#

gavel Resolving Insolvency

This topic identifies weaknesses in existing insolvency law and the main procedural and administrative bottlenecks in the insolvency process. The most recent round of data collection for the project was completed in June 2016. See the methodology for more information.

Good Practices

- Streamlining insolvency proceedings
- Establishing effective reorganization proceedings
- Strengthening creditors’ rights

Changes in insolvency regimes over the years—whether motivated by economic or financial crises or implemented as part of broader judicial or legal reforms—have led to the emergence of several trends and good practices. Among these is a unified international good-practice standard on creditor and debtor regimes and insolvency set forth by the World Bank and the United Nations Commission on International Trade Law (UNCITRAL). Good practices in many economies are aimed at improving both the efficiency and the outcome of insolvency proceedings. These include streamlining insolvency proceedings, establishing effective reorganization proceedings and strengthening creditors’ rights. 

Streamlining insolvency proceedings

Establishing time limits for proceedings can enhance the efficiency of the insolvency process. Long proceedings reduce creditors’ chances of recovering outstanding debt and can create unnecessary uncertainty for all parties involved. (1) Efficient insolvency proceedings increase debt recovery by creditors by making it more difficult for the shareholders of a company to sell its assets at an unreasonably low price to a second company they own.

In the past 5 years 34 economies have introduced 37 reforms focusing on the efficiency of insolvency proceedings. For example, in a new insolvency law adopted in June 2014, Romania tightened time limits for implementing a reorganization plan while Mexico shortened the time extensions allowed during reorganization proceedings in January 2014.

Establishing effective reorganization proceedings

The highest recovery rates are recorded in economies where reorganization is the most common insolvency proceeding. Yet a third of economies around the world have no formal judicial reorganization proceeding, and in only 17 economies is reorganization the most common proceeding as recorded by Doing Business. (2)

But things are looking up: 31 economies have established reorganization proceedings since 2005, including Cyprus, Kenya, Jamaica, Brunei Darussalam and Mozambique. Even more economies made improvements to their existing regulations on company reorganization. Denmark, for example, amended its Bankruptcy Act in April 2011 to allow both debtors and creditors to file for reorganization at the bankruptcy court in case of insolvency. Mexico introduced provisions in January 2014 allowing debtors to apply for post-commencement financing during reorganization proceedings and permitting them to apply for reorganization in the event of imminent insolvency.

Figure 1 - Slovenia made resolving insolvency easier by adopting simplified reorganization procedures

Slovenia provides a good example of successful reforms aimed at improving reorganization proceedings—and has achieved some of the biggest improvements in the past several years as measured by Doing Business. The government of Slovenia adopted two amendments to the Financial Operations, Insolvency Proceedings and Compulsory Dissolution Act in 2013. These amendments established new restructuring procedures and introduced several mechanisms aimed at facilitating restructuring, such as debt-equity swaps, control of business operations by buyers of new shares and priority of restructuring plans proposed by major creditors. By 2015, the amendments began to have significant impact on the insolvency practice. Restructurings became common and survival of distressed but viable companies became the prevailing outcome. The time required to complete insolvency proceedings decreased. As a result, the recovery rate for secured creditors in Slovenia increased from 50.1 cents on the dollar in 2013 to 88.2 cents on the dollar in 2015 (figure 1).

Strengthening creditors’ rights

Research has shown that if creditors are not protected or allowed to participate in insolvency proceedings, they will have less incentive to lend in the future. That leads to a less developed credit market. (3) Several recent insolvency reforms have addressed this concern.  Cyprus enacted a new Insolvency Act in April 2015, allowing creditors greater participation during the insolvency proceedings by granting individual creditors the right to object to the decision accepting or rejecting its own claims and claims of other creditors.

Creditors’ committees are another way to increase creditors’ participation in insolvency proceedings. In some cases, creditors participate in the preparation of a reorganization plan or in important decisions related to the management of the debtor’s property in the course of the insolvency proceedings. For example, Chile adopted a new Insolvency Act in October 2014 allowing the creditors’ meeting to approve the sale of the debtor’s substantial assets during reorganization proceeding.


--------------------

1. Cirmizi, Elena, Leora Klapper and Mahesh Uttamchandani. 2010. “The Challenges of Bankruptcy Reform.” Policy Research Working Paper 5448, World Bank, Washington, DC.
2. Doing Business database.
3. Claessens, Stijn, and Leora Klapper. 2003. "Bankruptcy around the World: Explanations of Its Relative Use." Policy Research Working Paper 2865, World Bank, Washington, DC.