Substantive Consolidation Research Articles

Legal Barriers to the Application of the Doctrine of Substantive Consolidation in Bankruptcy Cases

The paper examines the relationship between the principles of property isolation of a legal entity and limited liability with the institution of material consolidation in cases of bankruptcy of corporate groups. The purpose of the paper is to formulate grounds for derogation from the basic principles of corporate law in the bankruptcy of a group of companies, based on the arguments of opponents of the application of the doctrine of material consolidation. The paper concludes that for the Russian legal system, the application of the material consolidation regime is permissible only in exceptional cases. Such include cases when there is an obvious abuse of rights on the part of the debtor, controlling persons and affiliated creditors as well as free movement of assets within the business group, the transit nature of the movement of funds through the accounts of persons included in the corporate group, the complexity of intra-group relations resulting in that it is almost impossible to understand which legal entity owns the assets.

The Diversified Theories and Legal Standards for the Substantive Consolidation of Corporate Groups in Bankruptcy

The Diversified Theories and Legal Standards for the Substantive Consolidation of Corporate Groups in Bankruptcy

On the Development of the Doctrine of Legal Personality Denial in the Insolvency of Associated Enterprises

With the increasing number of bankruptcy cases, the insolvency of associated enterprises among them has gradually attracted widespread attention. The theory of legal personality denial has entered the field of bankruptcy law from corporate law and other fields, and is mainly applied to solve the problem of bankruptcy of associated enterprises, but the legal personality denial system has greater limitations in the current judicial application in China. Through the examination of extraterritorial application, in the new Enterprise Bankruptcy Law in the future, a special chapter on the bankruptcy of associated enterprises should be established. The denial of legal personality system should be the core, mainly dealing with the abuse of legal personality and supplemented by the two major principles of substantive consolidation and equitable subordination and applied prudently. In the process, it will be continuously integrated with China’s judicial practice. The changes in the status of the three institutional principles will be considered when the legal system for the bankruptcy of associated enterprises is perfect and mature.

实质合并重整程序适用的视角矫正与标准再造

To achieve Pareto optimality and substantive fairness, the practice of substantive consolidation in bankruptcy reorganization in China is needed. However, after analyzing the legal documents and judicial cases in the past three years, it can be seen that there are problems in the application, such as cognitive dislocation and theoretical conflicts. Moreover, there are deficiencies in the standard for judging whether the proceeding is applicable or not, such as vague meaning and unclear relationship, and there is a relative lack of systematic thinking. Therefore, on the one hand, a clear conceptual distinction should be made between the substantive consolidation from the perspective of bankruptcy law and the corporate merger in the field of company law. Besides, the contradictions between substantive consolidation and the traditional theoretical principles like bankruptcy petition doctrine, creditor’s reliance interests, and corporate personality independence should be resolved through methods which contain interest measurement and perspective shifting. On the other hand, it is necessary to construct a standard system with objective mode and subjective mode for determining whether the proceeding should be applied, so as to respond to different judicial needs. Furthermore, the objective mode should be detailed and strict, and it can be refined into three parts: formal requirement, necessity requirement and feasibility requirement. The subjective mode is based on the unanimous and real volition of the relevant stakeholders, which fully respects the freedom of the parties to dispose of their rights.

MODEL OF PROCEDURAL COORDINATION IN CASE OF INSOLVENCY (BANKRUPTCY) OF AN ENTERPRISE GROUP

Abstract: there are no rules on the insolvency of erprise groups in Russian bankruptcy law. Traditional and generally accepted is the principle of “one debtor – one procedure”, which corresponds to the principle of isolation and autonomy of each legal entity. This approach does not correspond to the current economic environment, in which there are a large number of interconnected companies that form enterprise groups. This leads to an increasing number of problems in the bankruptcy sector, namely, to an increase in the number of insolvency cases of legal entities with a constant decrease in the percentage of satisfaction of creditors’ claims. In this regard, opinions are expressed about the need to introduce the regime of bankruptcy of enterprise group into Russian legislation. The purpose of this article is to study the enterprise group insolvency model, namely the procedural coordination model. The article provides a comprehensive analysis of procedural coordination and conducts a comparative legal study of those legislations in which this model is already used. The conclusion is made about the expediency of using the procedural coordination model instead of the substantive consolidation model and the need to introduce into the Russian bankruptcy legislation rules that fix the insolvency regime of debtors – members of an enterprise group.

CROSS-BORDER GROUP INSOLVENCY, A STUDY OF NORTEL CASE

Introduction. This Article is a detailed analysis of one of the most complex and landmark judgments in the area of cross border group insolvency. It traces the timeline of the insolvency of Nortel Plc. and the simultaneous proceedings in multiple jurisdictions. Introduction followed by Literature Review. Research methods are exploratory in nature, since the study has to explore a case of the simultaneous proceedings in multiple jurisdictions. Results and discussions. The Article discusses that there are two major methods for dealing with corporate groups undergoing insolvency, which are: Procedural Coordination and Substantive Consolidation. Under such mechanisms which little to no precedence in any jurisdiction, this case carved out its own path to arrive at the outcome of Pro-Rata Allocation. The case is significant for being heard at the same time in two courtrooms, one in Delaware and one in Ontario, that were linked in order to receive live evidence together. This Article discusses the importance and significance of having a cross border group insolvency regime in place. In the era of Globalisation, the integration of national economies into a global economic system has been one of the most important developments of the last century

Reorganization of corporate groups in Brazil: Substantive consolidation and the limited liability tale

AbstractThe article analyses the use of substantive consolidation in view of the meaning of limited liability in Brazil and explores the proposition that such a solution to corporate distress should only exceptionally be imposed on creditors. In light of Brazilian corporate law, a court should only order substantive consolidation if continuous dishonest use of legal personality had occurred before the debtors filed for reorganization. The author further questions if such a proposition is adequate or if substantive consolidation must gain new colors in a corporate system such as the Brazilian one, in which (a) ex ante the legal system does not sustain limitation of liability of the business corporation in face of a wide number of claims, and (b) group entities are frequently not managed as separate and independent companies. The author concludes by reaffirming the importance of using substantive consolidation more strictly, rather than as a one‐size‐fits‐all solution.

Entity Versus Enterprise: Dealing with Insolvency of Corporate Groups

Business is being increasingly viewed on an enterprise basis; accounting standards and securities regulators view the business on a “group” basis. However, corporate laws remain anchored to separation of legal entity; this is largely the case of insolvency laws too. However, given the primary object of insolvency laws to rescue an entity, an entity-focused approach mostly may fail to do justice to the needs of an ailing enterprise, where resources, operations and assets may be scattered across entities. In liquidation too, where the intent is to liquidate assets, if the assets are entangled across entities and jurisdictions, no meaningful liquidation may be achieved. While the approaches to achieving group-focused insolvency resolution or liquidation may be many, there are essentially two major ones – procedural consolidation, and substantive consolidation. Procedural consolidation is where the proceedings of insolvency of different entities are coordinated, even if before different judicial or adjudicating authorities. This has successfully been done in several major insolvencies involving cross-border entities, such as BCCI, Maxwell, Lehman and Madoff. Substantive consolidation disregards the separation of entities and pools the assets and liabilities of various entities into a common hotchpot. This extreme remedy is rarely used, even though UNCITRAL has been aggressively working on developing the principles for the same. Basically, substantive consolidation is ordered by courts where pooling of assets and liabilities is to larger benefit of different creditors, and generally not prejudicial to any. Mostly, this is done under circumstances similar to those inviting “lifting or piercing the corporate veil”, even substantive consolidation is different from veil lifting or piercing. Judicial comfort to substantively consolidate entities has been oscillating over time, though the ruling in Owens Corning seems to be a significant milestone. In India, even though there are no precedents to substantive consolidation under winding up proceedings, there have been several rulings of courts where lifting/piercing of veil has been done. This is mostly done in cases where there is abuse of corporate personality. Thus, explicit provisions in sec. 36 (4) (d) of the Code, whereby the assets of an Indian or foreign subsidiary are not to be treated as a part of liquidation estate, may not been as doing damage to the essential principle of disregarding corporate personality, where the personality itself is not real.

Preventive Restructuring Frameworks: A Possible Solution for Financially Distressed Multinational Corporate Groups in the EU

The difficulties of the effective rescue of multinational corporate groups (MCGs) in the EU have long been recognized. The limitations of the existing MCG rescue solutions, including substantive consolidation, procedural consolidation and procedural cooperation, mean that there is no panacea for preserving the value of financially distressed MCGs for creditors. It seems that a possible way to preserve the value of the MCGs worth rescuing is to avoid their free-fall insolvency at an early stage. In practice, many pan-EU groups decide to use English schemes of arrangement to stave off group-wide insolvency. This phenomenon corresponds to the recent European Commission’s proposal for a Directive on preventive restructuring frameworks which aims to provide Member States with a minimum harmonization of restructuring tools to rescue financially distressed companies and to avoid their insolvency. Also, the new EU Regulation on insolvency proceedings has expended its scope to incorporate preventive restructuring procedures. This article will explore how preventive restructuring frameworks can work as a supplementary solution to preserve value for MCGs and examine whether this may improve the undesirable status quo.

The Interface Between the Securitization Act of 2004 and the Financial Rehabilitation and Insolvency Act of 2010

Abstract The interface between securitization law and insolvency law is the central legal concern in designing securitization transactions. The complex structure of these transactions under the Securitization Act of 2004 should be understood within a specific legal context: the possible bankruptcy, insolvency, or liquidation of the “originator” (i.e. the entity requiring securitization financing), which may jeopardize the claims of asset-backed security investors. It is a solution to the risk that security holders with claim to specific assets may end up being subordinated to the interest of preferred creditors and ranked pari passu with, or even lower than, unsecured creditors in a rehabilitation or liquidation proceeding. Under present law, this risk may arise through the “substantive consolidation” and “clawback” provisions of the Financial Rehabilitation and Insolvency Act (FRIA) of 2010. This risk is mitigated through the creation of a bankruptcy remote vehicle and true sale of receivables, and it is the lawyer’s principal role in the securitization process to isolate or ring-fence assets beyond the reach of creditors, and making them an exclusive claim of investors. How this works in theory and practice is the subject of this paper.

The Legal Holy Grail? German Lessons on Codification for a Fragmented Britain

Codification seems to be coming back into vogue in Great Britain, especially in Wales and in Scotland as a result of devolution and a related (if possibly temporary) surge in nationalism. Using Germany as a comparator, we argue that a codification renaissance should be met with caution. By examining German literature on the history of codification, it can be seen that codification is a difficult transplant in Great Britain. In any event, the German experience shows that codification is no panacea. Furthermore, when it comes to codification, we are quite literally speaking a different language to continental lawyers. Codifying statutes, more achievable in the British jurisdictions than larger, continental-style codes, reflect a peculiarly British style of codification, but risk being the compromise that pleases nobody. A patchwork of substantive reform, consolidation and restatement is proposed as a more suitable domestic solution.

Bankruptcy Law v Bankruptcy-Remote Structures. Harmony Out of Dissonance?

Bankruptcy-remote structure is a common way to refer to securitization and other transactions. But what does it mean, and what are its implications for bankruptcy law? This paper sets itself the task of clarifying those two questions. It shows that bankruptcy-remoteness is a goal, with two conceptions ("basic", and "enhanced"): one tries to achieve the insulation of the bankruptcy-remote assets from the bankruptcy of the sponsor; the other tries to achieve their insulation from bankruptcy proceedings altogether. The contrast between these goals and bankruptcy policy provides good ground to contrast the bankruptcy policy views on consolidation/atomization of the estate or contractarianism/judicialism in bankruptcy law. Also, the international mobility of these structures (and the SPVs usually employed in them) provides a good testing ground for the debate on territoriality/universality in international insolvency. Bankruptcy law is mandatory, so in theory the parties cannot exclude bankruptcy proceedings, determine the size of the estate, or choose jurisdiction and applicable law. In practice, however, transaction parties use combinations of mechanisms that allow them to achieve exactly that. The paper does a comparative analysis to study how different jurisdictions (by statute, and, mainly, court decisions) have dealt with those mechanisms in light of the apparent contradiction with bankruptcy principles (principles that are, themselves, the subject of controversy).The results are interesting. Despite attention has been mostly focused on the "basic" notion of bankruptcy remoteness, the partitioning between the sponsor's estate and bankruptcy-remote assets is relatively uncontroversial, and doctrines such as "true sale" or "substantive consolidation", which have acquired an ominous connotation, are empty threats. Peril comes in other forms, which are analyzed in the study.Much more relevant seems to be the courts' perspective on the mechanisms to achieve "enhanced" bankruptcy remoteness, which provides an interesting guidance on how contractarian solutions could work in practice. Since court decisions discuss individual contract mechanisms, rather than the idea of "bankruptcy remoteness" itself, their reaction was often more intuitive than policy-oriented. Contract provisions, however, cannot work miracles, and do not eliminate the underlying conflict between creditors. Also, the approach based on detailed rules can be rigid in hard cases in the absence of interpretative criteria that can replace bankruptcy principles.Finally, the analysis of international cases shows the difficulties of finding an acceptable and predictable setting for these transactions, when existing rules that determine jurisdiction and applicable law rely on a concept of "insolvency proceedings" that is anathema for these structures. Bankruptcy-remote structures provide an interesting (minimalistic) ground to test hypotheses that may be extrapolated to bankruptcy policy as a whole. But the analysis also shows the benefit of observation, before any views are formed.

Coordination of Insolvency Cases for International Enterprise Groups: A Proposal

The most important unsolved problem for international insolvency law is the treatment of enterprise groups or groups of companies. The principal structures for the coordination of trans-border insolvency cases are the UNCITRAL Model Law on Cross-Border Insolvency (1996) and the European Union Council Regulation 1346/2000, Insolvency Proceedings, both are drafted on the assumption that international enterprises doing business or otherwise involved in more than one country are single legal entities, whereas virtually every such enterprise is a group of legal entities. Both UNCITRAL and the European Union are presently working on solutions to this problem. This article proposes a solution to this problem through the creation of an international insolvency case for the enterprise group, which would serve as an umbrella for the insolvency cases of each constituent. The umbrella case would be commenced in the country where the group’s ECOMI (enterprise center of main interests) is located: the ECOMI concept is built on the COMI (center of main interests) concept in the existing international insolvency regimes. The country where the ECOMI case is commenced would then have jurisdiction for the main insolvency proceedings for each of the insolvency cases of the constituent entities – in contrast to the existing regime that requires that the main proceeding for each entity be commenced in the country where its own COMI is located. The article proposes solutions to numerous theoretical difficulties with this proposal, including the extent to which the law of the registered office, instead of the default rule of the law of the forum) should apply to the insolvency cases for each of the entities; forum shopping; the appointment of common professionals (office holders); the expanded use of secondary proceedings in the countries where the respective COMIs are located; providing explicitly for expanded coordination and communication obligations with respect to all of the members of the enterprise group with pending insolvency cases. The article contrasts this proposal with substantive consolidation, which is controversial and should be restricted to limited circumstances. Finally, the article explores the impact of this proposal on the long-standing controversy between the universalism and territorialism approaches to international insolvency law.

A New Approach to Regulating Group Insolvencies: 'Procedural Consolidation' in the Context of National and International Reform Proposals

This paper develops a new approach to regulating group insolvencies: procedural consolidation. Under this approach, multiple proceedings over the assets of group companies are consolidated in one proceeding. However, there is no 'substantive consolidation', i.e., assets and liabilities of the group companies are kept distinct. The paper demonstrates how that approach could be implemented in the European Insolvency Regulation (EIR) and also in the domestic insolvency systems of European Member States such as Germany. The current proposals of the European Commission for a reform of the EIR and of the German Justice Ministry for a reform of the German Insolvency Code ('Insolvenzordnung') are evaluated against this background.

Piercing the Corporate and LLC Veil

Piercing the veil of a corporation has long been possible for a court using its equitable powers to hold equity owners liable for the obligations of the entity, although it is a fact-specific inquiry. The courts make it clear that disregarding the corporate form should be considered a “drastic remedy,” and the “corporate veils exist for a reason and should be pierced only reluctantly and cautiously.” “The mere fact that corporate creditors would go unsatisfied because they cannot reach a shareholder’s personal assets does not, alone, justify piercing the corporate veil.” In other words, if a person invests in a limited liability entity and is not otherwise personally liable for a tortious action or other clear reason, that person’s risk should be limited to the amount of the investment. Piercing the veil of a limited liability company is of more recent vintage, but then limited liability companies (referred to herein as “LLCs”) have only become the entity of choice within the last ten to fifteen years. Colorado appellate courts have recently addressed piercing the veil of both corporations and LLCs in a number of contexts, and have used the same analysis in the corporate context as in the LLC context. Further, piercing is a remedy, not a separate cause of action. “[A]n action to pierce the corporate veil is not a separate and independent cause of action, but rather is merely a procedure to enforce an underlying judgment.” Thus, without an underlying liability, there is no basis for piercing the veil of limited liability. The equitable remedy of “piercing the veil” is not the only basis for holding the owners of an LLC or corporation liable for the debts of the entity. These other bases include provisions under the Colorado Corporations and Associations Act, the Colorado Uniform Fraudulent Transfer Act, the risks of single member LLCs, and the corporate family doctrine which will be discussed hereafter. This updated article addresses the June 2013 Colorado Supreme Court's decision in Weinstein v. Colborne Foodbotics, Inc. which addressed fiduciary duties of managers of an LLC in the “zone of insolvency” and determined that such duties did not exist under the Colorado Limited Liability Company Act. It also includes a discussion of the “corporate family doctrine” used to hold subsidiaries liable for the debts of the parent entity while (perhaps technically) avoiding “substantive consolidation.”

What Determines the Design of Bank Loan Contracts? A New Channel

I investigate whether uncertainties in bankruptcy procedures shape fi nancial contracting in the U.S. syndicated loan market. Utilizing a novel hand-collected data set, I exploit the application of substantive consolidation procedure, which is probably the most debated issue in U.S. bankruptcy courts. This procedure has two unique features: i) banks have unexpectedly large losses on their unsecured loans since in the court rooms the existing seniorities are removed, resulting in billion dollar allocation changes between the creditor groups; ii) since there is no specifi c provision in the U.S. Code, there is consensus in the law literature that this procedure has no theoretical background and its application is highly unpredictable. I conclude that after exposure, banks write more secured credit and tighter covenants in their new loans to other firms, even after controlling for bank capitalization, borrower and time fixed e ffects. To my knowledge, this is the fi rst paper to show that uncertainties in the bankruptcy procedures provide an important friction in the loan market. Moreover, my work complements the previous literature by providing a new channel for the determinants of optimal financial contracts. Results of this paper are also important for policy makers, who want to ease bank lending standards.

INSOL Europe's Proposals on Groups of Companies (in Cross‐Border Insolvency): A Critical Appraisal

AbstractInternational bodies have started addressing the problem of cross‐border insolvency of corporate groups fairly recently. The United Nations Commission on International Trade Law has adopted a set of recommendations and the European Commission may tackle the matter in the near future, in the process of revising the European Insolvency Regulation (the ‘Regulation’). It is, therefore, timely to evaluate major proposals for the Regulation's amendment regarding groups, suggested by INSOL Europe. The paper critically evaluates the proposals regarding coordination of group cases and the concept of substantive consolidation. This evaluation takes account of both the variety of possible group structures and the goals the insolvency regime would aim to achieve. Copyright © 2012 INSOL International and John Wiley & Sons, Ltd.

Substantive Consolidation in U.S. Bankruptcy Court - A case study of Lehman Brothers' bankruptcy proceeding

Substantive Consolidation in U.S. Bankruptcy Court - A case study of Lehman Brothers' bankruptcy proceeding

Prevalence of Substantive Consolidation in Large Public Company Bankruptcies from 2000 to 2005

This empirical study examines large public company bankruptcies to identify the frequency of use of substantive consolidation as a reorganization technique. The study considers a number of variables in an attempt to identify when and why this technique is used. The tentative conclusion reached is that substantive consolidation is used as a case management technique to simplify case administration rather than as a technique to manage bankruptcies of companies with complicated corporate structures as measured by reported asset size or reported numbers of significant subsidiaries.

Prevalence of Substantive Consolidation in Large Bankruptcies from 2000-2004: Preliminary Results

This preliminary study highlights the importance of substantive consolidation doctrine to large public company bankruptcies. The study provides a definition of Substantive Consolidation Bankruptcy and then studies original sources for the top 21 bankruptcies during 2000-2004, measured by pre-filing asset size, to determine the extent to which the doctrine of substantive consolidation informs our largest restructurings. Secondary source materials also are analyzed for bankruptcies with prefiling assets in excess of $100 million for 2000-2004 and 1990-1999. The study aims to show the extent to which negotiation of reorganization plans takes place in the shadow of the doctrine of substantive consolidation.