How financial institutions reorganise via creditor committees?

By Wang Zhenxiang, Jingtian & Gongcheng
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When heavily indebted non-financial companies suffer a liquidity crunch or default on repayment, creditors can often panic and spark an all-out scramble to recover their money that seems to be intent on squeezing the debtor company dry. To provide a more orderly resolution of companies’ debt problems, regulators are gradually improving and expanding the system of financial institution creditor committees, requiring members to analyse and determine each debtor enterprise’s restructuring and reorganisation options on a systematic, case-by-case basis.

At the same time, big companies such as Dongbei Special Steel and Wintime Energy are attempting to process their own debts and enter reorganisation via creditor committees.

How creditor committee works

The Reform Plan for Accelerating Improvement of the Exit System for Market Participants, jointly released by the National Development and Reform Commission and 12 other departments, called for the development of the creditor committee system and the clarification of the procedural conversion and decision recognition mechanism between creditor committees of financial institutions and the courts.

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Wang Zhenxiang
Partner
Jingtian & Gongcheng

According to the Work Procedures of Financial Institutional Creditors’ Committees jointly released by the China Banking and Insurance Regulatory Commission and three other departments in December 2020, financial institutions now permitted to initiate a creditor committee include, in addition to banks, bancassurance institutions with creditors’ rights (or which have asset management products with creditors’ rights) lawfully serving as bond trustees, as well as securities and fund operators.

Consultative, self-regulatory and temporary, a creditor committee comprises no less than three financial institutions with creditors’ rights, depending on the hierarchy, size and business complexity of the debtor company. Two institutions will serve as president and vice-president of the committee, which will lead a committee work group to comprehensively, accurately and in a timely fashion share critical information with all members via communication with the debtor company and other non-financial creditors.

Under the organisational structure, rules of procedure, work process and decision-making mechanism set out under the creditor agreement entered into by all members, the committee deliberates and makes decisions on financing adjustments, debt restructuring and bankruptcy. The work procedures further laid out the different roles to be assumed by committee members, industry associations and regulators in debt restructuring and reorganisation.

Linking up

Current judicial practice indicates that out-of-court restructuring must be linked up with reorganisation to yield the best results. As financial institutions often have the largest share of creditors’ rights in bankruptcy and reorganisation, creditor committees, as provisional organisations working alongside financial institutions, are able to substantially contribute to the linkage between out-of-court and in-court procedures.

First, creditor committees effectively repair the information asymmetry between financial institutions and debtor companies. This prevents institutions from aggressively seeking financial or judicial punishment, causing indebted companies to rush into reorganisation for fear of a further decline in their asset value or solvency. Considering that reorganisation plans are required by law to be put to a vote within nine months, inadequate communication and consideration may seriously impair the prospects for finding reorganisation investors and the voting procedure.

Second, compared with governments, courts or administrators, financial institutions are naturally more familiar with the market, and therefore in a superior position to determine the prospects and reorganisation value of debtor companies. Committees are further able to analyse the market value and outlook of the companies’ products or services, which can prove very valuable for soliciting future investors or voting on the reorganisation plan.

Third, creditor committees, established on the principles of “marketisation and rule of law”, can help unify the opinions of financial institution creditors. This makes the committee an ideal platform for financial institutions to participate in the bankruptcy, as it helps deter the reorganisation investors and administrators from ignoring what may be the diverse opinions of individual financial institution creditors, while also lowering the latter’s costs for exercising the rights to supervise the bankruptcy proceedings.

Finally, owing to the professionalism of its members and co-operating agencies, creditor committees can recommend qualified reorganisation investors and administrators to the court. This speeds up the reorganisation process, which in turn reduces losses caused by the moratorium on interest accrual and the risks of the debtor companies suffering from a massive drop in solvency due to exceeding the above-mentioned nine-month limit.

Suggestions

A creditor committee may, on behalf of its members, recommend lawful, independent, fair and just administrators to the court. Relying on their own managerial expertise, committees may also communicate with the debtor companies, local governments and courts to determine if the debtor company should manage its own debt, and if yes, come up with a plan. This means that debtor companies no longer require an independent decision from the court or have to wait until a decision is made at the first creditors’ meeting on the issue of self-administration, avoiding any administrative vacuum or solvency decline during reorganisation.

While performing its duties, a creditor committee may engage accounting firms or law firms to advise on matters such as whether the debtor company should enter reorganisation, rights protection and supervision rights of financial institution creditors, and negotiations on the reorganisation plan. Moreover, they may seek co-operation with financial asset management companies and local asset management companies to provide integrated financial services to assist financing and operations during a company’s reorganisation.

Taking advantage of the members’ expertise as financial advisers, creditor committees direct their sub-groups to participate in solicitation of and negotiation with reorganisation investors, and help to clarify the financial institutions’ opinions on the method and term of repayment. This effectively prevents the debtor companies from going into liquidation due to the reorganisation plan being passively accepted or voted down.

Members should be clear on their internal workflow and responsibilities regarding the creditor committee, as well as the authorisation mechanism for attending committee meetings. Before any major decisions, such as whether a debtor company should enter reorganisation, members should independently analyse the situation and cast their vote prudently.

Once effective, the decision must be duly carried out, lest the member be held accountable by regulators. In addition, members may retain their own interests while participating in, voting in and exiting from the creditor committee. The enforceability of the creditor agreement does not mean that a member’s own rights and interests should be limited.

Wang Zhenxiang is a partner at Jingtian & Gongcheng

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