved by a creditors' meeting, there is the possibility to file a so-called pre-packed or pre-agreed reorganisation plan already approved by the required majority of creditors together with the insolvency petition. Such a procedure speeds up the whole process and increases the chances of achieving a successful reorganisation.
Apart from the debtor, creditors are also entitled to file an insolvency petition and therefore initiate an insolvency proceeding. No persons, other than creditors and debtors, are entitled to commence an insolvency proceeding, this restriction even extends to the insolvency court and public prosecutor's office. There is a small exception in the case of financial institutions stripped of their licences, in which case the Czech National Bank is entitled to file the insolvency petition.
Some frivolous insolvency petitions based on disputed receivables filed by creditors in the past led to changes in legislation imposing a higher standard of demands on creditors' insolvency petitions. Nowadays a creditor submitting an insolvency petition must be in possession of a due receivable against a debtor, which has to be lodged together with the insolvency petition. Moreover, the existence of the receivable has to be documented and verified by either an acknowledgement of debt with a certified debtor's signature, an enforceable decision or a confirmation issued by an auditor or an expert appointed by a court or a tax advisor stating that the receivable is duly kept and registered in the creditor's books. In the case of a creditor's insolvency petition against a company, the creditor is obliged to pay a deposit for the costs of an insolvency procedure in the amount of CZK50,000 (approximately EUR2,000). The previously mentioned restrictions do not apply to the debtor's employees and their receivables.
As for the commencement of an insolvency proceeding, the factual state of insolvency is not required, since the proceeding itself is commenced (opened) automatically when the insolvency petition is delivered to the respective insolvency court. However, the state of factual insolvency is required to continue in such an insolvency proceeding.
The commencement is followed by a decision of the insolvency court as to whether or not the debtor is in insolvency –ie, whether the debtor meets the below stated statutory criteria under the Insolvency Act. Should the court not find the insolvency to be proven, it will dismiss the insolvency petition. Should the insolvency petition not contain all the requirements, or be incomprehensible, vague or clearly unfounded, the insolvency court will reject it. Both decisions lead to a termination of the insolvency proceeding. Otherwise, the insolvency court shall declare the debtor’s insolvency and subsequently decide on the bankruptcy or reorganisation of the company (depending on the given circumstances).
Czech law recognises two basic forms of insolvency (in Czech: úpadek): illiquidity (in Czech: platební neschopnost) and over-indebtedness (in Czech: předlužení).
According to the Insolvency Act debtors are in insolvency in the form of illiquidity if they cumulatively: (i) have several (at least two) creditors, (ii) have outstanding financial liabilities more than 30 days overdue, and (iii) are not able to fulfil those liabilities.
It is believed that debtors are not able to fulfil their financial liabilities if:
On the contrary, it is considered that a company is able to fulfil its financial liabilities, and therefore not insolvent, if the difference between the amount of its due monetary debts and available (liquid) financial means (the so-called coverage gap) according to the liquidity statement is, at the moment or in the foreseen future, less than 10% of the amount of the company's due monetary debts.
Under the Insolvency Act an insolvency in the form of over-indebtedness occurs when the company has several creditors and the total sum of the company's liabilities exceeds the value of the company's assets. When setting the value of a company's assets, the going-concern principle shall apply. Moreover, it must be pointed out that the recent case law relating to the topic of over-indebtedness mitigates the importance of the first condition of the plurality of creditors.
As stated above, the Insolvency Act will not apply in the case of insolvencies of financial institutions and health insurance companies during the time in which they are in possession of the respective licences or in the case of political parties and movements during the time of elections. Moreover, the Insolvency Act will not apply (irrespective of the possession of a licence or ongoing elections) to the state, the local public authority (municipalities and regions), the Czech National Bank, the General Health Insurance Company of the Czech Republic, the Financial Market Guarantee System of the Czech Republic, the Guarantee Fund of Securities Traders of the Czech Republic, public universities or a legal person, if prior to the commencement of an insolvency proceeding the state or the local public authority provided a guarantee or undertook to pay all of their debts.
Following the withdrawal of a licence, the special Chapter IV of the Insolvency Act applies in the case of financial institutions. Unlike the usual insolvency regime, apart from the debtor itself and its creditors, an insolvency petition can also be filed by a supervisory authority, which is the Czech National Bank. Also, for financial institutions there is no possibility of reorganisation, which means that the only option is bankruptcy. Furthermore, the insolvency administrator needs to have special authorisation to be appointed as the insolvency administrator of such an institution.
Please note that in the case of a company's insolvency, it is its obligation, and also the obligation of the members of the statutory body, to file an insolvency petition against the company. Therefore, under Czech law there is no room for out-of-court restructurings in cases where the factual status of insolvency has already been established, since a formal insolvency proceeding under the rules set by the Insolvency Act has to be initiated in such a case.
However, should the respective company be in a problematic financial situation but not yet meet the criteria for insolvency, there is room for a lot of creative out-of-court solutions. There is no special legal framework for consensual workouts or restructurings, and each solution can therefore be unique and tailor-made for the given situation of the debtor. General rules set especially by the Civil Code and the Business Corporation Act apply in this case.
In the case of imminent insolvency, a debtor is entitled to ask for a declaration of moratorium, which is the closest instrument to a consensual workout recognised by Czech law. Nevertheless, a moratorium is declared by the insolvency court and run under the rules set by the Insolvency Act, so it does not represent a typical out-of-court restructuring. As we pointed out before, due to the small difference between a moratorium and an insolvency proceeding, a moratorium is not frequently used and if so, it usually ends with a subsequent insolvency.
As there is no general regulation or legal framework for out-of-court restructuring in the Czech Republic there are also no typical consensual restructuring and workout processes. Each solution is a unique one depending on many aspects, such as the level of the debtor's indebtedness, the level and structure of the creditor's security, the debtor's economic performance and market expectations.
Should any fundamental premise for a successful out-of-court restructuring be highlighted, it is the willingness of the debtor to participate and actively solve its situation before it escalates. If a debtor comes to its creditors with sufficient time, they are usually open to reaching some sort of arrangement with the debtor, especially in the case of bank creditors with experienced workout departments. Due to the absence of any legal framework the arrangement between the debtor and creditors has to be transcribed into a form of written contractual agreement usually called a standstill.
An important aspect of any successful standstill agreement (SSA) is the willingness of all major creditors and other stakeholders to participate. Should some of the major creditors refuse to participate, it is almost impossible to succeed, as the remaining creditors will start to protect their own interests. Prior to entering into or as a part of an SSA, an independent business review (IBR) of the debtor company may be requested by creditors again, especially by those associated with financial institutions (banks). An IBR is executed by external advisors, usually hired and paid directly by the debtor (upon the request and approval of its creditors). The influence among the creditors is largely based upon the amounts of receivables respective creditors hold against the debtor and the quality of their security.
In regard to the content of the SSA, it varies with each case. However, the most common debtor's obligations include a stated provision of additional security (collateral), extraordinary payments, a cut in operational costs, the appointment of interim management approved by creditors, the injection of new money by a shareholder, the subordination of an intra-group loan, the divestment of non-core assets, reporting obligations and other covenants. On the other hand, creditors may offer extensions of due dates, haircuts, waivers of defaults and renegotiations of suppliers' or customers' contracts. An important part of every SSA with the participation of more than one creditor is their mutual obligation not to execute any steps or enforce debts on their own or otherwise freeze the debtor's assets.
A debtor's ability to draw new money usually evolves from the level of its current indebtedness and the value of assets it can provide in order to secure a new loan, as in a distress situation no one will provide new money without proper collateral. New money is usually provided by current secured creditors or by the debtor's shareholders since those persons are the ones most interested in the achievement of the debtor's turnaround. A situation in which new financing is provided by an investor for the purpose of a distressed M&A transaction (eg, a capitalisation or debt to equity swap) is also quite common.
Under Czech law priority financing can be provided only under, and in accordance with, the Insolvency Act. This means that the debtor can draw priority financing only during an ongoing insolvency proceeding or moratorium. If the financing is provided prior to the commencement of an insolvency proceeding or moratorium it has the same position as a regularly secured or unsecured loan. Moreover, when providing new money to a debtor in an already distressed financial situation it shall be verified that the debtor does not already meet the criteria of factual insolvency, as this might trigger a potential challenge to the transaction, including the establishment of new security in the future.
As mentioned before there are no special laws or rules related to out-of-court restructurings and consensual workouts. Therefore, only the general principles, set especially by the Civil Code and the Business Corporation Act, such as acting with loyalty, in good faith and with a due care applies. Of course, creditors and third parties may commit to certain obligations contractually in a standstill or in other agreements.
With regard to moratoriums, under the statutory provision of the Insolvency Act, the second party to an energy and raw materials supply agreement, as well as to other agreements for the supply of goods and services, which by the date of the moratorium declaration has lasted for at least three months, may not, for the duration of the moratorium, terminate or withdraw from those agreements due to the default that occurred before the declaration of moratorium if the debtor pays at least the liabilities that arose during the moratorium and 30 days prior to it. Despite the fact that the Insolvency Act does not set any direct penalty for breaching the provision, the debtor may seek compensation for caused damages.
Please note that there are no cramdown mechanisms under Czech law outside of an insolvency proceeding. Therefore, it is only possible to overcome a dissident creditor within a formal insolvency proceeding, especially in reorganisation when the majority required by law is reached. This is one of the main reasons why all major creditors and other stakeholders have to be party to a pre-insolvency standstill agreement should a successful out-of-court consensual reorganisation be reached.
For the purposes of insolvency proceedings only a creditor having a claim secured by collateral belonging to the debtor’s insolvency estate is considered a secured one. The Insolvency Act provides an exhaustive list of collaterals (security) that give the status of a secured creditor, these are: a pledge, a retention right (lien), a restriction on the transfer of immovables, a security transfer of a right, a security assignment of a receivable and similar security rights governed by foreign laws.
Summarising the abovesaid, some typical security instruments such as a pledge of real estate, a pledge of movables, a pledge of shares owned by the debtor, a security transfer of the ownership right, a security assignment of receivables against the debtor's customers and a pledge over bank accounts give one the status of a secured creditor. On the other hand, some typical security instruments such as promissory notes or guarantees do not.
It is irrelevant whether the collateral serves to secure the creditor's financial claim directly against the debtor itself or whether the collateral serves to secure a claim against another (third) person. In such cases the creditor will only have a claim in the amount corresponding to the value of the given security over the debtor's assets and the rest of the claim against the third person shall not be satisfied in the insolvency proceeding led against the debtor.
Following the commencement of an insolvency proceeding, a secured creditor is entitled to enforce its security only in that insolvency proceeding and is statutorily prohibited from doing so outside of it. Any currently ongoing enforcement proceedings are automatically stopped with the commencement of the insolvency proceeding (there is an exception relating to insolvency petitions filed with clear dishonest intentions to block the enforcement proceeding). It is also impossible to enforce security outside of the insolvency proceeding based on the contractual provisions of the security agreements. Following the commencement of the insolvency proceeding, no new security can be established over assets from the debtor's insolvency estate with the exception of a special priority insolvency financing provided under the respective provisions of the Insolvency Act.
In order to execute and enforce its security, a secured creditor has to duly register its claim as a secured one in the insolvency proceeding within the given period, which is usually the two months following the declaration of insolvency. In bankruptcy the secured creditor is entitled to issue an "instruction of secured creditor" to the insolvency administrator regarding maintenance and realisation of security. The insolvency administrator is bound by such an instruction unless he or she believes that the instruction does not seek proper and due maintenance. In this case he or she may refuse the instruction and shall ask the insolvency court to review it within its supervisory power. If there are more secured creditors with respect to the same debtor's asset, the creditor with the highest ranking shall issue the instruction.
Even though secured creditors cannot entirely block the insolvency proceeding since the Insolvency Act contains provisions enabling the insolvency court, under certain conditions, to overcome a lack of activity by the secured creditor by filing numerous appeals and giving certain instructions, they are able to significantly slow down the proceeding.
Secured creditors shall have a priority right to any proceeds coming from the realisation of their security (collateral) following the deduction of the insolvency administrator's reward and the costs of realisation and maintenance. Should there remain any proceeds from the realisation of security after the full satisfaction of the secured creditor those proceeds shall belong to unsecured creditors.
The procedural rights will be further discussed below in 4.5 Special Procedural Protections and Rights.
An initial phase of the insolvency proceeding is opened based on an insolvency petition filed either by a debtor or a creditor. The aim of this phase is to assess whether a debtor finds itself in insolvency or not. Therefore, in the case of a flawless creditor's insolvency petition against a company, the insolvency court as a next step usually asks the respective company to provide its statement to the insolvency petition and present a list of its assets, employees and liabilities within a period of approximately 15 days, which can be further extended upon request. In the case of a debtor's insolvency petition the previously mentioned lists are already a statutory requirement of such an insolvency petition. Should the company disagree with the creditor's petition the insolvency court has to hold a special court hearing in order to be able to declare its insolvency. This means that a debtor can quite effectively postpone the declaration of its insolvency for a period of up to approximately six months. Debtors' insolvency petitions are usually decided faster since there is no need to discuss whether the factual status of insolvency is present, and the insolvency is usually declared within one month.
With the declaration of insolvency, a two-month period for both secured and unsecured creditors to lodge (register) their claims in an insolvency proceeding begins. Following the expiration of the deadline for lodging claims, the insolvency court shall call a review and a creditors' meeting. The review meeting (hearing) shall take place two months after the expiration of the deadline for lodging claims at the latest. The creditors' meeting usually takes place immediately after the review meeting in order to save costs. Until the end of the review meeting, the insolvency administrator and the debtor are entitled to challenge (deny) lodged claims on the grounds of their existence, amount and order (whether they are secured or not). Creditors may challenge registered receivables with each other no later than three working days prior to the review meeting.
At the creditors' meeting creditors, along with others, shall decide on the manner of resolving the company's insolvency (ie, whether they approve reorganisation or whether the company will undergo bankruptcy). There is no need to vote on this topic if there is no suggestion of reorganisation or if reorganisation is not permissible for the debtor. In such cases the insolvency court may decide on bankruptcy even prior to the creditors' meeting. Moreover, the voting does not take place if the reorganisation was already approved based on a pre-packed reorganisation plan.
In a bankruptcy the secured creditor is entitled to present its instruction regarding the maintenance and realisation of its security (respective debtor's assets) almost immediately after the review of its claim. The timeline then evolves from the chosen manner of realisation (eg, direct sale, public auction or tender) and the speed at which the insolvency administrator or its advisors are able to sell the respective secured assets. Proceeds from the realisation of secured assets shall be released to the secured creditor without undue delay. The unsecured creditors usually wait much longer if any proceeds are going to remain for them in the insolvency estate.
In reorganisation the timeline is even more individualised, as the timing of creditors' satisfaction depends on the approved reorganisation plan. However, under the statutory provisions of the Insolvency Act in any case the reorganisation shall be more favourable for all creditors than bankruptcy, unless some of them agree otherwise. According to the latest data published by Surveilligence s.r.o., the average length of bankruptcy in the Czech Republic is 27 months. The average length of reorganisation (up to the approval of the reorganisation plan, not its fulfilment) is 13 months.
Generally speaking, there are no special procedures or impediments that apply to foreign secured creditors under the Insolvency Act.
In accordance with the respective EU Regulations each known foreign creditor (irrespective of whether secured or unsecured) with a registered seat, domicile or habitual residence in a member state of the EU shall be informed by the insolvency court about the commencement of an insolvency proceeding, the declaration of insolvency and the deadline for the registration of receivables (lodging of claims). The period for the deadline shall not start to run for the foreign EU creditors before the receipt of the prescribed information. The use of a simplified claim form is also allowed.
With respect to foreign creditors whose registered offices or domiciles are outside the EU, the insolvency court is entitled to ask for an advance payment for costs associated with an insolvency proceeding when obtaining an insolvency petition from them.
Secured creditors are able to significantly influence the course of the insolvency proceedings. In bankruptcy, the strongest instrument provided to them by the Insolvency Act for this purpose is most likely the already mentioned (in 4.2 Rights and Remedies) instruction of a secured creditor, which is binding on the insolvency administrator in regard to the maintenance and realisation of the respective secured assets.
In a reorganisation each secured creditor has to form its own group (class) during the voting on the approval of the reorganisation plan. Since the reorganisation plan shall be approved by the entire group of creditors (there is a possibility to overcome rejection in some groups by the insolvency court's overruling), each secured creditor has a strong position in reorganisation. Moreover, secured creditors will be paid on a monthly basis with a contractual interest in the amount agreed upon prior to the debtor's default (if any) from the value of their secured claims. Failure to duly settle those interests may result in turning reorganisation into bankruptcy.
Another important special right provided by the Insolvency Act to secured creditors is their priority right to provide a priority insolvency financing unless they offer worse terms than the best offer received.
Secured creditors may also exercise their rights in insolvency proceedings through the creditors' bodies, such as creditors' meetings and creditors' committees, or creditors' representatives (for more details please see 6.3 Roles of Creditors).
In simple terms, the Insolvency Act recognises three basic areas of claims which are divided as follows: (i) priority claims, (ii) claims not to be satisfied within the insolvency proceeding, (iii) remaining ordinary claims.
Priority claims do not have to be lodged with the insolvency proceeding and are further described in 5.9 Priority Claims in Restructuring and Insolvency Proceedings.
Claims that are not to be satisfied in the insolvency proceeding, in any manner of resolving of the insolvency, consist especially of interests, default interests and penalties accrued following the declaration of insolvency, interests, default interests and penalties from receivables that became due following the declaration of insolvency, receivables from gifts and donations, non-contractual sanctions and penalties (except for penalties on tax payments imposed before the declaration of insolvency), contractual penalties (if they became due following the declaration of insolvency) and costs of the participants incurred in connection with the insolvency proceeding. Since these claims are not to be satisfied, any special procedural rights are also not associated with them.
Other ordinary claims, irrespective of whether secured or unsecured, shall be lodged (registered) with the insolvency proceeding within the statutory deadline. Otherwise they shall not be satisfied within the insolvency proceeding with an exception relating to the deadline for foreign creditors. Should the respective claims not be lodged by creditors it is also impossible to execute any rights associated with them in the insolvency proceeding.
Claims that are to be registered with the insolvency proceeding can be further divided according to their nature. Besides the already mentioned division between secured and unsecured claims, the Insolvency Act also recognises monetary and non-monetary claims, contingent and unconditional claims, due and undue claims and subordinated claims. It should be noted that one particular claim can be classed into several of the listed categories at once.
In order to be satisfied within the insolvency proceeding, the given condition related to the contingent claim has to be fulfilled prior to its termination. Similarly, creditors of contingent claims shall not execute any voting rights in the insolvency proceeding unless the condition is fulfilled.
With regard to subordinated claims, those are especially the ones stated as subordinated by contractual documentation (eg, a debt subordination agreement) and claims of shareholders arising from their participation in the company (eg, dividends). For obvious reasons it is very unlikely that subordinated claims will be satisfied during the insolvency proceeding.
The Insolvency Act does not provide any special treatment for unsecured claims of trade creditors. Thus, they usually fall into an unsecured group together with creditors holding other unsecured claims against a company. In bankruptcy, all unsecured creditors are satisfied in the same manner (on a pro rata basis).
Trade receivables that arise, after a declaration of insolvency, under new or not terminated agreements are considered to be priority claims.
In reorganisation, an author of the reorganisation plan can create a special group for trade creditors or can even create more groups for different trade creditors, and therefore can also create numerous groups for unsecured creditors with different levels of satisfaction. However, these divisions should be well reasoned in the reorganisation plan since, under the Insolvency Act, creditors with generally similar legal positions and economic interests will constitute one group. The risk that creditors will ask to be shifted into a more favourable creditor group created by the reorganisation plan then arises.
The basic principle set by the Insolvency Act is that at the creditors' meeting CZK1 shall equal one vote. This is the same for both secured and unsecured creditors. Therefore, the importance of unsecured creditors in a given insolvency proceeding is largely based on the amount of their claims against a company. Certain resolutions (eg, on the recall of the current insolvency administrator and the appointment of a new one) are voted on collectively by both secured and unsecured creditors. Regarding certain other resolutions (eg, on the appointment of members of the creditors' committee), secured and unsecured creditors vote separately in their own groups. Moreover, certain resolutions (eg, the approval of a pre-packed reorganisation plan) have to be adopted by the majority in both the secured and unsecured group.
Other important information related to voting at the creditors' meeting is that under the Insolvency Act group creditors are stripped of their voting rights unless they are granted to them by the insolvency court under special circumstances. Group creditors also cannot be members of the creditors' committee.
Along with the secured creditors, the unsecured creditors do not have any right to stay or defer the commencement of insolvency proceedings, but they can file numerous appeals and statements to obstruct the course of the proceeding.
There are no pre-judgment attachments available under Czech insolvency law.
In bankruptcy the enforcement of unsecured claims takes longer than the enforcement of secured ones. This is mainly because proceeds from the realisation of collateral shall be released to the respective secured creditors without undue delay. On the other hand, unsecured creditors usually have to wait until the whole debtor's insolvency estate is realised and priority claims are settled before them. Therefore, the final distribution of proceeds among unsecured creditors usually takes place several years after the commencement of the insolvency proceeding. The main contributing factors determining the length of the insolvency proceeding are the attractiveness of the debtor's assets, the expertise of the insolvency administrator and the activity by creditors and other participants in the proceeding (including potential obstructions).
In reorganisation the timeline is based on the approved reorganisation plan. Therefore, it is very individualised, and the expected length of satisfaction can differ with each case. However, it is not unusual that in reorganisation unsecured claims are settled faster than the secured ones. Recent reorganisation plans (eg, those of VÍTKOVICE HEAVY MACHINERY or VEBA, textilní závody) have been based on a structure in which unsecured creditors' claims are settled immediately after the approval of the reorganisation plan (with a higher level of haircut), whereas claims of secured creditors are restructured into a form of a payment schedule and gradually settled from the continued operation of debtor's business.
According to the latest data published by Surveilligence s.r.o., the average length of bankruptcy in the Czech Republic is 27 months. The average length of reorganisation (up to the approval of the reorganisation plan, not its fulfilment) is 13 months.
In bankruptcy the insolvency administrator is entitled to terminate a lease agreement previously concluded by the debtor with a third party even for a fixed term. In reorganisation the same right (with the consent of the creditors' committee) remains with the debtor, as the debtor is the one in charge of the business operation.
The termination is subject to a notice period of a maximum of three months. The outstanding claim of the landlord relating to the period before bankruptcy (if any) qualifies as an unsecured claim, while the claim of the landlord with regard to the termination period qualifies as a priority claim against the estate.
Even though there are no special bespoke rights and remedies for landlords under Czech insolvency law the position of landlords, especially in reorganisation, is quite strong. In order for a reorganisation to be successful, a company will typically need the co-operation of the landlord, both to avoid termination and to transfer, amend or novate any lease to the extent needed.
The same rules apply for both secured and unsecured foreign creditors. Therefore, please see 4.4 Foreign Secured Creditors.
With regard to secured claims in bankruptcy, they shall be satisfied from the proceeds of the realisation of the respective collateral at any time during the insolvency proceeding. The costs of maintenance of the respective collateral (up to 4% unless a higher amount has been agreed to by the secured creditor), costs associated with realisation (up to 5% unless higher amount has been agreed to by the secured creditor) and the insolvency administrator's reward shall be deducted from the proceeds of realisation prior to their release to the secured creditor. With the exception of the previously mentioned costs of realisation and maintenance and the reward of the insolvency administrator, until the full satisfaction of the first ranked secured claim, it is not possible to use the proceeds for the satisfaction of other creditors such as secured creditors in the next rank (order), priority claims or unsecured creditors. Should the secured claim not be entirely satisfied from the proceeds coming from the realisation of the respective collateral, the remaining unsatisfied part shall be considered as unsecured and satisfied proportionally together with other unsecured claims.
The following order shall be used if proceeds from the realisation of the insolvency estate are not sufficient to fully satisfy all priority claims. This order represents the statutory waterfall of claims in bankruptcy under Czech insolvency law:
Following the settlement of all priority claims, unsecured claims will be satisfied. Since the amount of proceeds almost never allows for the full satisfaction of all unsecured creditors, they are satisfied on a pro rata basis (proportionally). The claims of subordinated creditors are next in the order. The claims associated with shareholders' participation in a debtor are settled last in the order.
In reorganisation the situation is a bit different. Priority claims shall be continuously settled in their payment terms. A debtor's failure to duly settle priority claims within the allotted time shall lead to turning reorganisation into bankruptcy. Prior to the approval of a reorganisation plan all mature priority claims shall be duly settled. With regard to secured and unsecured claims, they shall be settled in accordance with the reorganisation plan. However, as a statutory requirement the reorganisation shall be more favourable for secured and unsecured creditors than the bankruptcy.
There are two basic areas of priority claims under the Insolvency Act: claims against the insolvency estate (in Czech: pohledávky za majektovou podstatou) and claims equal to those against the insolvency estate (in Czech: pohledávky postavené na roveň pohledávkám za majetkovou podstatou).
Claims against the insolvency estate, if they arise after commencement of the insolvency proceeding or moratorium, include, among others, the remuneration and cash expenses of the preliminary insolvency administrator, the remuneration and cash expenses of members of the creditors' committee, the advance payment for costs of the insolvency proceeding, claims that arose during the moratorium and claims from the provided priority insolvency financing. If they arise after the declaration of insolvency, claims against the insolvency estate include, among others, the remuneration and cash expenses of the insolvency administrator, the costs of maintenance of the insolvency estate, the remuneration and cash expenses of the expert valuator, taxes and social security contributions and claims arising from agreements concluded by a debtor or insolvency administrator.
Claims equal to those against the insolvency estate include, among others, (irrespective of whether they arise prior to or after the commencement of the insolvency proceeding) employee claims, claims for damages associated with health injury, employee compensation paid by the Labour Office, alimony claims and pension claims.
Claims against the insolvency estate and claims equal to those against the insolvency estate (priority claims) shall be set up by the person in charge of the debtor's operation. In bankruptcy it is the insolvency administrator and in reorganisation it is the debtor. Priority claims shall be satisfied at any time during the insolvency proceeding.
With regard to the proceeds of the realisation of the secured assets, priority claims do not have priority over secured creditor claims with one exception, which is the special priority insolvency financing. If the secured creditors do not use their preferential right to provide such insolvency financing, the claims of the actual insolvency financing provider (without the preferential right for its provision) shall have the same rank as those of the secured creditors with respect to proceeds from secured assets.
In Czech insolvency law statutory restructuring is represented by reorganisation, which can be conducted only under the ongoing insolvency proceeding. It is not possible to conduct any formal statutory restructuring outside of the insolvency proceeding in the Czech Republic.
The main difference between bankruptcy, which is a universal and the most common manner of resolving insolvency, and reorganisation is that reorganisation aims to preserve the operation of the debtor's business whereas bankruptcy aims to terminate the operation and realise the debtor's assets. It is also possible to execute reorganisation based on the termination of the debtor's operation (eg, a transfer of all assets in the case of real estate projects) but in practice it is very unusual.
In order to be able to undergo reorganisation, a debtor shall fulfil at least one of the following conditions: either a company's yearly turnover is at least CZK50 million (approximately EUR1.93 million), or a company employs at least 50 employees. However, even smaller companies, not reaching the above stated criteria of reorganisation, can undergo a reorganisation if they submit to the insolvency court, together with the insolvency petition, a so-called pre-agreed or pre-packed reorganisation plan approved by a simple majority of both the secured and unsecured creditors computed according to the debtor's accountancy evidence.
In the case that reorganisation was not already approved based on the debtor's pre-packed reorganisation plan, either a debtor or some of its creditors have to submit a special motion during the period given by the Insolvency Act in order to reach a reorganisation. In this regard it is important to point out that reorganisations based on motions submitted not by debtors but by creditors are very rare. The reason is obvious, because it is the debtor who remains in charge of the business operation in a reorganisation, and if the debtor does not intend to co-operate with the person who is suggesting reorganisation (the respective creditor) any chance of reaching a successful reorganisation is almost non-existent. After an approval of reorganisation by the required majority of creditors at the creditors' meeting, the reorganisation has to also be formally permitted by the insolvency court. The insolvency court examines especially whether the motion for reorganisation was submitted with honest intentions. Should no one submit a motion for reorganisation, bankruptcy of the debtor is declared automatically by the court.
The debtor shall present its reorganisation plan within 120 days following the decision on the permission of reorganisation. Upon the debtor's request this deadline can be further extended by up to another 120 days. The reorganisation plan is a core document of the entire reorganisation procedure. Apart from including numerous statutory requirements, the creator of the reorganisation plan can be very creative regarding its content. The Insolvency Act includes a demonstrative list of the allowed reorganisation (restructuring) measures, such as the restructuring (haircut and/or change of payment terms) of creditors' claims, the sale of the insolvency estate (or its parts) or the sale of the debtor's enterprise, the transfer of the debtor's assets to its creditors, the merger or demerger of the debtor, or the obtaining of the financing or issuance of new shares for the purpose of capitalisation (debt to equity swap). However, the creator of the reorganisation plan can come up with its own reorganisation measures unless they are in conflict with the generally binding legal provisions and principles of the insolvency proceeding. In practice probably the most commonly used restructuring measures are the restructuring of the debtors' claims, obtaining financing, divestment of the debtor's assets and the issuance of new shares.
Following the submission of the reorganisation plan, the insolvency court calls a special creditors' meeting in order to vote on the submitted reorganisation plan. Creditors are also entitled to vote outside of the creditors' meeting by prescribed forms, called voting ballots (slips). Voting takes place in groups (classes) according to the division set by the reorganisation plan. Each secured creditor shall form its own group and creditors are also entitled to ask to be moved among particular groups set by the reorganisation plan. The reorganisation plan is adopted in a given group if voted upon by the majority of the voting creditors of the group, the claims of whom represent at least half of the total nominal value of claims of voting creditors of the same group. The reorganisation plan is adopted by the creditors' meeting if the entire group voted in its favour. However, rejection in one group may be overruled by the decision of the insolvency court provided that at least one group adopted the reorganisation plan.
After the voting at the creditors' meeting takes place, the insolvency court will also approve the reorganisation plan. The insolvency court does so if the plan:
The reorganisation procedure is finalised by the decision of the insolvency court that substantial parts of the reorganisation plan have been fulfilled. This usually means that all the main reorganisation measures envisaged by the plan have been duly executed. By this decision the insolvency proceeding is formally ended. Until the insolvency proceeding is ended the insolvency court can decide to turn reorganisation into bankruptcy. This usually happens when a debtor is unable to duly settle priority claims or dishonest interests of reorganisation were proven.
As already mentioned, in 1.2 Changes to the Restructuring and Insolvency Market, the current trend in the Czech insolvency market is to use pre-packed (pre-agreed) reorganisation when possible. Not only does it significantly speed up the reorganisation procedure, but the debtor and its creditors are entitled to choose a person to be appointed as the insolvency administrator. Despite the fact that in reorganisation the insolvency administrator has mainly supervisory powers over the debtor, an experienced person as the insolvency administrator can significantly improve the chances of a successful procedure.
A company's position in the reorganisation is very important as the debtor remains in charge of the business operation and of the disposal of its assets. A reorganisation plan may set certain limitations on the debtor's disposal right (eg, necessary approval by the insolvency administrator or creditors' committee for certain actions). Moreover, the Insolvency Act states that in reorganisation legal actions with significant impacts on the insolvency estate and its maintenance shall be made by the company only with the consent of the creditors' committee. A breach of such an obligation leads to the company's liability for harm caused to creditors and/or third persons. Members of the statutory body are held liable jointly and severally.
The insolvency administrator is appointed, but his or her powers remain mainly supervisory during the reorganisation. The decision regarding whether the old management of the company will remain in office remains mainly with debtor's shareholders. However, the appointment of new (and also the recalling of old) members of the statutory body has to be confirmed by the creditors' committee. In practice it is not unusual that the appointment of a chief restructuring officer (CRO) or other restructuring professionals, including economic and legal advisors, is the creditors' fundamental requirement to support the debtor's reorganisation.
During the reorganisation the company is entitled to borrow new money either in the form of priority insolvency financing (with the consent of the creditors' committee) or in the form of a simple loan. However, the restrictions mentioned in 3.3 New Money on disposal with the insolvency estate and its encumbrance shall be considered. With regard to the provider of the financing, in a reorganisation banks are usually no longer willing to finance the debtor directly. Therefore, it is usually the investor who provides the financing.
In reorganisation creditors are put into separate classes (groups) according to the division contained in the reorganisation plan. The division contained in the reorganisation plan has to take into consideration the provisions of the Insolvency Act, which state that each secured creditor will constitute its own group. The debtor's shareholders will also constitute a separate group. With regard to unsecured creditors the only condition set by the Insolvency Act is that creditors with a similar legal position and economic interests shall form one group. There are many ways to interpret such a statutory provision, and therefore in practice unsecured creditors may all be put into the same group, but it is also not unusual that more groups are created for them based, for example, on the nature of their claims or whether they execute their right to swap claims into equity.
In the insolvency proceeding (the same goes for bankruptcy and reorganisation) creditors form so-called creditors' bodies. This is a creditors' meeting and a creditors' committee. In the case of smaller insolvency proceedings, with less than 50 registered creditors, the creditors' committee may be substituted by a single creditors' representative.
A creditors' meeting is the supreme body and constitutes all creditors who lodge their claims with the insolvency proceeding. The meeting usually takes place on the premises of the insolvency court but in the case of bigger insolvencies more suitable premises may be used due to limited capacity. A creditors' meeting decides on the most important matters related to the proceeding, such as the manner of resolving the debtor's insolvency, voting rights related to disputed claims, the adoption of a reorganisation plan and the approval of expert valuation. It also elects members of the creditors' committee.
A creditors' committee is formed by three to seven members. In the creditors' committee a representative of both secured and unsecured creditors shall be present, but there must always be at least as many members of the creditors' committee representing unsecured creditors as there are members representing secured creditors. A creditors' committee mainly supervises the actions of the insolvency administrator (especially in bankruptcy) and of the debtor (especially in reorganisation) and grants necessary consents required by the Insolvency Act (eg, the provision of priority insolvency financing or the direct sale of the insolvency estate). Members of the creditors' committee shall act with due care and bear responsibility in the case of a breach of obligation.
With regard to information made available to creditors, insolvency proceedings in the Czech Republic are quite transparent. All the main documents relating to any insolvency proceedings are publicly available in the insolvency register that may be accessed online. Should a submission contain business secrets or other sensitive information the insolvency court may anonymise the submission prior to its publication.
Generally, the reorganisation plan needs to be approved by all classes (groups) of creditors. However, if the reorganisation plan is approved by only some classes of creditors, whilst other classes do not approve it, the insolvency court may overrule and still approve such a reorganisation plan.
Three basic assumptions have to be met in order for the insolvency court to be entitled to overrule the rejection of a certain class:
Summarising the above-stated, the claims of dissenting creditors may be modified without the consent of such creditors. Dissenting creditors may be overruled in a certain class by other creditors from the same group. Should the reorganisation plan be rejected by an entire class it can still be approved, but a special decision of the insolvency court is required.
Claims against a debtor may be traded at any time during the insolvency proceeding (in both reorganisation and bankruptcy). The assignment of a claim shall be notified to the insolvency court either by the parties' mutual oral statement before the court or by the transferor's submission on a special form. The insolvency court shall then formally acknowledge the assignment and allow the transferee's entrance into the insolvency proceeding instead of the transferor. The transferee shall gain the same procedural rights and obligations as previously held in the proceeding by the transferor including any potential incidental disputes.
In the case that a creditor acquires a claim in the amount of EUR10,000 or higher during the insolvency proceeding, or up to six months prior to its commencement, the creditor is obliged to declare its beneficial owner when lodging the claim. Until the due fulfilment of this obligation the creditor is restricted from executing any voting rights associated with the claim. This is mainly due to the fact that group creditors are legally restricted from the execution of voting rights and this restriction prevents a deliberate transfer of claims to third persons in order to acquire voting rights.
In the case of insolvencies of multiple companies from the same group, the same insolvency administrator will be appointed to the office (unless a conflict of interests occurs). It is also common that the same judge is appointed at the insolvency court with respect to companies from the same group. Therefore, despite the fact that the Insolvency Act does not contain any special procedural provisions on the restructuring of a corporate group and multiple separate insolvency proceedings have to be triggered formally, it is possible to at least materially co-ordinate the proceedings.
The Insolvency Act states that, in reorganisation, legal actions with significant impact on the insolvency estate and its maintenance shall be made by the company only with the consent of the creditors' committee. A breach of such an obligation leads to the company's liability for harm caused to creditors and/or third persons. Members of the statutory body are held liable jointly and severally. Actions within the ordinary course of business may be executed by a debtor without any limitations. Further limitations may be stipulated in the reorganisation plan.
In reorganisation the right to dispose of assets lies with a debtor. Therefore, any sales of assets are executed by the company itself and not by the insolvency administrator or any other third person, but the company has to respect the restrictions set by the Insolvency Act and described in 6.7 Restrictions on a Company's Use or Sale of Its Assets above. It is possible to use the services of an advisor during the sale.
A reorganisation plan may directly envisage the transfer, realisation or sale of certain assets as one of the restructuring measures. In this case there is no need for special approval by the creditors' committee since the transaction has already been approved in the plan.
It is not unusual that the sales of assets and similar transactions negotiated by the parties prior to the commencement of the insolvency proceeding are then formally executed in the reorganisation.
Secured creditor liens and security arrangements on the debtor's assets shall be released after the reorganisation plan goes into effect. However, the reorganisation plan may state otherwise, or even create a new security measure for creditors that is an exception to the general principle that no new security shall be established during the course of the insolvency proceeding.
New money can be provided in the form of special priority insolvency financing under the Insolvency Act. The provision of insolvency financing has to be approved by the creditors' committee. Secured creditors have a preferential right to provide the debtor with the insolvency financing. New money provided as insolvency financing can be secured by the assets of the company, which is another exception to the general principle that no new security shall be established during the course of the insolvency proceeding. If the secured creditors do not use their preferential right to provide the insolvency financing, such financing may also be provided by any third person.
The creditor shall state the value of its claim when lodging it with the insolvency proceeding. The value shall be stated in CZK and claims in other currencies shall be converted into CZK according to the exchange rate announced by the Czech National Bank on the day of the commencement of the insolvency proceeding.
The stated value is later subject to a review and can be challenged by the insolvency administrator and/or debtor and/or other creditors. If challenged, the value of the respective claim is later stated by the insolvency court in a so-called incidental dispute.
A reorganisation plan has to be approved by the insolvency court in all cases. Prior to assessment by the insolvency court, should the reorganisation plan not be accepted by all classes of creditors, higher demands are set on its overall “fairness” in order to be approved by the court. For details please see 6.4 Claims of Dissenting Creditors.
Within a 30-day period following the commencement of the reorganisation a debtor is, with the consent of the creditors' committee, entitled to reject the thus-far unfulfilled agreements on mutual performance (eg, a purchase contract) and lease agreements.
Generally speaking, non-debtor parties shall not be affected by the reorganisation, as creditors' rights towards co-debtors and guarantors remain unaffected by the reorganisation plan.
After the commencement of the insolvency proceeding, creditors are still entitled to set-off their receivables against a debtor provided that other conditions set by the Insolvency Act are met. The creditors' possibility to set-off ends when a motion for reorganisation is published in the insolvency register or insolvency is declared, whichever occurs earlier. A special regime might be imposed by the insolvency court's preliminary measure.
If the company fails to fulfil its reorganisation plan or is unable to duly settle all undisputed priority claims within the allotted time, the insolvency court shall decide on turning the reorganisation into bankruptcy.
In reorganisation the existing equity owners retain their ownership of the company unless the reorganisation plan states otherwise. It is not unusual that the plan contains some kind of debt to equity swap and at least partial change of the ownership structure is therefore a substantial part of many plans. Claims arising from shareholders' participation in the company are considered to be equal to zero.
Bankruptcy is a universal manner of resolving a debtor's insolvency. This means that it is applicable in the case of both legal (which can also undergo reorganisation) and natural (who can also undergo a debt relief procedure) persons. In the case of a company's insolvency there are no special requirements to declare bankruptcy. In other words, should no one propose a reorganisation of the insolvent company, bankruptcy will be declared automatically.
An important piece of information is that on the day of a bankruptcy declaration, the right to dispose of assets and the insolvency estate passes from the debtor to the insolvency administrator. Once the insolvency administrator takes charge, he or she usually aims to terminate the business and realise the insolvency estate in order to satisfy the debtor's creditors, as bankruptcy is a liquidation manner of resolving a company's insolvency. However, so-called remediation bankruptcy may also take place. Although not directly recognised by law, in such a case the insolvency administrator aims to quickly sell the debtor's whole business (enterprise) as a going concern. Should there be a suitable purchaser (investor), the operation of the debtor's business might continue without the necessity of terminating employment and other contracts. It is also possible to lease the debtor's enterprise to the investor prior to the execution of the sale.
In reorganisation it is the debtor's right to terminate, with the consent of the creditors' committee, agreements on the mutual fulfilment and lease agreements within a 30-day deadline, whereas in bankruptcy such agreements are automatically considered as terminated unless the insolvency administrator expressly states otherwise to the second party of the agreement.
With regard to a deadline for the registration of claims, the possibility to trade claims, the process of lodging claims and their review, the possibility of set-off, the impossibility of enforcing claims outside of the insolvency proceeding and publicity and information made available to creditors; these are the same in the case of reorganisation and of bankruptcy. Therefore, please see the respective parts of 6 Statutory Restructurings, Rehabilitations and Reorganisations.
In bankruptcy the insolvency administrator is in charge of the sale of assets or the business (whole insolvency estate). In order to execute certain forms of insolvency estate realisation the insolvency administrator is required to obtain the consent of the creditors' committee and/or the insolvency court. The former management of the company does not participate in the sales procedure. The insolvency administrator is entitled to hire advisors (eg, an economic advisor or auctioneer) to assist him or her with the sale. The costs of advisors constitute priority claims in the insolvency proceeding.
Generally speaking, the acquisition of assets in bankruptcy is more favourable for the investor than in reorganisation, as in bankruptcy the purchaser acquires assets free and clear of any claims and third parties' rights. Therefore, there is no need to run an extensive due diligence procedure.
On the other hand, it is very difficult to foresee the outcomes of auctions, tenders or similar sales procedures in bankruptcy, so bankruptcy is not suitable in order to execute any pre-negotiated sales, transactions or other deals. In this regard reorganisation is much more convenient for the investor, as it is easier to forecast its outcomes.
Apart from the members of the creditors' committee and their related persons, creditors are entitled to acquire assets from the debtor's insolvency estate. The debtor, its shareholders, management, companies from the debtor's group and other related persons are also restricted from acquiring parts of the insolvency estate. There is also a three-year protection period following the end of the insolvency proceeding.
Unlike in reorganisation, in bankruptcy there is no agreed upon or statutory plan the debtor needs to fulfil. Therefore, in bankruptcy there are no implications connected with failure to observe statutory or agreed upon terms. In reorganisation the failure to observe might lead to turning reorganisation into bankruptcy.
In bankruptcy the insolvency administrator is entitled to enter into an agreement on priority insolvency financing under the same conditions as is the debtor in reorganisation (ie, approval of the creditors' committee). However, it has to be said that it is very unusual to draw any insolvency financing in bankruptcy. The reason is that the aim of the bankruptcy is, in most cases, to terminate the debtor's operation and not to finance its further operation. Moreover, drawing the insolvency financing generates new priority claims, which are to be settled prior to receivables of other creditors and therefore it is not in the best interest of creditors to further burden the insolvency estate.
The same conditions stated in 6.6 Use of a Restructuring Procedure to Reorganise a Corporate Group apply. Due to the likely presence of the same insolvency administrator and judge it is possible to carry out only one tender or auction with respect to the insolvency estates of multiple companies forming the same group. Proceeds from the realisation of all insolvency estates shall be divided among the particular creditors (single insolvency proceedings) according to the value of each insolvency estate set by the expert valuation.
In bankruptcy the organisation of creditors is the same as in reorganisation. Please see 6.3 Roles of Creditors.
The Insolvency Act recognises numerous possible sales procedures the insolvency administrator may use in order to realise the insolvency estate. The chosen manner of sales shall be approved by the creditors' committee. Probably the most frequently used ones are the direct sale, the public auction and the non-formal tender.
The terms of the public auction are set by a special law. Since it is not allowed to alternate those terms, the inflexibility is probably the biggest disadvantage of the public auction. On the other hand, it brings the highest amount of certainty to the purchaser as it is difficult to later challenge a sale conducted at a transparent public auction upon the terms set by the law.
In the case of a direct sale, not only the approval by the creditors' committee but also by the insolvency court is required. Upon its publication in the insolvency register there is a three-month period within which to challenge the validity of the agreement concluded based on a direct sale by a special action, the submission of which results in an incidental dispute.
The non-formal tender mainly combines the advantages of both previously mentioned manners. It should bring in the necessary transparency, but the sales procedure should not be bound by the formalities associated with the public auction.
With respect to assets securing claims of secured creditors, the insolvency administrator is bound by the instruction of the respective secured creditor regarding the manner of their realisation.
With regard to states that are not members of the EU, the provisions of Act No. 91/2012 Coll. on International Private Law, as amended, shall apply. The foreign decisions on insolvency matters are recognised in the Czech Republic under the condition of mutual reciprocity, provided that the debtor's centre of main interests (COMI) is in the state that issued the decision and the debtor's assets located in the Czech Republic are not subject to the already commenced insolvency proceeding held before Czech courts. With respect to member states of the EU the respective EU Regulation shall apply.
Generally speaking, cross-border insolvency cases are rare in the Czech Republic. Should they occur, insolvency administrators and courts usually adhere to the rules and procedures set by the respective EU Regulation in order to co-operate and communicate with each other and to co-ordinate particular insolvency proceedings. In the case of non-EU countries bilateral international treaties may apply.
In accordance with the respective EU Regulation the main insolvency proceedings will be held before courts of the member state within whose territory the debtor's COMI is situated. The law applicable to secondary insolvency proceedings shall be that of the member state within the territory of which the secondary insolvency proceedings are commenced. Under the provisions of the Act on International Private Law the same conflict rules shall be appropriately applied in the case of non-EU countries.
Foreign creditors are generally dealt with in the same way as domestic creditors. For more details please see 4.4 Foreign Secured Creditors.
An insolvency administrator (trustee) is appointed in all three types of resolution of a debtor's insolvency (ie, reorganisation, bankruptcy and debt relief). The appointment of the insolvency administrator is usually connected with the declaration of a debtors insolvency. However, a preliminary insolvency administrator might be appointed earlier by the decision of the insolvency court. In such a case the preliminary administrator is usually later appointed as a regular one. Besides the regular insolvency administrator, a so-called separate insolvency administrator can also be appointed. This is usually the case when a conflict of interests occurs (eg, a review of intragroup claims in the case that the regular insolvency administrator was appointed into the office by debtors all from the same group). There are no statutory officers other than insolvency administrators under Czech law.
In bankruptcy the position of the insolvency administrator is quite strong as he or she is the one in charge of the disposal of assets and insolvency estate realisation. In reorganisation and debt relief the insolvency administrator's role is more that of supervision over the debtor.
Insolvency administrators shall act diligently and with due (professional) care within the performance of their office and are obliged to act with reasonably required effort to achieve the highest possible satisfaction of the creditors. They are obliged to give priority to the common interests of the creditors over both their own interests and the interests of other persons. Insolvency administrators shall also provide co-operation to the creditors' bodies (ie, the creditors meeting, the creditors committee and the creditors representative) necessary for due performance of their office. If insolvency administrators breach their duties, they shall be liable for any damage caused to the debtor and/or creditors and/or third parties.
With regard to specific actions usually executed by insolvency administrators, in both reorganisation and bankruptcy the insolvency administrator has to prepare a list of all of the debtor's assets (insolvency estate) and a list of all lodged claims. All claims registered with the insolvency proceeding shall be subject to the insolvency administrator's review. The outcomes of the review shall also be recorded in a special list. In bankruptcy the insolvency administrator is also responsible for the fastest possible realisation of the insolvency estate and division of proceeds among particular creditors. In reorganisation, as stated before, the role is more supervisory.
Insolvency administrators are selected by the insolvency court from an official list on a rotating basis. The same insolvency administrator shall be appointed with respect to multiple debtors from the same group. In the case of reorganisations and big bankruptcies an insolvency administrator in possession of a special licence (authorisation) is required. Around 30 persons have this special licence in the Czech Republic. The insolvency court may, at any time, on its own or upon application, dismiss the insolvency administrator from his or her office should he or she breach his or her stated duties (as found in 9.2 Statutory Roles, Rights and Responsibilities of Officers). At the first creditors' meeting the creditors may vote on the dismissal of the current insolvency administrator and his or her replacement by a new one should there be such a proposal.
The debtor's management shall provide the administrator with all necessary co-operation including the accounts and any information or documentation relating to the company. Third parties are also obliged to provide reasonable assistance to the insolvency administrator. Creditors, debtors themselves, owners or their directors or representatives may in any case not serve as the debtor's insolvency administrator due to the obvious conflict of interests.
In order to become an insolvency administrator (to be placed on a special list held by the Ministry of Justice) a person must have: legal capacity; a university Master’s degree (not only law but also other programmes such as economics are recognised); passed an insolvency exam; a clean criminal record; at least three years of professional experience in the field of law, economy, tax, accountancy, audit or business operation; concluded liability insurance; and appropriate personal and material equipment. It is quite common that insolvency administrators are also registered as attorneys by the Czech Bar Association.
In reorganisation both legal (attorneys) and financial (especially economic) advisors are typically hired by the debtor. It is also not unusual that a CRO is appointed or the company's former management is at least strengthened by professional restructuring managers. Managerial changes may also be a non-formal condition of certain creditors' support for reorganisation. The role of the economic advisor within the reorganisation is above all to prepare the company's financial plan, implement restructuring measures inside the company and help with reporting duties to the insolvency administrator and creditors' bodies.
The legal advisor represents the company in the insolvency proceeding including creditors' bodies and potential incidental disputes, negotiates with creditors and prepares the reorganisation plan and other related documentation. In reorganisation a special expert valuator also has to be appointed in order to set the value of the insolvency estate and compare the expected level of creditors' satisfaction in reorganisation and bankruptcy.
In bankruptcy the insolvency administrator may also hire legal and economic advisors. In this case economic advisors help especially with the sales procedure, and external legal advisors might help with the review of claims and represent the administrator in incidental disputes.
In reorganisation the advisors are hired and paid directly by the debtor, whereas in bankruptcy they are hired by the insolvency administrator and paid from the insolvency estate. If their right to remuneration arises after the declaration of insolvency, the claims of the advisors have the position of a priority claim. Despite the fact that the claims of an expert valuator have a preferential position even among priority claims, at least a partial advance payment is usually required by the valuation expert.
No authorisation or judicial approval is needed for the hiring of advisors. However, the presence of well-established advisors might be a strong incentive for certain creditors to support reorganisation. Since the insolvency administrator is obliged to act with due care, he or she usually lets the creditors' committee approve his or her advisors and their costs.
The advisors have to act with professional care and are liable for damages if they fail to do so. They shall hold adequate insurance for such cases. Other responsibilities, including ethical obligations, might be set upon the advisors by the internal professional rules of the associations of which they are members.
A formal arbitration or mediation is not utilised in insolvency proceedings in the Czech Republic. Incidental disputes have to be settled by the insolvency courts and therefore there is no room for arbitration proceedings. With regard to non-formal mediation, it is always better if the parties speak with each other and try to reach an amicable solution rather than burdening the insolvency proceeding with disputes that usually slow down or even paralyse the proceeding and lead to lower satisfaction for all involved.
Courts do not order mandatory arbitration or mediation under Czech insolvency law.
Creditors can enforce their claims in the insolvency proceeding only once such a proceeding has commenced. However, decisions made by the arbitration courts prior to the commencement of the insolvency proceeding remain effective and the creditor shall have an enforceable claim against the debtor.
Arbitrations are governed by Act No. 216/1994 Coll., the Arbitration Act, as amended. Mediations are governed by Act No. 202/2012 Coll., the Mediation Act, as amended. However, as stated above, none of these acts directly relate to insolvency proceedings.
Arbitrators are usually appointed according to rules set among the parties in the relevant arbitration clause. Should the arbitration clause not contain such rules the Arbitration Act sets a basic principle that each party appoints one arbitrator and such appointed arbitrators appoint the presiding one. If one of the parties fails to appoint its own arbitrator or if the arbitrators appointed by the parties cannot agree on the presiding one, then the missing arbitrator shall be appointed by the respective arbitration court from its official list of arbitrators.
With regard to mediation, the parties may choose from the official list of mediators maintained by the Ministry of Justice or even appoint another person according to their will.
All directors, irrespective of whether the company is in insolvency or not, are required to act with due managerial care under Czech law. A breach of the obligation to act with due managerial care may result in the director's liability towards the company or its shareholders under the Business Corporation Act. Part of such an obligation to act with due managerial care is to avoid the potential insolvency of the company and so, should there be an immanent insolvency, to execute everything within reason required to avert that insolvency. Failure to do everything reasonably required may lead to the director's obligation to return any consideration and other benefits received from the company for the past two years.
On the other hand, under the Insolvency Act members of the company's statutory body are obliged to file an insolvency petition without undue delay following the obtaining of knowledge about the insolvency (or the time at which it should have been obtained when acting with due care) and therefore initiate a formal insolvency proceeding. Failure to file the insolvency petition in a timely manner will lead to the personal liability of each member for damages caused to the creditors.
The insolvency court may, at any time during the insolvency proceeding, decide on its own or based on a motion of a person with legal interest that the person who caused the insolvency of the company is disqualified from the performance of office of the director at any other company for a period of three years.
Moreover, upon the request of the insolvency administrator or a company's creditor a court may decide that a (former) member of that company's statutory body shall guarantee the payment of the company's debts.
Potential criminal liability may also arise especially in the case of intentional avoidance of tax and social security payments or in the case of favouring certain creditors over others.
As stated in 12.1 Duties of Directors, creditors may assert direct claims against the company's directors without the insolvency administrator needing to participate.
Despite the fact that the Insolvency Act does not formally recognise the position of CRO, in practice the participation of professional crisis management is not unusual. With regard to potential liability, the Business Corporation Act provides that a potential disqualification decision as well as guarantee for the company's debts described in 12.1 Duties of Directors, will not apply to persons appointed into the office under the threat of immanent insolvency and in order to avert that insolvency.
The legal concept of shadow directorship does not exist in Czech legislation.
In the case that shareholders or owners act in the position of a controlling person or person with significant influence and their actions led to the company's insolvency a court might issue a similar disqualification and guarantee decision as described in 12.1 Duties of Directors.
Under the Insolvency Act the insolvency administrator is entitled to challenge a debtor's actions (including omissions), during a one-year period as of the declaration of insolvency, by a special action to set the transaction aside. A submission of the action will result in an incidental dispute led before the insolvency court.
The main grounds for the action to set a transaction aside shall be either the absence of adequate consideration (renumeration), favouring some creditors over others or the intentional lowering of creditors' satisfaction. Successfully challenged actions and omissions are considered void based on a decision of the insolvency court. The respective persons are obliged to return any consideration received under such voidable transactions, and if this is not possible to provide adequate financial compensation to the insolvency estate.
The standard look-back period is one year prior to the commencement of the insolvency proceeding. In the case of a transaction without adequate consideration and favouring some creditors over others, made in favour of members of the debtor's group and its affiliated persons, the look-back period extends to three years. In the case of intentional actions leading to the lowering of creditors' satisfaction while the second party of such actions knew or should have known about the dishonest intentions, the look-back period is five years. If the second party to the action was a member of the debtor's group or an affiliated person, it is considered that the second party knew about the intention to lower the creditors’ satisfaction.
The action to set transaction aside may be filed only by the insolvency administrator. Creditors are not allowed to do so. However, if the creditors' committee adopts such a resolution the insolvency administrator is obliged to file the action. In such a case, should there not be sufficient funds in the insolvency estate to finance the costs of filing the action and engaging in the incidental disputes the insolvency administrator is entitled to ask creditors for an appropriate advance payment.
The insolvency administrator is entitled to file the action in both bankruptcy and reorganisation, irrespective of who possesses the right to dispose of the insolvency estate.
In reorganisation the expert valuation report is a mandatory part of the proceeding and also one of its most important. The Insolvency Act provides that the valuation report shall include a separate valuation of each of the assets that serve as collateral for certain secured creditors and the total value of the insolvency estate. Those two (or more in the case that several secured creditors are present in the insolvency proceeding) numbers are extremely important as they serve as the main basis for the assessment of whether the reorganisation or, more precisely, suggested reorganisation plan offers a higher level of satisfaction to the creditors than the potential bankruptcy. This condition must be met in order for the reorganisation plan to be approved by the insolvency court.
In bankruptcy an expert valuation report is mandatory only if the debtor's enterprise is being sold as a whole by one agreement. However, with respect to the insolvency administrator's obligation to act with due professional care it is not unusual that the insolvency administrator engages a valuation expert in order to evaluate the insolvency estate. The information from the expert valuator may be used when setting the asking price in a tender or to justify an already received purchase price.
In the case of a standard (non-pre-packed) reorganisation, the creditors' meeting that approved the process of reorganisation may also adopt a resolution on the designation of a particular expert valuator to be appointed in order to execute the valuation report. Such a resolution is adopted if at least two-thirds of all present creditors calculated according to the amount of their receivables vote for it. The insolvency court is then bound by the choice made by the creditors' committee.
In the case of a pre-packed reorganisation, the debtor may also suggest a person to be appointed as expert valuator, but the insolvency court is not bound by this suggestion and may appoint a different one. The insolvency court usually selects someone from its official list of valuators.
The valuator's remuneration for preparing the expert valuation report shall be approved by the creditors' committee within 15 days of his or her appointment. If not, the insolvency court decides on the valuator's remuneration. Another important piece of information not resolved by the Insolvency Act is who shall be the person engaging (entering into contract with) the valuator. The usual practice is that it is the debtor, but the valuation report can also be made without any agreement.
Following its elaboration, the valuation report and the numbers contained therein shall be approved by the creditors' meeting. Again at least two-thirds of the present creditors are required. Should the creditors' meeting not approve the valuation report it will decide on the name of the new valuator.
In bankruptcy it is the insolvency administrator who engages the expert valuator and such a decision is usually also approved by the creditors' meeting.
The insufficient statutory regulation relating to valuation reports contained in the Insolvency Act seems to be one of the most pressing issues in Czech insolvency law. Thus far, this issue has not been satisfactorily resolved by either case law or by statutory interpretation.
With regard to valuation reports executed within reorganisation, the Insolvency Act provides that the insolvency estate will be evaluated under an assumption that the operation of the debtor's business was terminated. This means that valuation experts aim to set a liquidation value of the debtor's assets and not a going-concern value. In the past this fact was disputed by some creditors since the main intention of reorganisation is to preserve the debtor's operation, and therefore a going-concern valuation method would seem to be more suitable. It is clear that a going-concern valuation in most cases leads to setting a higher value of the insolvency estate since, among other things, costs associated with the termination of the debtor's business operation do not have to be taken into consideration. A higher value of the insolvency estate means a higher amount of potential satisfaction for creditors. On the other hand, the main purpose of the valuation report is to make a comparison between the reorganisation and hypothetical bankruptcy. Therefore, it makes sense to take into consideration hypothetical costs associated with the termination of the business when setting the benchmark. The insolvency practice came to a conclusion that the liquidation value should be the decisive one.
Another important question relates to the date on which the insolvency estate should be evaluated. Despite the absence of any statutory provision, the usual practice is to set the liquidation value on the day before the debtor's insolvency is declared. Again, there may be a big difference resulting from changes to the structure of the insolvency estate caused by preserving the debtor's operation. Further questions of methodology are left to the valuator who is also bound by general laws and principles related to valuation reports. This leads to a current situation in which there are big differences between particular export reports and the methodologies used.
There are no special instruments by which to review the export report besides its above-described approval by the creditors' meeting.