January 2006
An Outline of the Proposed New Insolvency Regime
in the PRC
First Memorandum in the Series
1. Introduction
A country’s insolvency regime is a key indicator of its views
on commerce, finance and trade. It shapes the investment
climate and plays a crucial role in determining and
maintaining investor confidence. It is also reflective of the
government's social and strategic aims.
The People’s Republic of China (“PRC” or “China”) is
proposing to introduce a new insolvency regime, which is set
out in the new PRC Draft Enterprise Bankruptcy Law (the
“Draft Bankruptcy Law”).1 The potential value of these
proposed laws is considerable -- as well as creating a more
effective framework for the conduct of insolvency cases, this
proposed new law will play a major role in the acceleration of
China’s transition to a modern, market-based economy.
In this Memorandum, we discuss China’s existing bankruptcy
regime and the changes proposed by the Draft Bankruptcy
Law. In the second Memorandum in this series, “Enter The
Dragon: Potential Impact of the Proposed New
Insolvency Regime in the PRC”, we go on to explore the
potential effect of the Draft Bankruptcy Law in its present
form.
Draft Bankruptcy Law – effective this year?
The Draft Bankruptcy Law has been several years in the
making and, as at the date of this Memorandum, remains a
work in progress. However, China’s highest legislature, the
National People’s Congress (“NPC”) is now officially
deliberating the new law and it is possible that it may come
into effect (albeit with some modifications) sometime during
2006.
2. Existing PRC Bankruptcy Laws
refers to the winding-up and ultimate dissolution of an
insolvent entity. Historically, “liquidations” have been viewed
as an administrative rather than a legal exercise.
Throughout this Memorandum, all references to bankruptcy,
liquidation and insolvency are references to the formal
winding-up of an insolvent entity.
z
Overview
China does not currently have a unified bankruptcy law and
the existing bankruptcy framework does not sufficiently deal
with all of the complex issues that can arise when dealing
with an insolvent enterprise.
There is a bewildering (and sometimes contradictory) array of
regulations, laws and policies that apply at national, provincial
or municipal level, some of which may apply to certain types
of debtors but not others. The procedure for initiating and
administering a bankruptcy is uncertain, a difficulty that is
compounded by the lack of judicial expertise in this area.
More fundamentally, government authorities may exercise
influence that can make the outcome of bankruptcy
proceedings uncertain and, in practice, creditors’ claims often
play second fiddle to the claims of the workforce or other
“local” creditors. Moreover, as the focus of the Chinese
economy becomes increasingly international, the lack of
adequate legislation on cross-border insolvency issues may
cause tensions in the global economy.
z
Distressed State-Owned Enterprises
In 1986, the Executive Committee of the NPC promulgated
the PRC Enterprise Bankruptcy Law (for Trial
Implementation) (the “1986 Bankruptcy Law”)2 to regulate
the bankruptcy of State-Owned Enterprises (“SOEs”).
In China, “liquidation” means the solvent dissolution of an
entity, whereas “bankruptcy” (or “enterprise bankruptcy”)
SOEs represent a significant part of China’s economy and
their failure would impact adversely on a large portion of the
working population. Consequently, and as a means of
fulfilling the social contract between the state and workers,
1
2
z
Terminology
The most recent draft of the Draft Bankruptcy Law available for circulation is the 9th draft
(prepared in October 2004). This has been translated by White & Case and a copy of this
translation is available to clients on request. All references to the Draft Bankruptcy Law
(including references to Articles and quotations) are to this White & Case translation.
The 1986 Bankruptcy Law was adopted on 2nd December 1986 by the 18th Session of the
Standing Committee of the 6th NPC. In accordance with Article 43, the 1986 Bankruptcy
Law came into effect on 1st November 1988, three months after the implementation of the
PRC State Industrial Enterprise Law.
1
the Chinese authorities have gone to great lengths to ensure
the continued operation of SOEs. Commercial viability has
not necessarily been the prime objective in dealing with SOEs
and their technical insolvency has been largely ignored
amidst concerns that any formal bankruptcy could have a
domino effect, triggering the bankruptcy of other SOEs and
creating social instability in the PRC.
The last decade has witnessed a seismic shift in the
approach of the Chinese authorities towards insolvency and
insolvent enterprises and, as discussed below, the insolvency
of Guangdong International Trust & Investment Corporation
(“GITIC”) clearly demonstrated the need for greater
cooperation in cross-border insolvency cases. It was in this
climate that the Chinese authorities started drafting the Draft
Bankruptcy Law as a new national bankruptcy law.
Interim legislation
As can be seen from its full name, the intention was always
that the 1986 Bankruptcy Law would only be a stopgap
solution to China’s insolvency legislation requirements. It
allowed the Chinese authorities to explore and investigate not
only what was required but also what was in China’s national
interest.
z
Other distressed enterprises
In 1991, the NPC amended Chapter 19 of the PRC Civil
Procedure Law (“Civil Procedure Law”) to address the
bankruptcy of an “enterprise with legal person status”,
excluding SOEs. The amendment of Chapter 19 of the Civil
Procedure Law was followed in 1992 by the Opinion of the
Supreme People’s Court on the Civil Procedure Law.
Essentially, this purports to have effect where the provisions
of the 1986 Bankruptcy Law do not apply and where the
provisions of the 1986 Bankruptcy Law are in conflict with the
Civil Procedure Law. However, the provisions are limited and
the extent to which the provisions of the 1986 Bankruptcy
Law apply to “enterprises with legal person status” is unclear.
To illustrate the maze of applicable legislation, bankruptcies
of commercial banks are subject to Chapter 7 (Take-over and
Termination) of the PRC Commercial Bank Law (2003) and
regulated by the China Banking Regulatory Commission.
Bankruptcies of insurance companies are subject to Chapter
3 (Insurance Companies) of the PRC Insurance Law and
regulated by the China Insurance Regulatory Commission.
The PRC Company Law (1994) (now (2006) version) and the
PRC Foreign-Invested Enterprise Liquidation Procedures
apply to certain other types of enterprises.
z
Recent experience
In the late 1980s and early 1990s, the perceived need to
maintain foreign investment led the Chinese authorities to
deal with non-PRC creditors on a bilateral basis and therefore
in insolvency situations those creditors recovered the
principal amounts outstanding on their claims. An example of
this approach was seen in 1998 when the People's Bank of
China (“PBOC”) closed down China Venturetech Investment
Corporation (one of China’s first venture-capital firms). The
PBOC assured foreign creditors that they would be repaid in
full.
z
GITIC: Signs of change
The approach of the Chinese authorities changed in October
1998 when the PRC Government initiated the high profile
bankruptcy of GITIC, an SOE. PBOC closed GITIC with a
public announcement that foreign creditors would have
priority in the distribution of assets. However, once the full
extent of GITIC’s liabilities was better understood (KPMG
report that the claims of unsecured creditors exceeded
RMB20 billion, equivalent to US$2.5 billion), the message
changed. It was decided that the 1986 Bankruptcy Law
should apply and all unsecured creditors should be treated
equally, regardless of whether they were foreign or domestic.
Many of GITIC’s creditors found that the PRC bankruptcy
framework failed to meet their needs adequately. Claims that
appeared to have sound legal basis (including claims arising
under derivative transactions and guarantees where GITIC
had not obtained approval from SAFE - the State
Administration of Foreign Exchange) were disallowed or
allowed only in part by the controlling “liquidation committee”.
z
Other ITICs
Other ITICs soon followed GITIC into trouble. Guangzhou
International Trust & Investment Corporation (“GZITIC”) was
the next largest, with liabilities exceeding US$1 billion owing
to more than 150 foreign creditors and a further US$1.71
billion in domestic liabilities owed to PRC banks and
creditors.
3. The new Draft Enterprise Bankruptcy Law
Initial drafting on the Draft Bankruptcy Law started in 1994
but it was only in June 2004 that the Standing Committee of
the NPC began officially deliberating the law. The most recent
draft available for circulation is the ninth draft (prepared in
October 20043). The Draft Bankruptcy Law remains a work in
progress; however, it is possible that it may come into effect
(albeit with some modifications) sometime during 2006.
Drawing on the legislation and experience of other
jurisdictions, the Draft Bankruptcy Law is a comprehensive
attempt to consolidate the old law and to extend its scope and
3
The 9th Draft (October 2004) of the Draft Enterprise Bankruptcy Law has been translated
by White & Case and a copy of this translation is available to our clients on request. All
references to this law (including references to Articles and direct quotations) are based
on this translation.
2
application. Article 1 states that it “is formulated to regulate
the enterprise bankruptcy proceedings, to settle the creditor
claims and the debts in a fair manner, to protect the
lawful rights and interests of the creditors and the
debtors, and to safeguard the order of the socialist market
economy” [emphasis added].
a Chinese partner and do not require large amounts of
registered capital to fund.
The Draft Bankruptcy Law consists of 150 Articles which
cover a broad spectrum of issues. These include the
commencement of bankruptcy, the appointment and role of
an administrator overseeing the various procedures, the role
of creditors' meetings and committees, the adjudication of
claims, cross-border insolvency, a restructuring procedure, a
composition procedure and directors' obligations and
liabilities.
Representative offices and branch offices: Representative
offices and branch offices are available to foreign investors in
China. However, they do not fall within the definition of
“enterprise with legal person status” and therefore will not be
subject to the provisions of the Draft Bankruptcy Law.
4. To which entities will the Draft Bankruptcy
Law apply?
The Draft Bankruptcy Law attempts to unify the separate
insolvency regimes that currently apply to different types of
enterprise. Article 2 provides that the Draft Bankruptcy Law
applies to any “enterprise with legal person status”, a term
defined in the General Principles of Civil Law of the PRC.4
SOEs: The State Council will prescribe what happens in
relation to the bankruptcy of SOEs.5 This transition is
considered vitally important in maintaining social stability.
State-owned commercial banks and insurance
companies: Whilst the scope of the Draft Bankruptcy Law is
wide enough to deal with state-owned commercial banks and
insurance companies, only time will tell if troubled companies
in these business sectors are eventually handled under
separate laws or procedures (as is the case in many other
jurisdictions).6
Foreign investment in China: A foreign investor in China is
not permitted to hold assets or operate a business directly.
Instead, it must use a foreign investment enterprise ("FIE").
The four types of FIE are a Sino-foreign equity joint venture, a
Sino-foreign cooperative joint venture, a wholly foreign-owned
enterprise (“WFOE”) and a foreign investment enterprise
limited by shares (otherwise known as investment or umbrella
companies). Of these FIEs, WFOEs have recently become
the investment vehicle of choice as they negate the need for
4
See Articles 36, 37 and 41 of the General Principles of Civil Law of the PRC adopted 12th
April 1986 by the 4th Session of the 6th NPC.
5
Article 148 provides that “Any special matter with respect to the implementation of
bankruptcy of state-owned enterprises within the period and scope prescribed by the
State Council prior to the implementation of this [Draft Bankruptcy] Law shall be handled
in accordance with the relevant provisions of the State Council.”
6
Article 149 provides that “The procedures for the implementation of bankruptcy for
financial institutions, including, among others, commercial banks and insurance
companies, shall be formulated by the State Council in accordance with the provisions of
this [Draft Bankruptcy] Law and other relevant laws”.
Each of these FIEs is “an enterprise with legal person status”
and therefore will be subject to the provisions of the Draft
Bankruptcy Law.
Partnerships and sole proprietorships: Article 147 states
that “the applicability of [the Draft Bankruptcy] Law to
partnerships and sole proprietorships shall be prescribed by
the relevant laws”.7
Individuals: The Draft Bankruptcy Law does not apply to
individuals.
Entities incorporated outside of China: The Draft
Bankruptcy Law is not intended to apply to any company
incorporated outside of the PRC, including companies
incorporated in the Hong Kong or Macau Special
Administrative Regions of the PRC. Nonetheless, the Draft
Bankruptcy Law has major extraterritorial implications, which
are discussed in more detail below and in our second
Memorandum in this series entitled “Enter The Dragon:
Potential Impact of the Proposed New Insolvency Regime
in the PRC”.
5. Cross-border issues
z
Current position
China does not currently have any legislation or regulations
governing cross-border insolvency8 and we are not aware of
any plans for China to adopt the United Nations Commission
on International Trade Law (“UNCITRAL”) Model Law on
Cross-Border Insolvency.9
In an “outbound” cross-border insolvency case, a
Chinese representative seeks recognition of the PRC
7
Article 147 states that “The applicability of this Law to partnerships and sole
proprietorships shall be prescribed by the relevant laws.”
8
Bankruptcy provisions for foreign-related enterprises were developed at a local level in
Guangdong Province and Shenzhen Special Economic Zone (SEZ) in 1986 but in 1993
those provisions were subsequently replaced by articles which do not involve crossborder insolvency.
9
The United Nations Commission on International Trade Law Model Law on Cross-Border
Insolvency (“UNCITRAL Model Law”) is designed to assist jurisdictions in developing a
modern, harmonized and fair framework to address the issues that arise in cross-border
insolvency. As at the date of this Memorandum, legislation based on the UNCITRAL
Model Law has been adopted in Eritrea, Japan (2000), Mexico (2000), Poland, Romania
(2003), South Africa (2000), within Serbia and Montenegro, Montenegro (2002), British
Virgin Islands (2005) and United States of America (2005). For further information, see
the UNCITRAL Website (http://www.uncitral.org) and specifically the Status List
maintained by the UNCITRAL Secretariat
(http://www.uncitral.org/uncitral/en/uncitral_texts/insolvency/1997Model_status.html).
3
insolvency process in a foreign jurisdiction, again perhaps
with the intention of gaining local cooperation in securing
assets in that jurisdiction and ultimately of obtaining
permission to take such assets, or the proceeds from the sale
of such assets, back to the PRC. The Hong Kong Courts
have already had to grapple with the consequences of a
Chinese enterprise with assets situated in Hong Kong going
into an insolvency proceeding in China. In CCIC Finance v
GITIC10 in 2001, the Hong Kong Court held that the
liquidation of GITIC in the PRC would be given recognition by
the Hong Kong Court. This was on the grounds that the
liquidation in China was being pursued on the basis of the
universal collection and distribution of assets and that the
creditors worldwide were to be paid pari passu with each
other subject only to ranking, that Chinese insolvency law
was universal in application and therefore that the liquidation
would be given recognition by the Hong Kong Court. This
case is discussed in more detail in our second Memorandum
in this series entitled “Enter The Dragon: Potential Impact
of the Proposed New Insolvency Regime in the PRC”.
When confronted with an “inbound” cross-border
insolvency case (that is, a foreign representative coming to
China seeking recognition of a foreign insolvency process,
perhaps with the intention of gaining local cooperation in
securing assets in China and ultimately of obtaining
permission to take such assets, or the proceeds from the sale
of such assets, back to the foreign jurisdiction), the PRC
Court has not recognised any purported extraterritorial
application of a foreign jurisdiction’s laws. Accordingly, the
Chinese authorities and Courts have not allowed the foreign
representative to take control of assets situated in the PRC.
z
The Draft Bankruptcy Law
The Draft Bankruptcy Law includes provisions for dealing with
both “inbound” and “outbound” cross-border insolvency
cases.
z
“Outbound” cases
Article 7 states that “The validity of any bankruptcy
proceedings commenced in accordance with this [Draft
Bankruptcy] Law shall extend to the properties of the
debtor outside of the People’s Republic of China”
[emphasis added].
It is a major step for Chinese legislation to assert that its
insolvency laws are extraterritorial in scope. It will be
interesting to see how the Chinese authorities ensure
compliance with this provision, given its potential effect
on parties that are not ordinarily subject to the laws of the
PRC.
10
z
“Inbound” cases
In relation to “inbound” cross-border insolvency cases,
Article 7 goes on to provide that any bankruptcy
proceedings commenced outside of the PRC shall,
subject to the ruling of the People’s Court, be binding on
the properties of the debtor in the PRC unless one of the
following applies:
(1) there are no relevant treaties or reciprocal relations
between such country and the PRC;
(2) the bankruptcy proceedings commenced outside of
the PRC are in violation of the social public interests
of the PRC; or
(3) the bankruptcy proceedings commenced outside of
the PRC are prejudicial to the lawful rights and
interests of the creditors in the PRC.
Significantly, the rhetoric of Article 7 moves away from
the territoriality approach traditionally adopted by the
PRC towards foreign insolvencies.
For a discussion of the potential implications of these
provisions, please refer to our second Memorandum in
this series entitled “Enter The Dragon: Potential
Impact of the Proposed New Insolvency Regime in
the PRC”.
6. Grounds for bankruptcy
In many jurisdictions with detailed insolvency criteria, a debtor
can be declared bankrupt when it is unable to pay its debts as
and when they fall due and/or when a debtor’s liabilities
exceed its assets. The Draft Bankruptcy Law sets out
grounds for a creditor and debtor issuing petitions.
z
Grounds for a creditor issuing a bankruptcy petition
The Draft Bankruptcy Law allows creditors to apply to the
People’s Court for the restructuring or bankruptcy of a debtor
if that debtor is “unable to settle its due debts” (Article 9).
z
Grounds for a debtor issuing a bankruptcy petition
Under the Draft Bankruptcy Law, a debtor who is “unable to
settle its due debts or whose assets are insufficient to settle
all of its debts or who is obviously insolvent” may apply to the
People’s Court for a restructuring, composition or bankruptcy
(Articles 2 and 9).
z
Restructuring and composition of debts
Restructuring and composition are discussed in more detail
below.
CCIC Finance Ltd. v. Guangdong International Trust & Investment Corporation, HCA No.
15651 of 1999, 31 July 2001.
4
7. Acceptance by the Court
Under the Draft Bankruptcy Law, a debtor or creditor may
make a bankruptcy application (submitted together with the
prescribed supportive evidence11) to the People’s Court,
which must then decide whether or not to accept the
petition.12
Significantly, the Draft Bankruptcy Law does not require that
prior approval has to be obtained from the Chinese
Government or any other authority before a bankruptcy
application is made. This contrasts to the provisions of the
1986 Bankruptcy Law, which require approval of the relevant
government department be obtained before any bankruptcy
proceedings can be initiated.
8. Procedure
The existing insolvency regime in China does not establish a
comprehensive procedural framework for the conduct of
bankruptcy cases. The Draft Bankruptcy Law seeks to
address this and an outline of the procedure for a bankruptcy
is set out in Figure 1.
The proposed procedure is not without its difficulties. For
example, it does not allow for a debtor to receive notice of a
creditor’s petition until after the People’s Court has made its
ruling to accept (or reject) the bankruptcy application and
appoint an administrator. That said there are still
opportunities to rectify these issues and the Draft Bankruptcy
Law nevertheless represents a significant step in the right
direction.
9. Role of Administrator
Under existing bankruptcy law in China, assets of a bankrupt
debtor are subject to the control of a court-appointed
“liquidation committee”. The PRC Company Law (2006) and
the Foreign-Invested Enterprise Liquidation Procedures
authorise the shareholders of the bankrupt company to
organise the “liquidation committee”, which often consists of
government officials and former management. Creditors are
rarely appointed or represented, which has raised concerns
about transparency and the protection of creditors' interests.
The Draft Bankruptcy Law seeks to address these concerns
by creating the role of an independent administrator
appointed by, and accountable to, the People’s Court
(Articles 19 and 20).
The duties and standard of conduct of the administrator are
set out in Articles 23 and 25, and include managing the
debtor's assets during the bankruptcy (and, in some
circumstances, the restructuring).
The qualifications for those appointed as an administrator are
set out in Article 22. It will be possible for individual lawyers,
accountants or other qualified insolvency specialists to be
appointed, perhaps even from Hong Kong.
The Draft Bankruptcy Law provides that the administration of
the bankruptcy will, as now, be subject to close supervisory
control by the People’s Court. It remains to be seen whether
judges will be specially allocated and trained to handle
bankruptcy cases. Certainly, the success of the new law will
depend in large part on how efficiently and consistently it is
implemented by the courts. In turn, this will depend on what
training and other resources the Chinese authorities allocate
to this.
10. Creditors' meetings and committees
The Draft Bankruptcy Law provides for creditors’ meetings to
be held and for the election of a creditors’ committee to assist
the administrator. Articles 62 to 64 provide for the
composition, size, structure and authority of the creditors’
committee. The administrator shall promptly report to the
creditors’ committee in matters such as the transfer of real
estate, borrowing money and the creation of security (Article
64).
Employees and trade unions: Employees and trade unions
are entitled to send representatives to attend the creditors’
meeting.13 The Draft Bankruptcy Law also imposes a
mandatory requirement that employees of the bankrupt
debtor are represented on the creditors’ committee.14
11. Secured creditors
Article 113 of the Draft Bankruptcy Law provides that any
person with a secured claim, pledge or lien over property
shall have a senior claim to be repaid out of the secured
property. It is unclear as to what will happen if the value of the
security is insufficient to repay the entire obligation due and
whether the creditor would be able to claim for any shortfall.
11
Article 10.
13
Article 54.
12
Article 12.
14
Article 62.
5
6
12. Priorities
Article 127 states that the bankrupt’s estate shall be settled in
the following order:
(1) bankruptcy fees and joint interest debts (see below);
(2) unpaid wages and basic social insurance premium for
the staff and workers (but not directors, managers or
other people who were “responsible” for the bankrupt
enterprise);
(3) outstanding taxes; and
(4) “ordinary” unsecured claims.
Joint interest debts: Article 40 defines “joint interest debts”
as the following debts or expenses that are incurred after the
acceptance of a bankruptcy case by the People’s Court:
“(a) Any debt incurred as a result of the performance of
mutual obligation contracts requested by the
administrator;
(b) Any debt incurred as a result of the properties of the
debtor being subject to administration without cause;
(c) Any debt incurred from illegal benefits obtained from the
properties of the debtor;
(d) Any compensation for labor and social insurance
premium payable for the continued operation of the
debtor after the acceptance of a bankruptcy case by the
People’s Court;
(e) Any debt incurred from any personal injury as a result of
the performance of duties by the administrator or any
relevant personnel;
(f)
Any debt incurred from personal injury caused by the
properties of the debtor.”
Unpaid wages and social insurance premium: Any portion
of unpaid wages or basic social insurance premium for the
staff and workers that is not settled in accordance with the
order of payment set out in Article 127 “shall be settled with
priority from the specific property set forth in Article 113”.
The practical effect of this is to give staff and workers a
higher priority than secured creditors in any bankruptcy
distribution. This could significantly reduce the value of
security to a creditor, particularly if there are a large number
of employees and/or there is no upper limit on the preferential
amount payable to employees. The insertion of this provision
is understood to have resulted from aggressive lobbying by
labour unions and the concerns of the PRC Government that
a large number of workers being laid off by application of the
Draft Bankruptcy Law may have an adverse effect on social
stability.
Contractual subordination: It remains to be seen whether
contractual subordination will be recognised in a bankruptcy
under the Draft Bankruptcy Law.
13. Restructuring
The Draft Bankruptcy Law introduces the concept of
“restructuring” for a debtor who is unable to settle its due
debts, whose assets are insufficient to settle all of its debts or
who is “obviously insolvent”.15 This new corporate rescue
procedure is illustrated in Figure 2.
z
Procedure
Either the debtor or a creditor may apply directly to the
People’s Court for the restructuring of a debtor. The
“restructuring period” starts once the People’s Court makes a
ruling permitting the debtor to be restructured. The debtor can
then apply to the People’s Court to retain management of its
assets and operations under the supervision of an
administrator (Article 65) and secured creditors may not
enforce their security (unless there is a danger that it is in
jeopardy).
A debtor or administrator will have six months (with the
possibility of a three-month extension) from the start of the
“restructuring period” to submit a draft “restructuring plan” to
the People’s Court.16 This restructuring plan must also be
approved by a majority in number of creditors in each “voting
group”, representing at least two-thirds of the debt to become
effective (a “cram-down” on the creditors who do not approve
the restructuring plan) (Article 83).
Article 84 states that all voting groups at the creditors’
meeting have to approve the restructuring plan.
z
Classification of creditor claims
The classification of creditor claims is set out in Article 80,
being:
“(a) Creditor claims with secured claim over specific
properties of the debtor or priority claim prescribed by
law;
(b) Wages and basic social insurance premium for the
employees outstanding from the enterprise, and the
compensation to be paid to the employees as prescribed
by the laws and administrative rules and regulations;
(c) Taxes outstanding from the enterprise;
(d) Ordinary creditor claims.”
15
Articles 2, 9 and 65.
16
Article 77. The information to be contained in the restructuring plan in specified in Article
79 and includes a business proposal for the restructured enterprise, a classification of
creditors’ claims, proposals for the adjustment and settlement of creditors’ claims and
details on the implementation period.
7
8
z
Implementing the restructuring plan
The debtor is responsible for implementing the restructuring
plan.17 Once the People’s Court has made a ruling approving
the restructuring plan, the administrator shall hand over all
properties and business affairs to the debtor.18 The
administrator supervises the implementation of the
restructuring plan and the debtor has to report back to the
administrator on the status of the restructuring plan and the
financial position of the enterprise.19
z
Failure to implement the restructuring plan
If the debtor does not implement the restructuring plan,
subject to an application by an interested party, the People’s
Court shall terminate the implementation of the restructuring
plan and announce that the debtor is bankrupt.20
z
Reporting back to the People’s Court
At the end of the supervisory period (as set out in the
restructuring plan), the administrator reports back to the
People’s Court and interested parties have the right to review
the administrator’s findings. The administrator is then
discharged.21
z
Views and comments
Whilst the provision of a statutory corporate rescue
framework is commendable, the Draft Bankruptcy Law
remains unclear on the length or strength of the claims
moratorium which may be needed to allow a debtor the
chance to formulate its rescue plan. The Court's practice in
relation to whether proceedings can be commenced or
continued against a company in restructuring will be crucial to
the success of this procedure (too loose a moratorium will
provide companies needing a breathing space with little or no
protection) and creditors' confidence in it (too rigid a
moratorium may be open to abuse).
14. Composition
The Draft Bankruptcy Law introduces a procedure that allows
a debtor who is unable to settle its due debts or whose assets
are insufficient to settle all of its debts or who is “obviously
insolvent” to apply to the People’s Court for a composition of
its debt.
A debtor may apply for a composition once the People’s
Court has accepted a bankruptcy application but before it
announces that the debtor is bankrupt. The People’s Court
will then consider the draft composition agreement and has
the power to accept it or to ask the debtor to make
amendments. If the debtor does not make the requested
amendments or the People’s Court refuses the composition,
the debtor will be declared bankrupt.22
If the Court accepts the debt composition submitted by the
debtor, it will make a public announcement to this effect and
convene a creditors’ meeting to consider and discuss the
proposals. For the composition to be approved at the
creditors’ meeting it has to be approved by a simple majority
in number representing more than two-thirds of the confirmed
creditor claims “not secured with properties”23 (again, a
“cram-down” on these creditors with confirmed claims who do
not approve the composition). If the required majority of
creditors do not approve the composition, the debtor will be
declared bankrupt.
Once the composition is approved by the creditors and the
People’s Court, the Court will suspend the bankruptcy
proceedings and make a public announcement that this has
been done. The administrator is then notified. He will suspend
the performance of his duties, transfer all property and
business affairs to the debtor and report to the People’s Court
on the performance of his duties.
Secured creditors: a composition does not involve (and
does not bind) creditors who have a claim “secured with
property”.24 Those creditors holding security and priority
claims are entitled to exercise their rights once the People’s
Court has ruled to accept the composition.25
The introduction of a procedure allowing for debt composition
gives debtors flexibility in the way in which they can approach
their debt servicing burdens. It remains to be seen whether it
will be possible to include within the composition agreements
other methods of debt relief, such as debt-for-equity swaps.
15. Insolvency set-off
As currently drafted, the Draft Bankruptcy Law does not
include provisions giving rise to mandatory set-off of mutual
debts between a debtor and creditor on insolvency. This is a
surprising omission.
The Draft Bankruptcy Law does provide that a creditor may
exercise a right of set-off against the administrator26 with
certain exceptions, including where the creditor incurred or
took assignment of the debt after the commencement of the
bankruptcy or where the creditor knew that the bankrupt was
unable to pay its debts.27
22
Articles 93 and 95.
17
Article 87.
23
Article 96.
18
Article 87.
24
Article 100.
19
Article 88.
25
Article 94.
20
Article 91.
26
Article 123.
21
Article 89.
27
Article 124.
9
16. Conclusion
The Draft Bankruptcy Law is a significant move towards an
effective insolvency framework in the PRC. Implementation
will require considerable political will and financial
commitment and, like most draft legislation, it is not without its
shortcomings. But the signs are there and, once it is
implemented, the impact of the Draft Bankruptcy Law will be
felt way beyond China’s geographical borders. This is
discussed further in our second Memorandum in this series
entitled “Enter The Dragon: Potential Impact of the
Proposed New Insolvency Regime in the PRC”.
For more information, please contact:
Mark Fairbairn
Partner, Hong Kong Office
Tel + 852 2822 8740
Fax + 852 2845 9070
mfairbairn@whitecase.com
Edward Cairns
Partner, Hong Kong Office
Tel + 852 2822 8713
Fax + 852 2845 9070
edcairns@whitecase.com
Fred Chang
Partner, Beijing Office
Tel + 86 10 8532 9800
Fax + 86 10 6532 6720
fchang@whitecase.com
Xiaoming Li
Partner, Beijing Office
Tel + 86 10 8532 9800
Fax + 86 10 6532 6720
xli@whitecase.com
John Leary
Partner, Shanghai Office
Tel + 86 21 6321 2200
Fax + 86 21 6323 9252
jleary@whitecase.com
Bertie Mehigan
Partner, Singapore Office
Tel + 65 6347 1311
Fax + 65 6225 6009
bmehigan@whitecase.com
10
www.whitecase.com
Please note that this Memorandum is based on published Chinese statutes, discussions with Chinese officials and our knowledge of how similar matters have been
dealt with by the relevant Chinese authorities. Under current Chinese regulations, foreign lawyers such as ourselves are not admitted to practice law in the People's
Republic of China. This Memorandum has been prepared for the general information of our clients and other interested persons. Due to the general nature of its
contents, it should not be regarded as a substitute for legal advice and should not be acted on in any specific situation without appropriate legal advice.
White & Case © 2006