Practical advantages of pre-reorganisation in corporate rescue

The pre-reorganisation system serves as a transitional mechanism between out-of-court restructuring and formal bankruptcy reorganisation. It is being increasingly applied to help courts more accurately assess a company’s reorganisation value, facilitate preparatory arrangements for proceedings, and ultimately improve the efficiency and success rate of corporate rescue.

The origins

The pre-reorganisation system originated in US judicial practice as a mechanism for rescuing distressed companies. A landmark case in 1986 involving Crystal Oil Company pioneered the procedure, enabling approval of a reorganisation plan before formal filing of a reorganisation application.

This innovative approach helped the company overcome financial difficulties and achieve a successful turnaround.

The Asian financial crisis further accelerated global adoption of the system and, in 2006, the UN Commission on International Trade Law incorporated pre-reorganisation into its Legislative Guide on Insolvency Law.

It defined the system as a “procedure initiated to give effect to plans negotiated and agreed upon by affected creditors during voluntary restructuring discussions prior to the commencement of formal proceedings”.

In China, pre-reorganisation is not yet a formal legal system. But it has seen increasing application in practice and played a significant role since the Supreme People’s Court first proposed “strengthening research and exploration of the pre-reorganisation system” in its 2017 Several Opinions on Providing Judicial Safeguards for Improving the Business Environment.

Practical function

The core function of pre-reorganisation lies in its preparatory value, extending its impact into the formal reorganisation process. Activities conducted during pre-reorganisation – such as creditor claims, audits and evaluations, investor recruitment, plan formulation and voting outcomes – can carry over into the formal reorganisation proceedings.

Initiation of the reorganisation process also serves as judicial confirmation of the pre-reorganisation outcomes.

Statistics show that in 2023, 13 out of 14 listed company reorganisation cases utilised the pre-reorganisation procedure. These cases took an average of about 70 days from acceptance to approval of the reorganisation plan, with the shortest duration being only 25 days. Compared to conventional reorganisation procedures, this demonstrates significantly improved efficiency.

Pros and cons

The pre-reorganisation system effectively addresses the shortcomings of out-of-court restructuring and bankruptcy reorganisation. It alleviates concerns over the irreversible nature of formal bankruptcy reorganisation, assists courts in accurately determining the debtor’s reorganisation value and feasibility, and promotes amicable multi-party negotiations.

Together, out-of-court restructuring, pre-reorganisation and judicial reorganisation form a systematic corporate rescue framework, offering distressed enterprises more options and safeguards, simplifying reorganisation procedures, reducing costs, and enhancing efficiency and success rates.

However, the system faces inherent limitations due to lack of procedural standardisation. The absence of unified regulations has led to significant regional disparities in its application, guidance and practices, fostering case-specific approaches that undermine judicial consistency.

Additionally, pre-reorganisation does not provide bankruptcy protection such as interest suspension, release of preservation measures or halting of enforcement actions, making the implementation of related tasks challenging.

Application trends

Against the backdrop of the Enterprise Bankruptcy Law requiring further refinement, emergence of the pre-reorganisation system is timely.

It effectively addresses issues such as reorganisation review and procedural timelines, while its evolving practice offers valuable insights for improving the bankruptcy reorganisation framework.

In recent years, use of the pre-reorganisation system in listed company reorganisation cases has risen significantly, playing a crucial role in cleansing the securities market. Statistics show that, from 2020 to 2024, there were 91 pre-reorganisation cases involving listed companies, with 24 cases in 2024 alone – triple the seven cases recorded in 2020, reflecting a notable growth rate.

In 2024, all 11 listed company reorganisation cases accepted and approved by courts utilised the pre-reorganisation procedure, meaning 100% of the cases adopted this process.

Recommendations

In recent years, the theory and practice of the pre-reorganisation system have seen significant advancements, playing an increasingly vital role in corporate rescue efforts. It has effectively enhanced stakeholder engagement and improved reorganisation success rates.

However, certain barriers and challenges remain that require urgent resolution:

Accelerate rule refinement and unify legislative standards. More than 85 pre-reorganisation-related rules have been issued by courts across various regions. But significant regional disparities undermine judicial consistency and standardisation. It is imperative to unify legislation and rules to ensure coherence.

Establish reasonable timelines to enhance effectiveness. Between 2021 and 2023, the average duration of pre-reorganisation for listed companies was about six months, ranging from as short as six days to as long as 17 months. Some cases experienced up to 15 extensions, severely disrupting expectations for pre-reorganisation.

Clear and standardised time limits or guidelines are recommended to address this issue.

Strengthen institutional safeguards and provide necessary procedural tools. Distressed companies often face high financial costs, restricted assets and creditor competition for valuable resources.

Without adequate protective measures during pre-reorganisation, opportunities for debtor rescue can be lost, significantly weakening the effectiveness of bankruptcy reorganisation.

It is recommended to introduce institutional safeguards within the pre-reorganisation process to address these challenges.

Zhang Yao is a partner at Han Kun Law Offices. He can be contacted by phone at +86 216080 0386 and by email at yao.zhang@hankunlaw.com
Wang Xiang is an associate at Han Kun Law Offices. He can be contacted by phone at +86 21 6080 0520 and by email at xiang.wang@hankunlaw.com