COURT-SUPERVISED REORGANIZATION:
Federal Law No. 11,101 of February 9th, 2005 regulates the Court-Supervised Reorganization, Out-of-Court Reorganization and Bankruptcy of the businessperson and the company in Brazil (“LRF”). The purpose of the Law is to enable the debtor’s economic and financial crisis to be overcome, allowing the maintenance of the production source, of the employees’ jobs and of the creditors’ interests, thus preserving the company, its corporate purpose and fostering economic activity.
However, care must be taken not to trivialize the Court-Supervised Reorganization institute, which was not created to reward the entrepreneurs’ inefficiency or their irregular performance. While the LRF aims, on the one hand, to overcome the economic and financial crisis and to preserve the company, it also protects, on the other hand, the creditors’ rights and guarantees, by preserving them, including considering the possibility of conversion of the Court-Supervised Reorganization into Bankruptcy.
The LRF does not apply to public companies, semi-public companies and companies subject to extrajudicial liquidation (financial institutions, banks, insurance companies, capitalization companies), nor to companies that have already been granted the benefit less than five years before and/or are managed by businesspersons convicted of bankruptcy crime. In addition, for the Court-Supervised Reorganization request to be granted, the company must prove having regularly exercised its activities for more than two years.
The court with jurisdiction to assess the reorganization request is the one where the debtor’s main establishment or the company’s subsidiary (in case of businesses based out of Brazil) is located. For the purposes of the LRF, the main establishment is understood to be the one with the highest turnover, being either the headquarters of the debtor company or any of its subsidiaries.
Pursuant to art. 51 of the LRF, the initial petition requesting the Court-Supervised Reorganization to be processed shall contain:
I – the explanation of concrete causes of the debtor’s equity situation and the reasons for the economic and financial crisis.
II – financial statements of the company referring to the last three (3) fiscal years that are especially prepared to accompany the petition, drawn up in strict compliance with applicable corporate legislation and compulsorily including:
a) The balance sheets;
b) Statement of retained earnings;
c) Statement of income since the last fiscal year;
d) Cash flow management and projection report;
e) description of the companies of the corporate group, de facto or de jure.
III – the full nominal list of creditors, whether or not subject to court-supervised reorganization, including those by obligation to do or obligation to give, including their physical and electronic address, the nature, as established in arts. 83 and 84 of this Law, and present the updated value of the credit, specifying its origin, and the debt maturity profile.
IV – the full list of employees, including their duties, salaries, indemnities and other instalments to which they are entitled, with the corresponding month of accrual, and the breakdown of amounts pending payment.
V – debtor’s certificate of regularity in the Public Register of Companies, the updated organizational documents, and the minutes of appointment of the current directors.
VI – the list of the private assets of the controlling shareholders and the debtor’s directors.
VII – the updated statements of the debtor’s bank accounts and any financial investments of any kind, including investment funds or stock exchanges, issued by the respective financial institutions.
VIII – certificates of protest offices located in the judicial district of the debtor’s domicile or headquarters and in those where it has its subsidiaries.
IX – the list, subscribed by the debtor, of all lawsuits and arbitration proceedings in which the debtor is a party, including those of a labour nature, with the estimate of the respective amounts in controversy.
Upon the amendments introduced by Federal Law No. 14,112 of December 24th, 2020 (“Law No. 14,112/2020”), the LRF now allows, in art. 51-A, the possibility of a “previous verification”, as an alternative to verify the debtor’s activity and the completeness of the documentation submitted together with the initial reorganization request petition. The mechanism already existed within the scope of case law, where precedents exceptionally admitted that expert investigations were conducted prior to the granting of the reorganization request, with the purpose of preventing the fraudulent use of the Court-Supervised Reorganization.
Once the requirements are met and the presentation of the required documentation is regular, a decision granting the processing of the Court-Supervised Reorganization is granted, determining: (i) appointment of the judicial administrator; (ii) exemption to present tax clearance certificates for private hirings; (iii) freezing of all claims or enforcements against the debtor for a period of 180 calendar days, as determined by LRF art. 6, paragraph 4 (“stay period”); (iv) the debtor’s obligation to submit monthly reports during the course of the Court-Supervised Reorganization, under penalty of dismissal of its directors; (v) that the Public Prosecutor’s Office be summonsed and that the Tax Authorities jurisdictions in which the debtor has establishments be notified by mail, so that they become aware of the Court-Supervised Reorganization and may report credits held against the debtor; (vi) issuance of notice summarizing the reorganization request, the decision that grants the processing thereof, and the nominal creditors’ list, including each credit value updated to the date of the request filing and relevant credit classification, to be published with the official instrumentality.
Some types of lawsuits are not affected by the stay period, especially labour and labour accident-related lawsuits in which illiquid amounts are claimed, tax foreclosures (the jurisdiction of the Court-Supervised Reorganization judge to determine replacement of constriction acts falling upon capital goods essential to the maintenance of the business activity until the end of the Court-Supervised Reorganization, as provided in LRF paragraph 7-B of art. 6, being admitted however), as well as those concerning credits not subject to the reorganization procedure, which are those arising from: (i) ACC – Exchange Contract Anticipations; (ii) the fiduciary ownership of immovable or movable property, including fiduciary assignment of receivables and/or negotiable instruments; (iii) leasing agreements (“arrendamento mercantil”); (iv) real estate property or real estate sale promise, the relevant agreements of which contain irrevocability or irreversibility provisions; and (v) the property of assets which are the object of conditional sales agreements. In such cases, capital assets essential to the debtor’s business activity cannot be sold or removed from the debtor’s establishment while the suspension period remains in force.
In addition, with the possibility of rural producers entering into Court-Supervised Reorganization, as introduced by Law No. 14,112/2020, official rural credit operations renegotiated between the debtor and the financial institution prior to the request of the Court-Supervised Reorganization shall not be subject to the suspension provided for by the LRF either. The same applies to credits used for the acquisition of rural property engaged in the three years prior to Court-Supervised Reorganization request, and their respective guarantees.
The purpose of the stay period is to allow the debtor, after being granted the processing of the Court-Supervised Reorganization request, to be able to reorganize its activities and to negotiate with creditors a plan that allows the company to recover, trying to accommodate everyone’s interests without the risk of an attachment, for example (“The Court-Supervised Reorganisation Plan”). According to the LRF, such 180-day period may be extended for the same period, only once, on an exceptional basis, provided that the debtor has not contributed to overcoming the time lapse. In practice, however, some Courts have accepted the extension of the stay period for a period exceeding that provided for in the LRF.
Noteworthy that LRF paragraph 12 of art. 6 allows the effects of the Court-Supervised Reorganization processing grant to be anticipated, including the freezing of lawsuits, when the requirements set forth in art. 300 of the Civil Procedure Code (“CPC”) are met; namely, the likelihood of the legal right and the risk of damage or risk to the useful result of the process. Upon fulfilment of such requirements, the precautionary measure is granted in whole or in part, and all lawsuits filed against the debtor – or only those that represent a risk to the outcome of the process – may be frozen. The debtor, in turn, must apply for the Court-Supervised Reorganization within 30 days, pursuant to CPC art. 303, paragraph 1 with art. 308.
Under the terms of LRF art. 20-B, the precautionary urgency relief may also be granted to companies undergoing debt negotiations with their creditors, prior to the filing of the Court-Supervised Reorganization.
Once the notice summarising the debtor’s request and the decision granting the processing of the Court-Supervised Reorganization, as well as the nominal list of creditors presented by the debtor is published, creditors have 15 days to present the judicial administrator with their applications to or disagreements with the listed credits, either regarding the credit’s value or classification or even requesting the exclusion of a credit not subject to the reorganization procedure. After analysis, the judicial administrator shall, within 45 days, publish the second notice listing the credits and values he/she deems due. Within 10 days, any creditor (including questioning third-party credits), the debtor or its shareholders, or the Public Prosecutor’s Office may file a Credit Objection before the reorganization Court; such objection to be processed separately, but in connection with (“por dependência”) the Court-Supervised Reorganization.
The Credit Objection cannot be used as a substitute for the creditor who did not apply for/diverge with their credit within the deadline for the first published notice. Such creditor may avail themselves, however, of the Late Application, with the limitations imposed by the LRF due to the non-compliance with the deadline. Late creditors, except for labour creditors, shall not have the right to vote in the resolutions of the General Creditors’ Meeting. In bankruptcy, these creditors lose not only the cash that would fit them that may have already been prorated, but also the possibility to demand the accessories between the deadline and the date of the application for their credits. Once the Credit Objections and any Late Qualifications are decided upon, the Judge approves the General List of Creditors.
The LRF also provides that all credits constituted on or before the filing of the request, even if not overdue, are subject to the Court-Supervised Reorganization. It also provides those gratuitous obligations, such as donation, and even a surety granted without direct economic interest of the company, a pledge, assignment, free lease, among others, cannot be demanded from the debtor, including in bankruptcy.
The creditors of the debtor under Court-Supervised Reorganization maintain their rights and privileges against the co-obligors, pledgors and recourse debtors. Save as otherwise provided in the Court-Supervised Reorganization Plan, obligations undertaken prior to Court-Supervised Reorganization shall comply with the conditions originally engaged or defined in law, including with regard to relevant charges.
Credits derived from obligations undertaken by the debtor during the Court-Supervised Reorganization, including those involving expenses with goods’ or services’ suppliers, and loan agreements, are deemed post-petition credits should bankruptcy be declared.
Once the Court-Supervised Reorganization is granted, the company must present its Court-Supervised Reorganization Plan within sixty (60) days, under penalty of bankruptcy being declared. The Plan cannot provide for early payment of debts, nor treat differently same-class creditors and/or treat unfavourably creditors that are not subject to such Plan. There is, however, the possibility for holders of post-petition credits to adhere to the payment terms and conditions set forth in the Plan. According to LRF art. 50, the following, among other events, constitute means of reorganization:
I – concession of special terms and conditions for the payment of the matured or maturing obligations.
II – spin-off, incorporation, merger or transformation of a company, incorporation of a wholly-owned subsidiary, or assignment of membership interests or shares, subject to the rights of the members or shareholders, pursuant to applicable law.
III – change of controlling interest.
IV – total or partial replacement of the debtor’s directors or change of their administrative bodies.
V – granting creditors the right to separate election of directors and veto power with respect to the matters specified in the plan.
VI – share capital increase.
VII – Sale or lease of establishment, including to a company organized by the employees themselves.
VIII – reduction of salary, compensation of hours and reduction of working hours, by collective labour agreement or collective bargaining agreement.
IX – giving in payment or novation of debts of the liability, with or without constitution of own- or third-party guarantee.
X – constitution of a creditors company.
XI – partial sale of assets.
XII – equalization of financial charges regarding debts of any kind, having as the start date the date of distribution of the request for Court-Supervised Reorganization, which is also applicable to the rural credit agreements, without prejudice to the provisions set forth in specific legislation.
XIII – company usufruct.
XIV – shared management.
XV – issuance of securities.
XVI – organization of a special purpose company to adjudicate the assets of debtor in payment of the credits.
XVII – conversion of debt into share capital.
XVIII – full sale of the debtor, provided that creditors who are not submitted or who do not adhere to conditions at least equivalent to those they would have in bankruptcy are guaranteed, in which case it will be considered, for all purposes, as an isolated production unit.
Law No. 14,112/2020 introduced the DIP Financing into the Court-Supervised Reorganization system, allowing the Judge to authorize the execution of financing contracts with the debtor, guaranteed by encumbrance or fiduciary alienation of the debtor’s or third parties’ assets and rights belonging to non-current assets, to finance activities, pay restructuring expenses or preserve the value of assets.
To encourage the granting of DIP Financings, the LRF provides that, in the event of conversion of the Court-Supervised Reorganization into Bankruptcy, the DIP Financing credits shall be deemed post-petition credits and shall be paid with preference within the order of art. 84.
Labour credits or those arising from occupational accidents already overdue by the date of the Court-Supervised Reorganization request filing, shall be paid within 1 year from the date of the request. Credits of a strictly salary nature, having fallen due within the 3 months prior to the Court-Supervised Reorganization application, up to 5 minimum wages per worker, shall be paid within 30 days of the presentation of the Plan, in view of the maintenance nature (“natureza alimentar”) of such allowance. The Plan may not provide otherwise with respect to such credits.
Once the Plan is received, a notice to creditors shall be published. Should any creditor object to the Plan presented, a General Creditors’ Meeting shall be designated for resolution, to be convened within 150 days of the decision granting the processing of the Court-Supervised Reorganization.
The meeting shall be chaired by the judicial administrator and installed, on first call, with the presence of creditors holding more than half of the credits of each class, calculated by their amount. On second call, the meeting may be installed with any number. For voting purposes exclusively, credits in foreign currency shall be converted into Brazilian currency at the exchange rate prevailing on the date prior to the date of the meeting.
At the meeting, the 4 creditor classes – labour (Class I), collateral holders (Class II), unsecured (Class III) and very-small companies (ME) or small businesses (EPP) (Class IV) – meet to resolve on and approve or reject the Court-Supervised Reorganization Plan submitted by the debtor. Other matters of common interest to creditors may also be resolved.
In the resolution on the Court-Supervised Reorganization Plan, all creditor classes shall approve the debtor’s proposal. However, in the collateral (Class II) and unsecured (Class III) classes, the Plan should have the cumulative approval of creditors representing more than half of the total value of present credits and the simple majority of present creditors. Regarding labour (Class I) and very-small companies (ME) or small companies (EPP) (Class IV) creditors, approval by the simple majority of creditors present shall suffice, regardless of the credit amount.
If the Plan is not approved as indicated in the previous paragraph, the reorganization court Judge may grant the Court-Supervised Reorganization provided that it has cumulatively obtained: (i) the favourable vote of creditors representing more than half of the value of all credits; (ii) the approval by three classes of creditors, or, if there are only three classes with voting creditors, the approval of at least one of them; and (iii) the favourable vote, in the class that has rejected the Plan, of more than one third of the creditors. This is the so-called “cram-down” provision, imported from US law, and meaning, in a free translation to Portuguese, “to push down one’s throat”.
The prevailing stand at the Superior Court of Justice, however, is that the Court Supervised Reorganization plan may be cram-down approved, even if all the requirements for approval of the Plan contained in the LRF are not met, under the grounds that the maintenance of the still recoverable company must override the interests of one or a few divergent creditors.
The Plan may be changed at the General Creditors’ Meeting, provided that the debtor expressly agrees with such changes. The decisions of the meeting are sovereign. Courts only hold prerogative to exercise legality control over the provisions contained in the proposal.
Once the Plan is approved, the reorganization court Judge grants the Court-Supervised Reorganization; the debtor remaining in such condition for a period of 2 years. If the debtor fails to comply with any of the obligations under the Plan that mature within such 2-year period, bankrupt is declared.
If the Court-Supervised Reorganization Plan is rejected, LRF art. 56, paragraph 4 allows a vote to open a deadline for creditors themselves to present an alternative Court-Supervised Reorganization Plan. It should be noted that, in this case, there is provision for exemption of personal guarantees provided by individuals in relation to credits to be novated or those who vote in favour of the Court-Supervised Reorganization Plan presented by creditors; voting exceptions not being allowed. If the creditors choose not to present an alternative Plan, the Judge shall convert the judicial recovery into bankruptcy.
Case law precedents have taken the stand that, if there is a grace period for the payment of the first instalment provided for in the plan after the Court-Supervised Reorganization 2-year period or provision for derisory payments within such two initial years, the inspection period that the LRF assigns to the reorganization court shall start after the end of the grace period (which may even be considered while derisory payments are underway).
The decision granting the Court-Supervised Reorganization is a judicially enforceable instrument. Creditors who have their obligations overdue after the above 2-year period, in case of default, may enforce the debt novated by the Plan or file for bankruptcy of the debtor.
BANKRUPTCY:
If bankruptcy is declared, creditors have their rights and guarantees restored to the original conditions, less any amounts already settled under the Court-Supervised Reorganization.
Declaration of bankruptcy implies the early maturity of the debtor’s and of unlimited liability shareholders’ debts.
The bankruptcy court is universal; that is, the bankruptcy court is indivisible and has jurisdiction over all claims concerning the bankrupt’s assets and interests, except for labour and tax lawsuits, which shall be run before the relevant specialized courts. That notwithstanding, once final decisions handed down by such specialized courts can no longer be appealed against, the relevant credits are applied for in the bankruptcy proceeding.
Bankruptcy can also be declared if the company under Court-Supervised Reorganization fails to comply with an obligation that is not subject to such procedure. The debtor may also have its bankruptcy requested in the event of default – at maturity, without a relevant legal reason – of payment of any net obligation or protested note exceeding the equivalent of 40 minimum wages at the date of the bankruptcy request. The request may also be made if, by enforcement action, the debtor does not pay, deposit, or appoint to attachment, within the legal term, sufficient assets to honour the obligation.
Upon declaration of bankruptcy, the debtor businessperson is removed from the management of the business, and replaced by a judicial administrator appointed by the bankruptcy court Judge. The judicial administrator shall manage the company’s resources and the bankruptcy estate composed of the collection of the bankrupt’s assets (goods and credits) and liabilities (debts).
The judicial administrator shall verify the bankrupt’s debts and assets, and proceed with their collection for subsequent settlement and payment of creditors. There will be 4 payment steps, which must obey the following order:
1. Labor credits;
2. Refund claims credits;
3. Post-petition credits, as provided for in LRF art. 84; and
4. Pre-petition credits, subject to the order provided for in LRF art. 83.
Once the assets are converted into funds and the proceeds thereof are distributed among the creditors, the judicial administrator shall render its accounts to the bankruptcy court Judge (if the accounts are rejected, the judicial administrator may have its assets frozen and/or seized). Once the accounts are judged, the judicial administrator shall present a final report so that the bankruptcy court Judge may render a decision – subject to appeal – terminating the bankruptcy procedure.
As determined by LRF art. 158, item VI, the closure of the bankruptcy procedure extinguishes the bankrupt’s obligations. The extinction of such obligations, in turn, allows the bankrupt to resume its activities, provided that it has not perpetrated any bankruptcy crime.
OUT-OF-COURT REORGANIZATION:
The Out-of-Court Reorganization is, in practice, nothing more than a debt restructuring transaction; an extrajudicial agreement between debtor and certain classes of creditors, subject to Court approval (“Out-of-Court Reorganization Plan”), provided that the same requirements for filing the Court-Supervised Reorganization are met.
Tax and post-petition credits are not subject to Out-of-Court Reorganization. The subjection of labour and labour accident-related credits requires collective bargaining with the respective professional category union.
In order for the Out-of-Court Reorganization Plan to be submitted to court approval, it must be signed by creditors representing more than half of the credits of each type covered by the Plan. In this case, there will be mandatory submission to the Plan of other creditors of the same kind.
To determine such quorum, the credits held by the persons listed in LRF art. 43 shall not be considered, namely: the debtor’s partners, as well as affiliated, controlling, controlled companies or those that have a partner or shareholder with an interest greater than 10% (ten percent) of the debtor’s share capital or in which the debtor or any of its partners hold more than 10% (ten percent) of the share capital.
Post-petition creditors may not be included in the Plan to be presented for court approval; any provision implying their mandatory inclusion being invalid. However, as a credit is a right one may dispose of, any creditor may voluntarily adhere to the Plan. While credits not included in the Plan shall not be considered for purposes of calculation of the approval quorum, such credits cannot have their original conditions or values changed.
Creditors may not withdraw from the Plan after the approval application has been distributed in court, except with the express consent of the other signatories.
The request for approval of the Out-of-Court Reorganization Plan does not imply the suspension of rights, claims or enforcements, nor does it prevent creditors not subject to it from filing a bankruptcy request, either due to unjustified default, performance of bankruptcy acts or frustrated enforcement. Therefore, there is no interference of the Out-of-Court Reorganization on creditors not subject to the Plan (whether those legally excluded or those not included by the debtor), except with respect to those dissenters that correspond to the same kind of three-fifths that signed the agreement.
According to LRF art. 163, paragraph 8, as introduced by Law No. 14,112/20, the stay period also applies to the Out-of-Court Reorganization, as from the relevant request, exclusively in relation to those types of credit covered thereby, and provided that the quorum required by paragraph 7 of the same provision is verified. Before the amendment, the measure was already recognized by case law and jurisprudence, which stood for the suspension of claims and enforcements of creditors subject to the Out-of-Court Reorganization.
Once the request for approval of the Out-of-Court Reorganization Plan has been distributed and received, the reorganization court Judge shall order the publication of an electronic notice, calling upon the creditors to present, within 30 days, any potential objections to the Plan. The debtor must prove having sent each of the creditors subject to the Plan that are domiciled in Brazil, a letter describing the conditions of the Plan and informing on the deadline for any objection.
The only matters that may be objected are those provided for in LRF art. 164, paragraph 3, namely: (i) non-fulfilment of the minimum percentage of three fifths of the credits; (ii) performance of bankruptcy acts provided for in LRF art. 94, III, or performance of fraud against creditors; or (iii) non-compliance with any of the LRF requirements or other legal requirements.
The Out-of-Court Reorganization Plan may remain in the extrajudicial sphere only, without being taken to Court. However, if the debtor opts for the judicial proceeding, the judgment approving the Plan shall constitute a judicially enforceable instrument. The Plan will take effect after its approval, even if an appeal is brought against it. It should be noted that, subject to confirmation, the provisions of the Plan may be complied with even before court approval is obtained. If this does not occur, creditors shall have their credits restored to the original conditions, less any amounts already settled before the court decision is rendered.
If the Plan is not approved, the proceeding is terminated without judgement on the merits. If the legal requirements are met, the debtor may submit a new Out-of-Court Reorganization Plan.
The judicial measure against the decision that approves or rejects the Plan is the court appeal.
Author: Leandro Augusto Ramozzi Chiarottino and Bruna Queiroz Riscala, Partners at Chiarottino e Nicoletti Advogados
Chiarottino e Nicoletti Advogados
Av. Juscelino Kubtischek, 1700 – Vila Olímpia
04543-000 São Paulo – SP
Tel (11) 2163 8989
[email protected]
www.chiarottino.com.br
Full service office specializing in business law