In South Korea, the Debtor Rehabilitation and Bankruptcy Act (DRBA) is the basic law that governs court-administered insolvency proceedings. The DRBA was enacted to rehabilitate debtors facing financial difficulties efficiently, to revive their businesses through co-ordination of legal relations among interested parties, including creditors and equity holders, and to realise and divide a debtor’s asset fairly when it is deemed difficult to rehabilitate.

The Corporate Restructuring Promotion Act (CRPA), which is a law that provides out-of-court restructuring for corporations, was originally enacted during the Asian Crisis as a temporary law. Since then, the CRPA has been re-enacted multiple times to facilitate out-of-court restructuring and to promote the stabilisation of financial markets, and development of the national economy, by promptly and efficiently implementing corporate improvement measures to enterprises with signs of insolvency. The workout procedures prescribed in the CRPA are led by financial creditors.

The Act on Structural Improvement of the Financial Industry (SIFI) provides the legal framework for restructuring of financial institutions in South Korea. SIFI prescribes laws to contribute to the balanced development of the financial industry and stabilisation of financial markets by promoting sound competition between financial institutions and supporting the structural improvement of the financial industry.

In South Korea, court-administered insolvency proceedings include rehabilitation proceedings, individual rehabilitation proceedings and bankruptcy proceedings, which can be voluntary or involuntary. Out-of-court restructuring includes workout procedures under the CRPA, and voluntary workout accord between the debtor and creditors to which the CRPA is not applied. These out-of-court procedures are voluntary procedures.

Types of Statutory Officers

In a rehabilitation proceeding, the court appoints a receiver, usually from the existing management of the debtor (debtor in possession). In some cases, the court issues a decision not to appoint a receiver and the representative director is deemed as the receiver. In addition, the court usually appoints a Chief Restructuring Officer (CRO) to assist in the restructuring of the company that is undergoing a rehabilitation proceeding.

Upon a declaration of bankruptcy, the court appoints a bankruptcy trustee, who manages all assets of the debtor.

In a workout, the existing management continues to manage the debtor company. However, the debtor ordinarily enters into an agreement with the financial creditors, under which the financial creditors may dispatch personnel to oversee and control the financial management of the debtor.

Statutory Roles, Rights and Responsibilities of Officers

In a rehabilitation proceeding, the receiver has the duty of managing the assets of the debtor company, including disposing of or transferring property, borrowing funds, rejecting or assuming bilateral contracts that have not been fulfilled by either party, filing a lawsuit, and performing other acts designated and approved by the court. A receiver is not a representative of the debtor but a public trustee who is entrusted with the management of the interested parties. A receiver’s fiduciary duty is owed to creditors as a whole. A receiver must report to the court on a regular basis.

A CRO acts as an adviser assisting in the restructuring of the debtor in addition to acting as watchdog. The CRO owes fiduciary duties to the debtor.

Bankruptcy trustees have duties of managing the liquidation and distribution process, convoking a creditors’ meeting, conducting avoidance actions, etc. A trustee’s fiduciary duties are owed to the creditors as a whole, and a trustee must report to the court periodically, as well as to the creditors when a creditors’ meeting is convened.

The various types of creditors and their priority according to the DRBA are as follows.

Secured claims have priority through security interests such as mortgages, yangdo-dambo, and pledges, to the extent their claims are covered by the value of collateral provided. In rehabilitation proceedings, secured creditors have voting rights proportional to their secured claim amount or collateral value (whichever is lower), with any claim amount in excess of the collateral value treated as an unsecured claim. While their rights are stayed during rehabilitation, secured creditors in bankruptcy can exercise their rights through separate foreclosure outside the bankruptcy proceeding.

Common benefit claims (rehabilitation) and estate claims (bankruptcy) are considered to have the highest priority in that they are paid as they become due. These include expenses incurred in implementing the proceedings, such as court fees, certain professional fees, and claims arising after commencement. However, common benefit claims and estate claims do not rank higher than secured claims over the specific collateral provided for that secured claim.

In rehabilitation proceedings, unsecured rehabilitation claims can be impaired, but must still be repaid their liquidation value at least, unless the unsecured creditor consents to being paid less. In bankruptcy proceedings, bankruptcy claims will receive a distribution in proportion to their claim amount if there is anything remaining after repayment of secured claims and estate claims.

Equity holders’ rights rank lowest in both rehabilitation and bankruptcy proceedings. In rehabilitation proceedings, if the total debt exceeds total assets at commencement, shareholders lose their voting rights on the rehabilitation plan and the shares usually suffer dilution due to conversion of debt to equity or issuance of new shares. In bankruptcy proceedings, equity holders are rarely paid, as they can only be repaid their investment after all bankruptcy creditors are satisfied.

Common benefit claims are claims against the debtor that receive preferential treatment during a rehabilitation proceeding, meaning they are paid as they become due, and are usually not affected by the rehabilitation plan. The DRBA provides a specific list of claims that fall under this category, which are as follows.

• Court fees paid for the common benefit of unsecured creditors, secured creditors and equity holders.
• Claims for expenses related to the management and disposition of the debtor’s business and assets after commencement.
• Claims for expenses to implement the rehabilitation plan, excluding those arising after termination of the proceedings.
• Claims for costs, compensations, rewards and special rewards payable to the receiver and other office holders.
• Claims arising from borrowing of funds and other acts conducted by the receiver regarding the debtor’s business and assets after commencement.
• Claims held by the counterparty arising from the receiver’s performance of bilateral executory contracts.
• Claims arising from supply under continuing supply contracts between petition filing and commencement.
• Claims for goods supplied to the debtor through continuous and ordinary business activities within 20 days before petition filing.
• The following taxes for which the payment deadline has not yet begun:
1. withholding taxes;
2. value added tax, individual consumption tax and liquor tax, traffic, energy and environment tax;
3. education tax and special tax for agricultural and fishing villages, levied and collected according to the example of a disposition taken to impose and collect the main tax; and
4. local tax collected and paid by the person liable for the special collection.
• Wages, severance pay and disaster compensation of the debtor’s employees.
• Claims for return of workers’ deposits and security deposits arising from causes before commencement.
• The debtor’s employees’ right to claim for a refund of bailment monies and fidelity guarantee monies, which accrue from causes arising before the rehabilitation procedures commence.
• The borrowing of funds and procurement of materials that are performed by the debtor or any protective custodian after obtaining permission therefor from the court after an application is filed for commencement of rehabilitation procedures and prior to the commencement of rehabilitation procedures and other claims that accrue from acts that are inevitable in continuing the debtor’s business.
• Costs necessary for creditors’ committee activities as determined by the court.
• Supporting allowances to the debtor and his/her dependents.
• Other inevitable expenses to be incurred for the debtor, other than those specified in the previous items.

In a bankruptcy proceeding, estate claims, which are similar in category to the common benefit claims, have priority over other claims. However, they do not have priority over secured claims, to the extent that secured creditors can enforce their rights against the collateral outside of bankruptcy.

New-money claims that arose after commencement of a rehabilitation proceeding which was later converted to a bankruptcy proceeding will have priority over other estate claims (except for wage and severance payment claims) in that bankruptcy proceeding.

In South Korea, creditors in general may take security over tangible and intangible assets as well as rights that have pecuniary value. Types of liens include mortgage, pledge, yangdo-dambo, and right of retention.

• Mortgage – a mortgage is a security interest that secures the claims through real estate or certain other tangible assets subject to court registration such as vessels, airplanes and factory equipment. Mortgages provide security up to an amount that is fixed at the outset. A secured person/entity may apply the proceeds of a judicial sale of the mortgaged property for the satisfaction of its secured claims.
• Pledge – a pledge is a security interest that allows a secured party to apply for a judicial or private sale of the property for the compensation of its secured claims. A pledge may be taken against tangible property, including securities, but also against certain intangible property, such as certain intellectual property rights and monetary claims.
• Yangdo-dambo – Yangdo-dambo is a security by means of transfer. If the debtor satisfies its obligations against the secured party, the secured party shall return the collateral to the debtor and release the title. Otherwise, the secured party can foreclose on the property either by a sale or by acquiring full ownership of the property.
• Right of retention – the right of retention is a statutory security right that allows a person in possession of another’s property or securities to retain such assets until full payment of claims related to those assets. This security right is included in the scope of rehabilitation security rights under the DRBA, encompassing both civil and commercial rights of retention. Due to its retentive effect, which enables the holder to maintain possession until full satisfaction of the secured claim, the right of retention can potentially hinder the debtor’s successful rehabilitation.

Outside the insolvency context, secured creditors may generally enforce their rights on the collateral, either by applying for a court auction or taking title of the collateral in some cases. However, when a rehabilitation proceeding is commenced, the secured creditor’s right to enforcement is stayed until confirmation of the rehabilitation plan. If a rehabilitation is confirmed, the secured creditor is repaid according to the terms of the rehabilitation plan. If the rehabilitation proceeding is terminated because a rehabilitation plan is not filed or confirmed, the stay is lifted and the secured creditor may enforce its rights against the collateral.

Unlike in a rehabilitation proceeding, the creditor may foreclose outside bankruptcy without resorting to bankruptcy procedures.

Outside the insolvency context, unsecured creditors may generally seek pre-judgment attachments against the debtor’s assets on condition that the applying creditor posts security with the court in the amount and form ordered by the court.

In a case where the trade creditor has retained title for goods it delivered to the debtor, the trade creditor may seek to repossess the goods in accordance with the terms of agreement for the retention of title. However, in a rehabilitation context, retention of title will be treated as security and the creditor will be considered a secured creditor.

Set-off rights are generally available if parties have monetary claims against each other which have become due.

Out-of-court restructuring procedures in South Korea consist of the voluntary accord and corporate workouts under the CRPA. The voluntary accord is a wholly voluntary, consensual process initiated by agreement usually between creditor financial institutions and the debtor company. Consequently, a voluntary accord does not have any statutory requirements or structure, but requires unanimous consent from the participating creditors. Corporate workouts are also voluntary and consensual in that the debtor must apply for commencement of such procedures and the financial creditors must agree to commence the procedures. However, the CRPA provides for certain requirements and also allows for resolutions to pass even if unanimous consent is not reached.

A workout process under the CRPA is usually conducted in accordance with the following procedures.

• Credit assessment – the Main Creditor Bank, as defined in the CRPA, is required to conduct a periodic evaluation of borrower companies in order to determine whether the company shows any “signs of unsoundness”. If, based on the outcome of this evaluation, the company is found to show signs of unsoundness, it may apply for a corporate workout under the CRPA, or file a petition for commencement of a rehabilitation proceeding.
• Convocation of the Financial Creditors’ Committee – if the company showing signs of unsoundness applies for a corporate workout, the Main Creditor Bank must call the First Meeting of the Financial Creditors’ Committee (First Meeting), convened by the company’s financial creditors. Each financial creditor attending the First Meeting shall exercise its voting rights at the meeting in proportion to the amount of credit it has reported. The financial creditors shall deliberate and pass a resolution setting forth:
1. the scope of financial creditors who will actually participate in the workout process;
2. the commencement of the workout;
3. whether to suspend exercise of their claims, and the length of that suspension (up to one month, or three months if due diligence is required, with up to one additional month of suspension if necessary); and
4. other matters necessary for commencement of the joint administration procedure. (An affirmative vote of the financial creditors who have been called to the First Meeting, and who hold three fourths or more of the total amount of represented credit, is required in order to pass the resolution.)
• Due diligence – the Financial Creditors’ Committee may request an independent third-party expert (such as an accounting firm) to perform a due diligence examination of the company and to assess the company’s ability to remain a going concern. In consideration of the result of that due diligence examination, the Main Creditor Bank shall prepare a business reform plan of the company and submit it to the Committee.
• Agreement for a business reform plan – the Committee shall make an agreement with the debtor for implementation of a business reform plan within one month from the date the Committee passes a resolution for the plan. If the Committee fails to make an agreement for implementation of the business reform plan within the aforementioned deadline, the workout shall be suspended and readjustment of claims and provision of new credit contained in the business reform plan will become retroactively invalid.
• Termination of the workout – the Financial Creditors’ Committee shall terminate the workout by resolution when:
1. the insolvency of the company is resolved;
2. the agreement for implementation of the business reform plan is performed;
3. the company requests termination; or
4. any other reason for termination occurs.

If, in the course of a corporate workout, the Financial Creditors’ Committee adopts a resolution on certain matters, any financial creditor objecting to that resolution through a written statement may file a claim for the consenting creditors to purchase all financial claims of the objecting creditor within seven days from the date the Financial Creditors’ Committee adopts the resolution.

In such a case, the consenting creditors must purchase the objecting creditor’s claims within six months from the end of the Filing Period, and upon agreement with the objecting creditor, the consenting creditors may have the debtor company or a third party purchase the objecting creditor’s claims.

As mentioned earlier, while voluntary accords require unanimous consent from the participating creditors in order to proceed, in a corporate workout, a resolution can pass by consent from 75% or more of the participating financial creditors and the remaining 25% or less can decide whether to continue participating in the procedure or ask the consenting creditors to purchase its financial claims, in which case a liquidation value will be paid for the claims.

While voluntary accords may be invoked against any party upon agreement, it is usually invoked against corporations. Corporate workouts are intended for domestic companies that are subject to annual credit assessment from its main creditor bank.

Petition for Commencement

A debtor may file a petition for commencement of a rehabilitation proceeding when the debtor cannot repay a matured debt without causing a significant encumbrance to the continuation of its business, or when there is a concern that a cause for bankruptcy may arise with the debtor. Cause for bankruptcy exists when the debtor is not able to repay its debt or the debtor’s liability exceeds its assets. In addition to the debtor, the creditor(s) whose claims equal or exceed one tenth of the debtor’s capital, or equity holder(s) who own(s) more than one tenth of the debtor’s capital, may also file a petition for commencement.

Commencement of a Rehabilitation Proceeding

The court must, in principle, issue a decision as to whether it commences rehabilitation within one month from when the petition was filed. When the court issues a decision to commence the rehabilitation proceeding, the court must also appoint a receiver (or issue a decision not to appoint a receiver, in which case the representative director of the debtor company is deemed as the receiver). The court also appoints an examiner (usually an accounting firm) upon commencement to investigate the assets and liabilities of the debtor and report to the court on whether the debtor’s going concern value is higher than its liquidation value.

Important deadlines, such as the deadline for the receiver to submit the creditors’ list, the creditors to file their proofs of claims, and the deadline for the receiver to submit a list of acknowledged/contested claims are designated by the court upon commencement and announced to the public through the court’s website.

Scope of Rights Subject to Restructuring

Under the DRBA, the rehabilitation plan can modify various stakeholders’ rights. When a rehabilitation plan is confirmed, both secured and unsecured creditors’ rights are adjusted according to the plan’s terms. Claims not included in the confirmed plan are, in principle, discharged. However, the rehabilitation proceeding cannot release non-debtor parties, such as guarantors, from their liabilities. Regarding equity holders, while existing equity-owners may retain some ownership during and after plan confirmation, their rights are typically diluted through debt–equity swaps or issuance of new shares. In some cases, equity rights may be cancelled altogether, either to ensure appropriate capitalisation for new investors or as a penalty for major equity-holders who caused or aggravated the debtor company’s financial difficulties.

Organisation and Representation of Creditors

After a rehabilitation petition is filed, a creditors’ committee composed of major creditors, usually limited to ten members maximum, is established. Minority creditor participation is allowed when deemed necessary. This committee is entitled to request materials and information relating to the rehabilitation proceedings and provide views to the court on certain matters prescribed in the DRBA. Creditors that participate in the creditors committee can be secured creditors or unsecured creditors. In rehabilitation proceedings, stakeholders consist of secured creditors, unsecured creditors, and equity holders. Common-benefit creditors do not participate in creditors’ committees or in interested parties’ meetings since they are repaid as the claims become due and in principle are not impaired through the rehabilitation proceedings.

Investigation and Determination of Claims

When a rehabilitation proceeding is commenced, the receiver must submit a list of all known secured and unsecured creditors, including their respective claim amounts. Creditors may file proofs of claim if they find their claims were omitted or if they disagree with the amount or categorisation of their claims. The receiver and other creditors have the right to contest these claims. Any creditor whose claims are contested may file an application for claims allowance within 30 days from the deadline for the receiver’s submission of the list of acknowledged/contested claims. The bankruptcy court will decide in a summary proceeding whether to allow such contested claims. A party that disagrees with the court’s decision to allow or disallow such claim can file a lawsuit objecting to such decision of the court, which will proceed as a formal civil lawsuit.

Asset Preservation Orders and (Comprehensive) Stay Orders

In a rehabilitation proceeding, when there is a filing of the petition for commencement, the court may, on its own motion or at the request of an interested party, issue an asset preservation order to preserve the debtor’s assets and a stay order to prevent the creditors from enforcing their rights against the debtor’s assets. Although individual stay orders can be issued for each enforcement attempt, in practice, the court usually issues a comprehensive stay to prevent all creditors from initiating any enforcement procedures against the debtor, especially in corporate rehabilitation proceedings.

Treatment of Dissenting Creditors and Cram-Down

The rehabilitation plan requires the consent of two thirds of the unsecured creditors, three quarters of the rehabilitation secured creditors and one half of participating equity-holders (when equity holders have voting rights). Therefore, in theory, a rehabilitation plan may modify claims despite a third of dissenting unsecured creditors and a quarter of dissenting secured creditors, but in any case liquidation value of such claims must be repaid unless the creditors consent to a more unfavourable treatment of their claims. Furthermore, the court may cram down a rehabilitation plan, even if a class of creditors does not consent to the plan. In the case of a cram-down, the court is required to ensure the class of dissenting creditors’ rights are sufficiently protected.

Treatment of New Monies

In a rehabilitation proceeding, the receiver can borrow funds for business management with court approval, which requires consultation with the creditors’ committee. If the debtor’s assets later prove insufficient to satisfy common benefit claims, newly borrowed operation funds receive priority repayment. Recent DRBA amendments provide super-priority for new money claims that carry over into subsequent bankruptcy proceedings, though this priority remains below wage and severance payment claims.

Timelines and Key Milestones

While timelines may vary significantly depending on the details of each case, a rehabilitation proceeding generally proceeds as follows.

• The court’s decision to commence rehabilitation proceedings – within one month from the date of petition filing.
• Deadline for the receiver to submit the creditors’ list – usually within four weeks from the date of commencement.
• Deadline for the creditors to file their proof of claims – 2~4 weeks from the deadline for the receiver to submit the creditors’ list.
• Deadline for the receiver to submit the list of acknowledged/contested claims – 2~4 weeks after the deadline to file proof of claims.
• Deadline for submission of the proposed rehabilitation plan – 3~4 months from the commencement date.

The proposed rehabilitation plan is reviewed at an interested parties’ meeting and will pass if it receives the required amount of consenting votes. Post-confirmation, the debtor implements the plan under court supervision until the court determines that the plan’s purpose is achievable and closes the proceedings.

Implementation of the Plan and Closing of the Rehabilitation Proceeding

When a rehabilitation plan has been confirmed and is being carried out, or if the court finds that there is no hindrance to carrying out the rehabilitation plan and its purpose is considered achievable, the court may issue an order to close the proceedings and allow the debtor to exit from the rehabilitation proceeding. In that event, the debtor regains control over its assets and business.

When a proposed rehabilitation plan is not submitted, or the proposed rehabilitation plan fails to pass or be confirmed by the court within the time designated by the court which cannot exceed 18 months from the date of commencement, the court can terminate the rehabilitation proceedings.

Fairness Test Applied to Rehabilitation Plans

A rehabilitation plan requires confirmation of the court. In order for the plan to be confirmed, the plan must be:

• in compliance with the law, including that the creditors are guaranteed the liquidation value of their claims;
• fair and in conformity with the principles of equality; and
• feasible.

The court may not confirm the plan if these requirements are not met, even if the plan is approved by a vote of the creditors.

Failure to Observe the Terms of the Rehabilitation Plan

When it is evidently impossible to implement the confirmed rehabilitation plan, the court shall issue a decision to terminate the rehabilitation proceeding by its own motion or at the request of the receiver or a creditor that is listed in the table of secured or unsecured creditors. If there is cause for bankruptcy with the debtor, the court must declare the debtor bankrupt.

The rehabilitation plan usually provides for delay interest to be applied to late payments, and if the rehabilitation proceeding had closed, any creditor listed in the table of rehabilitation creditors can enforce their rights as adjusted according to the rehabilitation plan as if they were a judgment creditor.

Business Continuation

A rehabilitation proceeding is usually commenced based on the presumption that the debtor company will continue operating its business, as normal. A rehabilitation that provides for liquidation of the debtor may be prepared only in exceptional cases. Under the principle of “debtor-in-possession” (DIP), the incumbent management usually continues to manage the company, subject to court authorisation for disposition of assets and other acts that may have substantial impact on the debtor company’s operations. In some cases, a third-party receiver may be appointed to perform duties instead of, or jointly with, the existing management.

Restrictions on Asset Management

During the rehabilitation proceeding, only the receiver has the authority to manage and dispose of the debtor’s assets. The receiver must obtain prior court approval for:

• repayment of any rehabilitation claims and rehabilitation secured claims, regardless of amount;
• any expenditures and disposals of assets outside the ordinary course of business; and
• expenditures and disposals within the ordinary course of business that exceed court-established thresholds.

To obtain court approval, the receiver must clearly demonstrate the amount or value of the expenditure or disposal, the balance of debtor’s funds, and reasons why such actions are necessary and/or would not harm creditors. The court will authorise the action if it deems the reasons reasonable.

DIP Financing

After commencement of a rehabilitation proceeding, or even after petition filing but prior to commencement, the receiver can borrow funds to manage the debtor’s business and properties, subject to court approval. In approving such loans, the court must consult with the creditors’ committee and consider the overall circumstances of the debtor.

Types of Statutory Officers

In a rehabilitation proceeding, the court appoints a receiver, usually from the existing management of the debtor or, in some cases, the court issues a decision not to appoint a receiver, in which case the representative director shall be deemed as the receiver. Also, the recent trend is for the court to appoint a CRO to assist in the restructuring of the company that is undergoing a rehabilitation proceeding.

Statutory Roles, Rights and Responsibilities of Officers

In a rehabilitation proceeding, the receiver has the duty of disposing of property, the transfer of property, the borrowing of funds, assuming or rejecting bilateral contracts that have not been fulfilled by either party, representing the debtor in lawsuits, repaying common benefit claims, and performing other acts designated and approved by the court. A receiver is not a representative of the debtor but a public trustee who is entrusted with the management of the interested parties. A receiver’s fiduciary duty is owed to creditors as a whole. A receiver must report to the court on a regular basis.

A CRO acts as an adviser assisting in the restructuring of the debtor in addition to acting as watchdog. The CRO owes fiduciary duties to the debtor.

Selection of Officers

A receiver is usually the representative director of the debtor, but third-party receivers may also be appointed in lieu of or in addition to the existing management of the company. A receiver is subject to court supervision and may be dismissed by the court, or may resign from its position after obtaining permission from the court. The court must consult with the creditors’ committee when appointing or dismissing a receiver.

Pre-Petition Rights and Remedies

Outside the context of insolvency, secured creditors may generally enforce their rights on collateral, either by applying for a court auction or otherwise, as the case may be. Unsecured creditors may seek to preserve the assets of the debtor by applying for pre-judgment attachments, on condition that the applying creditor posts a bond in the amount and form ordered by the court.

Stay of Enforcement Actions

When a petition for commencement of a rehabilitation proceeding is filed, the court may, at the request of an interested person or by its own motion, issue a comprehensive stay order for the suspension of enforcement actions against the debtor, including auction proceedings, litigation seeking payment from the debtor, and procedures with an administrative agency, as well as any disposition on default in accordance with the National Tax Collection Act or the Local Tax Collection Act. The stay remains in place when a rehabilitation proceeding is commenced, until a rehabilitation plan is confirmed, in which case the enforcement actions will be terminated unless otherwise provided for in the plan.

Stakeholders’ Influence in Commencement of Rehabilitation Proceedings

A secured creditor, unsecured creditor or shareholder (“stakeholders”) may submit procedural opinions to the court to disrupt or block the commencement of a rehabilitation proceeding. Stakeholders may also contest the court’s decision to commence a rehabilitation proceeding for the debtor is such decision is issued. However, the court usually commences a rehabilitation proceeding if statutory requirements are met, and it is rare, if ever, that a stakeholder’s contest to the court’s commencement decision would succeed.

Major secured and unsecured creditors may be invited to participate in a creditors’ committee composed of major creditors after a petition for rehabilitation is filed. The committee shall be composed of not more than ten persons. Minority creditors may also be invited to participate in the committee when deemed necessary.

Secured and unsecured creditors are not allowed to enforce their rights outside of a rehabilitation proceeding.

Although it is possible for existing equity-owners to receive or retain ownership during and after a rehabilitation plan is confirmed, in many cases, equity owners’ rights are at the least diluted as a result of a debt–equity swap or issuance of new shares as provided in the rehabilitation plan, or equity owners’ rights are sometimes cancelled altogether to ensure that the debtor’s paid-in capital is of an appropriate size for it to be attractive to the new investor or purchaser of business.

Trading of Claims

Claims against the debtor company can be traded in accordance with the Civil Act. If a claim is assigned after the table of creditors has been recorded, but before plan confirmation, the parties may request the court to change the creditor in the table of creditors. However, if assignment takes place after plan confirmation, serving a notice to the debtor advising of the assignment as prescribed in the Civil Act is necessary.

Set-Off Rights

When a creditor has obligations against the debtor at the commencement of a rehabilitation proceeding, and such obligations can be offset against the creditor’s claim prior to the expiry of the proof-of-claims filing period, the relevant creditor may offset those claims without resorting to the rehabilitation proceeding by giving an offset notice to the receiver. Offset of claims is prohibited when the liability of the creditor arose after commencement, or the liability was obtained with the knowledge that a petition for commencement of a rehabilitation or a bankruptcy proceeding had been filed.

Liquidation Process Under the DRBA

In South Korea, when a debtor is insolvent and deemed difficult to rehabilitate, the court, upon petition, declares the debtor bankrupt and a court-administered liquidation proceeding, which is more often referred to as a “bankruptcy proceeding” in South Korea, will be commenced in accordance with the DRBA.

Liquidation Process Under the Commercial Act

In contrast, the liquidation process under the Civil Act or the Commercial Act provides a legal framework for a voluntary dissolution of solvent companies. The liquidation process under the Commercial Act does not require the company to be insolvent; in fact, if, during a liquidation, the company is found to be insolvent, the liquidator must file for bankruptcy. The same applies in the case of a liquidation under the Civil Act.

A bankruptcy proceeding usually involves the following processes.

Petition for Bankruptcy

Any creditor or debtor can file the petition for commencement of a bankruptcy proceeding. In a rehabilitation proceeding, if a cause for bankruptcy is found before plan confirmation, the court may convert the proceeding to bankruptcy. If the cause for bankruptcy arises after plan confirmation, the court must convert the proceeding to bankruptcy.

A creditor may file a petition for commencement of a bankruptcy proceeding, regardless of priority or claim amount.

The Financial Services Commission of Korea may file a petition for the bankruptcy of a financial institution, credit union, or a mutual savings bank.

Declaration of Bankruptcy

A bankruptcy petition may be filed on the basis of insolvency or excess debt. Upon a declaration of bankruptcy, the court must appoint a bankruptcy trustee, set a deadline for filing proofs of claims and designate a date for the first creditors’ meeting and for the investigation of claims.

When a debtor is declared bankrupt, all assets of the debtor (that are generally eligible for attachment) become part of the bankruptcy estate, regardless of whether the assets are located in South Korea or abroad. All managerial and dispositive rights to such assets are transferred exclusively to the bankruptcy trustee.

Bankruptcy Claims

Bankruptcy claims are repaid in proportion to their amount from the whole of the bankrupt estate’s assets in the bankruptcy proceeding. In principle, bankruptcy claims arise from grounds that were in existence before the filing of the petition for bankruptcy.

Estate claims have priority over bankruptcy claims and are repaid as they become due from the bankrupt estate. See also 2.2 Priority Claims in Restructuring and Insolvency Proceedings.

First Creditors’ Meeting

The court designates the date for the first creditors’ meeting at the same time that it declares the debtor bankrupt. The designated date of the meeting must be within four months from the date of declaration for bankruptcy. During the first creditors’ meeting, the creditors may decide whether to continue/discontinue the business and how valuable items should be stored.

Liquidation and Distribution

In principle, all of the debtor’s assets will be liquidated and then distributed to the creditors, and it is the bankruptcy trustee’s role to take charge of this liquidation process.

Organisation of Creditors or Committees

In some cases, if the court deems appropriate, the court will form a creditors’ committee in a similar fashion to a rehabilitation proceeding. See 2. Creditors for further details.

Treatment of Bilateral Executory Contracts

The bankruptcy trustee decides whether to assume or reject bilateral executory contracts in a bankruptcy proceeding. In order to assume a pre-existing executory contract, the trustee must obtain the court’s prior approval.

After a final distribution has taken place, the court orders a creditors’ meeting to be held for presenting the accounting report to creditors, and the court will then issue a final order to close the bankruptcy proceeding. The duty of the bankruptcy trustee ends when the final order is issued.

Secured and Unsecured Creditors’ Rights and Status in Bankruptcy Proceedings

When a debtor is declared bankrupt, all assets of the debtor (that are generally eligible for attachment) become part of the bankruptcy estate, regardless of whether the assets are located in South Korea or abroad. Unlike in a rehabilitation proceeding, in a bankruptcy proceeding, the secured creditor may foreclose outside bankruptcy without resorting to bankruptcy procedures. However, an unsecured creditor may only receive distribution from the bankruptcy estate in proportion to the amount of its claim when there are proceeds left for distribution after estate claims and secured claims are satisfied.

Pre-Insolvency Rights and Remedies

Pre-judgment attachments are available outside the context of insolvency, on condition that the applying creditor posts a bond in the amount and form ordered by the court. When any bankruptcy creditor has a liability towards the debtor at the time that the debtor is declared bankrupt, that liability may be offset without resorting to bankruptcy procedures. The offset shall be limited under similar conditions as in rehabilitation proceedings, but without a time limit.

South Korea has adopted the UNCITRAL Model Law on Cross-Border Insolvency (Model Law) as part of the DRBA. This is in line with the abolishment of territorialism and the adoption of modified universalism in the DRBA.

Practice Guidelines published by the Seoul Bankruptcy Court provide additional directions regarding how cross-border insolvency cases should be administered.

South Korean legislation does not provide for clear criteria used to determine which country has jurisdiction to open a restructuring or insolvency procedure and the DRBA does not distinguish between main proceedings and ancillary proceedings.

That said, the DRBA provides that the Seoul Bankruptcy Court shall have exclusive jurisdiction for recognition and assistance of foreign insolvency proceedings.

Neither the DRBA nor the Act on Private International Law provides for rules, standards or guidelines that determine which jurisdiction’s laws will govern or are paramount.

The South Korean courts, however, have confirmed through case precedents that the universal principle of lex fori concursus shall apply. Therefore, as a general rule, the law of the jurisdiction where the relevant insolvency proceeding was commenced shall apply, for procedural matters as well as for substantive matters that are “typical effects of an insolvency”. For all other matters, the governing law, as provided by agreement of the parties or by applying the conflicts of laws’ provisions, shall apply.

As for the determination of the governing law or a ruling under specific conflicting circumstances, however, the South Korean courts have yet to accumulate a sufficient number of case precedents that would amount to established rules, guidelines or practices in relation to this matter.

As mentioned earlier, South Korea has adopted the UNCITRAL Model Law on Cross-Border Insolvency (Model Law) as part of the DRBA. Accordingly, South Korean courts have recognised and assisted foreign insolvency proceedings from the Netherlands, Hong Kong, the United States, Japan, the United Kingdom, Philippines and Australia.

South Korea has yet to adopt the UNCITRAL Model Law on Recognition and Enforcement of Insolvency-Related Judgments. However, in a case that pre-dates the DRBA and adoption of the UNCITRAL Model Law on Cross-Border Insolvency, the South Korean court had recognised a foreign bankruptcy court’s decision to appoint a trustee in that foreign bankruptcy proceeding on grounds that such a decision met the requirements of Article 217 of the Civil Procedure Act of Korea (CPA). In a later case after the enactment of the DRBA, recognition of a foreign court’s discharge order became an issue. In that case, the court held that, even if the foreign representative may seek recognition of a foreign insolvency proceeding and also ask the court for assistance, a foreign court’s discharge order must meet the requirements of Article 217 of the CPA in order to be recognised. However, the court denied recognition of the discharge order based on public policy (Korean Supreme Court Decision 2009Ma1600 rendered on 25 March 2010).

The Seoul Bankruptcy Court signed memorandums of understanding (MOU) related to the support for foreign bankruptcy procedures, with the US Bankruptcy Court for the Southern District of New York and the Supreme Court of Singapore. Also, as a member of the Judicial Insolvency Network (JIN), the Seoul Bankruptcy Court has adopted the JIN Guidelines, as well as the Modalities of Court-to-Court Communications, which provide a framework for parties in cross-border restructuring and insolvency to customise protocols to facilitate court-to-court communication and co-operation in cross-border cases.

The DRBA explicitly provides that foreigners and foreign corporations shall have the same status as that of the people of South Korea or corporations of South Korea. Therefore, foreign creditors are not dealt with in a different way in South Korean proceedings at all; nevertheless, since all proceedings are conducted in Korean there may inevitably be some practical difficulties. To overcome such practical obstacles, the court has exerted efforts to facilitate foreigners’ participation in the proceedings, by providing English instructions and notices to foreign creditors, encouraging the debtor to disclose information to its foreign creditors in English and, for some of the largest cases involving numerous foreign creditors, posting updates on the website in English.

There is no specific obligation imposed on the company’s directors to apply for the commencement of a rehabilitation proceeding, even if the company is financially distressed or nearly insolvent; however, the director/liquidator must file a petition for bankruptcy immediately if he or she realises that the assets of the debtor cannot repay the full amounts of the debts during the liquidation process.

An examiner, which is usually an independent accounting firm, is appointed by the court in a rehabilitation proceeding to conduct an investigation on the debtor, also reviews whether the debtor’s executives and controlling shareholders are responsible for the management of the debtor company.

However, once rehabilitation or bankruptcy is commenced, the directors’ duties are suspended, and therefore the directors are generally released from their duties post-commencement.

When a director or other members of the management are found liable for causing or aggravating the financial failures of the debtor, they may become subject to damages claims, as provided in the Commercial Act or the Civil Act.

Refer to 7.2 Personal Liability of Directors.

Aside from the damages claim, a director may be penalised in other ways, such as losing their position or losing their rights to a severance payment, subordinating the directors’ claims against the debtor. If a director’s or other manager’s acts amount to a crime, such as embezzlement or a breach of trust, they may also face criminal liabilities.

Historical Transactions

According to the DRBA, the receiver may avoid acts performed by the debtor:

• in the knowledge that such an act is detrimental to its creditors;
• under circumstances where the debtor was already in a critical situation; or
• without any consideration.

Look-Back Period

The look-back period may differ, depending on the basis for avoidance, as well as the opposing party to the act that is being avoided.

• For an act performed by the debtor in the knowledge that such an act is detrimental to creditors, the look-back period is ten years.
• For an act performed under critical situations based on an obligation of the debtor, the look-back period is the point in time that payment is suspended, or a petition is filed for rehabilitation or for bankruptcy.
• For an act performed under critical situations without any obligation of the debtor – after the date on which the debtor suspends his or her payment, or files a petition for commencement of an insolvency proceeding, or within 60 days before the petition is filed.
• For an act performed by the debtor without any consideration – after the date on which the debtor suspends his or her payment, or files a petition for commencement of an insolvency proceeding, or within six months before the petition is filed.

Only the receiver or the debtor can exercise avoidance powers. Creditors and other interested parties may only apply to the court for an order compelling the receiver to exercise the avoidance powers against the relevant party.