Valeriy Sholokhov of Advocatory Bureau MOST assesses the bankruptcy and insolvency regime in Russia

Section 1: PROCESSES AND PROCEDURES

1.1 What reorganisation and insolvency processes are available for debtors in your jurisdiction?

The prevailing Russian bankruptcy legislation provides the following options for restoring the solvency of the debtors:

(i) financial recovery (chapter 5 of the Federal Law dated October 26 2002 N 127-FZ on insolvency – the Bankruptcy Law): a procedure aimed at restoring the solvency of the debtor's enterprise, and repaying the debt in accordance with the schedule. As part of this procedure, the fulfilment by the debtor of its obligations to the creditors must be secured, and the company's management must be carried out by its controlling bodies;

(ii) external management (chapter 6 of the Bankruptcy Law ): a bankruptcy procedure applied to the debtor to restore its solvency. This procedure is characterised by the fact that the management of the debtor is carried out not by its controlling bodies, but by its bankruptcy commissioner. The list of solvency restoration measures is not exhaustive, but among the main points are the following: conversion of production; closure of unprofitable enterprises; collection of accounts receivable; the sale of part of the debtor's property; assignment of the debtor's rights of claim; fulfilment of the debtor's obligations by the owner of the debtor's property; increase in the authorised capital of the debtor through contributions by members and third parties; issue of additional ordinary shares of the debtor; sale of the debtor's business; and, replacement of the debtor's assets.

The Bankruptcy Law also contains provisions that allow at any stage of bankruptcy the entering into of a settlement agreement. This entails the termination of the bankruptcy proceedings with the establishment of an obligation to repay debt owed to the debtor's creditors within the term approved at the meeting of creditors. Failure to comply with obligations established by the settlement agreement entails the possibility of its cancellation and the resumption of the bankruptcy proceedings.

Russian legislation allows acting to restore the debtor's solvency outside a bankruptcy case (including by increasing the authorised capital of the debtor, contributing to his property). To protect the legitimate rights and interests of the debtor's creditors, a number of compulsory provisions were specifically provided (chapter 4 of the Civil Code of the Russian Federation).

If it is impossible to restore solvency, the debtor is subject to voluntary dissolution or liquidation of the bankruptcy estate.

1.2 Is a stay on creditor enforcement action available?

When the bankruptcy procedure is started the creditors can make recovery claims against the debtor. The terms of these claims should be served within a defined term. If a creditor does not do so within this term he can only do it in the next bankruptcy stage (if applicable), or his demands will be included in the register of claims of last creditors.

1.3 How could the reorganisation and/or insolvency processes available in your jurisdiction be used to implement a reorganisation plan?

In accordance with the provisions of article 2 of the Bankruptcy Law, sanation means the measures taken by the owner of the debtor's property – a unitary enterprise, founders (members) of the debtor, the debtor's creditors, and other parties – to prevent bankruptcy and restore the solvency of the debtor, including at any stage of the bankruptcy case hearing.

According to article 31 of the same law, sanation refers to the provision of financial assistance to the debtor in an amount sufficient to pay off: the monetary obligations; the claims for severance payments and/or wages to persons then or previously employed under employment contracts; and, compulsory payments and the recovery of the debtor's solvency. The provision of financial assistance may be accompanied by the assumption of obligations on the part of the debtor or other persons, in favour of the party who provided the financial assistance.

The parts of the Bankruptcy Law governing the order of conduct of specific procedures within a bankruptcy case contain provisions establishing the particular performance of claims for the debtor, with a requirement for the simultaneous fulfilling of obligations to the creditors and to the budget for compulsory payments (taxes and levies).

1.4 Can a creditor or a class of creditors be crammed-down?

According to the Bankruptcy Law, all the decisions of creditors' meetings require a majority vote.

However, a creditor or group of creditors can argue any decision in court if the decision contradicts a law or statutory rights.

Notwithstanding the fact that the decision goes through a majority of shareholders, the court can cancel it or declare it illegal.

1.5 Is there a process for facilitating the sale of a distressed debtor's assets or business?

The sale of the assets or business of a distressed debtor is only possible in a bankruptcy procedure.

Before the sale, the cost of the assets should be determined according to a special procedure.

A court-appointed receiver or trading authority then undertakes a competitive tendering procedure.

1.6 What are the duties of directors of a company in financial difficulty?

In accordance with article 9 of the Bankruptcy Law, a director of the debtor is obliged to apply to the arbitration court with the debtor's petition if:

(i) the satisfaction of the claims of one or several creditors would mean that it would be impossible for the debtor to fulfil monetary obligations or obligations to pay compulsory payments and/or other payments in full to other creditors;

(ii) the body authorised in accordance with the debtor's constituent documents to make decisions on the liquidation of the debtor decided to appeal to the arbitration court with the debtor's petition;

(iii) the body authorised by the owner of the debtor's property – a unitary enterprise – decided to appeal to the arbitration court with the debtor's petition;

(iv) foreclosure on the debtor's property greatly complicated or rendered impossible the economic activity of the debtor;

(v) the debtor satisfied the insolvency test requirements and/or met the required grounds on insufficiency of property;

(vi) there was an obligation for severance payments, wages and other entitlements owed to employees or former employees outstanding for more than three months due to lack of funds, in the amount and in the manner prescribed under labour legislation.

In addition, if during the liquidation the legal entity satisfied the requirements of the insolvency test and/or met the required grounds on insufficiency of property, the debtor's liquidation commissioner would be obliged to apply to the arbitration court with the debtor's petition within 10 days from the date of revealing any of the above circumstances. Failure to comply with the above duties would entail a liability to compensate the losses incurred as a result of such violations, and would form a basis on which to hold the director vicariously liable for the debtor's liabilities that had arisen after the deadline for the filing of the bankruptcy petition. If the debtor was recognised as insolvent (bankrupt) due to the actions and/or omissions of persons controlling the debtor, those persons, in the case of insufficiency of debtor's property, would be held vicariously liable for the debtor's obligations.

If the debtor filed a petition to the arbitration court, provided the debtor was able to satisfy the claims of the creditors in full, or the debtor had not taken steps to challenge the applicant's unsubstantiated claims, the debtor would be held liable to the creditors for losses caused by the opening of the bankruptcy proceedings, or by unreasonable recognition of the claims of creditors.

1.7 How can any of a debtor's transactions be challenged on insolvency?

Chapter 3.1 of the Bankruptcy Law provides the specific procedure to challenge the debtor's transactions.

The law establishes that, in the framework of a bankruptcy case, the following suspicious transactions if carried out by the debtor may be challenged and recognised as invalid:

(i) transactions concluded by the debtor within one year before the filing of the bankruptcy petition, or after filing the petition provided the disparate counter performance of claims by the other party to the transaction, including if the price of the transaction and/or other conditions, were worse for the debtor than the price and/or other conditions, under which similar transactions were made in comparable circumstances;

(ii) transactions concluded by the debtor to infringe the property rights of creditors within three years before the debtor filed the bankruptcy petition, or after filing the petition, if the transaction resulted in the infringement of the creditors' property rights, and the other party to the transaction had been aware of this intention of the debtor at the time of the transaction.

The law also provides for the possibility of challenging the debtor's transactions entailing preferential treatment of one creditor against other creditors under the following conditions:

(i) a transaction is aimed at ensuring the fulfilment of obligations to an individual creditor arising before the conclusion of the disputed transaction of the debtor or a third party;

(ii) a transaction results or may result in a change of priority of satisfaction of creditors' claims for obligations arising before the conclusion of the disputed transaction;

(iii) a transaction results or may result in the satisfaction of claims, the maturity of which has not been reached at the time of the transaction, of some creditors if there are obligations to other creditors not fulfilled within the specified period;

(iv) a transaction results in that individual creditor being given, or the possibility of being given greater preference as regards satisfying claims that existed before the conclusion of the disputed transaction than would have been given the case when effecting settlements with the creditors in order of priority in accordance with the Bankruptcy Law.

The following persons are conferred with the right to challenge transactions:

(i) the debtor's bankruptcy commissioner; and,

(ii) a creditor to whom the amount owed exceeds 10% of the total amount of the debtor's accounts payable.

1.8 What priority claims are there and is protection available for post-petition credit?

The following claims for existing payments will be given preference over claims of other creditors: financial obligations; claims for severance payments and/or wages of persons at the time or previously employed under an employment contract; compulsory payments; creditors' claims for payment for goods delivered, services rendered or work performed that arose after the date of the filing of the debtor's bankruptcy. These claims will not be included in the registry of creditors' claims.

Article 34 of the Bankruptcy Law provides that as regards creditors' claims on existing payments that will be repaid at the expense of the bankruptcy estate, the creditors' claims that arose before the debtor's bankruptcy petition was filed will be given priority.

If the termination of the operation of the debtor's enterprise or business units might result in anthropogenic and/or environmental disasters or the loss of human life, the costs of the measures to prevent the occurrence of those effects would be repaid out of turn.

According to article 142 of the Law, the claims of creditors and/or competent authorities lodged after the closing of the registry of creditors' claims are satisfied at the expense of the debtor's property remaining after the satisfaction of the creditors' claims included in the registry of creditors' claims.

1.9 Is there a different regime for credit institutions and investment firms?

Russian legislation provides for specific characteristics of bankruptcy of individual economic entities, including:

(i) city-forming organisations;

(ii) agricultural organisations;

(iii) financial institutions (including credit and insurance organisations; professional securities market participants; private pension funds; management companies of investment funds, mutual investment funds and private pension funds; clearing organisations; trade organisations; credit consumer cooperatives; and, microfinance organisations);

(iv) strategic enterprises and organisations;

(v) subjects of natural monopolies;

(vi) developer organisations; and,

(vii) clearing members and clients of clearing members.

The determination of special circumstances in the bankruptcy of individual debtors would be due to a specific situation or the activities of certain legal entities and/or the peculiarities of their property. Special rules are needed to ensure the protection of the interests of both the debtor and creditors, since the general rules, due to the peculiarities of certain categories of debtors, may not sufficiently ensure that the balance of interests of the participants in the insolvency proceedings is maintained.

The determination of special circumstances of bankruptcy for some economic entities might eliminate the risk of that specific debtor being declared bankrupt, or of bankruptcy proceedings having to take place, due to having to take into account the need to protect the interests of certain parties involved (for example, the customers of professional securities market participants).

Section 2: INTERNATIONAL/CROSS-BORDER ISSUES

2.1 Can reorganisation or insolvency proceedings be opened in respect of a foreign debtor?

The Bankruptcy Law applies to legal persons that may be recognised as insolvent (bankrupt), in line with the Civil Code of the Russian Federation. Article 65 of the Civil Code states that a legal entity, with the exception of treasury enterprises, institutions, political parties and religious organisations, may be recognised by the court as insolvent (bankrupt). Public corporations or state-owned companies may be declared insolvent (bankrupt) if their establishment is prescribed by the federal law. A fund cannot be declared insolvent (bankrupt) if prescribed by the law providing for the establishment and operation of such a fund.

In accordance with article 48 of the Civil Code of the Russian Federation, a legal person means an organisation that has separate property and is financially responsible for its obligations, and may on its own behalf acquire and exercise civil rights and bear civil obligations, sue and be sued in court. A legal entity must be registered in the Unified State Register of Legal Entities with one of the legal forms provided for in the Civil Code.

Thus, foreign debtors are not subject to reorganisation, liquidation, or bankruptcy within the territory of the Russian Federation.

At the same time, Russian legal entities, the members of which are foreign organisations, are subject to bankruptcy, liquidation or reorganisation under the general procedure provided for by the legislation of the Russian Federation.

2.2 Can recognition and assistance be given to foreign insolvency or reorganisation proceedings?

According to chapter 31 of the Arbitration Procedure Code of the Russian Federation, there is a procedure of recognition and enforcement of foreign judgments.

The major problem in regulating this area is that this procedure is only available for final judgments, not for interim court orders.

Section 3: OTHER MATERIAL CONSIDERATIONS

3.1 What other major stakeholders (such as governmental or regulatory institutions) could have a material impact on the outcome of the reorganisation?

Not applicable

Section 4: CURRENT TRENDS

4.1 Outline any bankruptcy and reorganisation trends specific to your jurisdiction.

In 2015, the bankruptcy law of the Russian Federation was substantially changed and supplemented.

The main changes in the bankruptcy law for legal entities include the following:

(i) granting the right to banking organisations to file a petition in bankruptcy against the debtor before the court judgment has come into effect, by publishing an advance notice in the unified federal registry of bankruptcy information;

(ii) granting an independent right to majority creditors of the debtor to challenge the transactions concluded by the debtor (only the debtor's bankruptcy commissioner was granted such a right before);

(iii) expanding the scope of the rights of secured creditors in the realisation of the mortgaged property of the debtor;

(iv) new rules were established for the debtor's property assessment which simplified the procedure previously in force; and,

(v) granting the rights to secured creditors to vote in favour of the candidacy of a bankruptcy commissioner.

The same year, the regulations of the Bankruptcy Law recognising citizens as insolvent came into force.

Also in 2015, the civil law of the Russian Federation governing the establishment, operation, reorganisation and liquidation of legal entities was greatly changed. These changes included: the introduction of a new classification of legal entities; the ability to have a mixed reorganisation and a simultaneous reorganisation of several legal entities; the amendment of the regulation on the rights of creditors of a reorganised legal entity; and the opportunity to recognise the decisions on the reorganisation of the legal entity as invalid, or to recognise the reorganisation of the corporations as having failed, was provided.

  First published by our sister publication IFLR magazine. Take your free trial today.


Valeriy Sholokhov
Advocatory Bureau MOST
Moscow

About the author
Valeriy Sholokhov is a partner at advocatory bureau MOST. He is responsible for the bankruptcy and dispute resolution practices. He is also a well-known specialist in corporate law, M&A, and real estate, advising on deal structuring, and due diligence.