Cross Border Insolvency “From Teritorialism To Universalism To Modified Universalism”

mukesh chand

24 Sep 2018 5:25 PM GMT

  • Cross Border Insolvency “From Teritorialism To Universalism To Modified Universalism”

     “Exercising discretion and applying the law locally is hard enough (for a judge). Doing so in an international setting “ups and ante” especially when the notional claim amounts exceed $1million as they did in Lehman”[i] The above statement perhaps brings out the true state of challenges and complexities which cross border insolvency proceedings throw open at international arena....

     “Exercising discretion and applying the law locally is hard enough (for a judge). Doing so in an international setting “ups and ante” especially when the notional claim amounts exceed $1million as they did in Lehman[i]

     The above statement perhaps brings out the true state of challenges and complexities which cross border insolvency proceedings throw open at international arena. The challenges still linger on despite the system having handled the cases of the complexities and dimension such as Nortel Network Corp, Lehman Brothers and Maxwell Communications Corporation plc. This paper tries to capture the journey of Cross Border Insolvency (CBI) from “Grab rule to international co-operativism” as the world economic order attempts to maximize value of the enterprise for the collective benefit of stake holders.

    As the business leave national boundaries in its pursuit to capture world market it faces many challenges and has to keeps on evolving, adjusting to local cultural sensevities, economic conditions, local aspirations, polity and policy as also law. Law is struggling to keep pace with the rapid internationalization of business especially when it comes to insolvency of such businesses. CBI is a complex system and interplay of many legal systems and remains a challenge for risk assessment. This is especially so because much of the local legislations were drafted keeping in view the local needs and conditions. Business is ever evolving and so are the financial system, structure and transactions operating at international level. CBI needs “greater realization of risk involved in multiple litigations” and acceptance of “judicial and jurisdictional restraint” and “creditor autonomy” over local claims.

    Territorialism:   Territorialism as the term itself explains, is based on the principle of supremacy of local jurisdiction and recognizes multiple proceedings operating in different and diverse national systems and leads to a “divided administration of debtor’s insolvency[ii]”. This limits the effect of insolvency of an enterprise to the local limits of the country where insolvency proceedings are initiated. It does not recognize or give effect to the proceedings initiated in other countries. This principle is based upon state sovereignty and vested rights of local players. Under this system action may be initiated against a debtor and its assets independently in different countries where such assets might be located. Due to emphasis on localism, this system is also sometime called “Grab Rule[iii]” as different legal systems apply their own law in respect of a single debtor with no regard to proceedings in foreign states. Thus, it practically de-globalise the business and fails to work for collective benefit of stake holders and totally disregards the fact that even a domestic enterprise may have assets and financial transactions and creditors in many jurisdictions across many countries.

    Universalism:  While territorialism works on the principle of “One Debtor – Diverse systems-and proceedings”, the Universalims, on the other hand, proceed on the premise of “One Debtor- Unified system and proceeding”. The Unity Principle, on which it is based, suggests that insolvency of a debtor having business operations and interest across many countries should be subjected a single and unified insolvency process encompassing all assets and claims. Under this system a single court administers multinational cases and applies a single insolvency law to creditor claims, distribution of assets, procedural issues and would need a single universal court system. This system, to a greater extent, addresses need of an evolving globalised business entity. The system, however, heavily rely on international treaty for its success.

    Aim of an effective insolvency regime is maximization of value of enterprise through a fair procedure with a view to minimize the cost, time, waste and complexities involved in multiplicity of litigations. It should cover and take care of interest of all stakeholders without any discrimination. But such system requires a limited surrender of sovereignty by states in cross border insolvency.

    Global enterprise requires a global approach so that commercial value could be maximized and issues could be addressed as whole and group-wide solutions could be evolved. Further, timely and time bound resolution or revival process is sine qua non for any effective insolvency process, delay and multiplicity of litigation could effectively rule out maximization of value. Diverse control of entity and its liquidation under diverse legal process could also negate a maximized resolution and revival. Therefore, in the absence of a global approach, there is risk of fragmentation of the business, including premature liquidation of entities to satisfy creditors’ claims in jurisdictions where entities operate or have assets[iv].

    International Developments and Efforts:  Before we discuss the evolving concept of modified universalism, it would be ideal to discuss in short the developments and efforts being made at international level to address the challenges facing CBI.

    Leading Cases: The cases show how a creative approach can help in resolving complex issues.

    • Maxwell case[v]: - Avoidance Rule: Choice of Law: Exercise of Local jurisdiction: Collapse of Maxwell Communication Corp was preceded by suicide by its founder Mr. Robert Maxwell and revelations about shocking financial transactions. The business of Maxwell was administered and its financial affairs were managed from London while its assets were located in the United State. This resulted in duplicate proceedings in UK and US (Chapter 11). The issue concerned alleged preferential payments made by Maxwell to three Banks within ninety days period to insolvency filing. Out of the three banks two were in UK and one in France. The transfers were largely made from offices in UK and some were from proceeds realized out of sale of assets in US. Dollar payments were however, from New York. As per the law prevalent, the transactions were avoidable as per US Law but not avoidable under British Law.In view of this, the British insolvency administrator was compelled to move application in US to avoid the payment to European Banks.  Barclay Bank, one of the beneficiaries of the payments, sought an injunction in UK to prevent the administrators from taking recovery action in US and argued that action (payments) should be determined in England in accordance with English Law. However, the courts in UK refused the injunction holding that where the foreign proceedings were not vexatious or oppressive, it was for the foreign court to decide whether or not it was the appropriate forum. On the other side in US, the Bankruptcy Court (Maxwell Communication Corporation plc vs Societe Generale)[vi] basing its decision on the doctrine of international comity, held that it should dismiss the proceedings to be governed by English Law where primary interest lied.The case is also significant as it set up establishment of protocol between two countries to facilitate smoother resolution of bankruptcy proceedings in US and UK.  Courts authorized respective joint administrators to enter into protocol which governed their relationship, consultation and initiation of proceedings. Justice Hoffman of UK summarized the effect of co-operation by saying that  “ …. These accomplishments which, we think, are attributable in large measure to the cooperation between the two courts overseeing the dual proceedings – are well worth preserving and advancing. This collaborative effort exemplifies the ‘spirit of cooperation’ with which tribunals, guided by comity, should approach cases touching the law and interest of more than one country”.

    • Lehman Brothers – Issue - consensual plan- Ipso facto clauses. Lehman Brothers, is another foremost case which needs to be discussed for the simple reason that this case presented all the complexities that might be involved in a cross border insolvency case. The operation of the firm was spread in about sixteen countries governed by different legal systems of common law and civil law and also domestic laws. However, insolvency administrators across the globe coordinated and entered into protocols covering efficient claim management. The Lehman Protocol allowed insolvency representatives to appear and be heard in other jurisdictions, facilitate communication among courts, preserve assets and maximize recoveries, reconcile claim and adjust distribution to ensure that creditors would not receive multiple recoveries on the same claim from various jurisdictions. Such protocols while facilitated soother co-ordination amongst insolvency administrators, preserved and maintained independent jurisdiction, sovereignty and authority of all tribunals. UK administrator, however, elected to go alone but the protocol was preceded and became basis for Lehman’s consensual plan which was ultimately approved in December 2011.

    • Nortel Networks Corp - Cooperation between insolvency Courts: In January 2009, Nortel Netwrok Corp and its Canadian debtors filed for insolvency under Canadian Law. The US debtor filed insolvency under Chapter 11. Companies in EU, Middle East and Africa were under UK Insolvency Law. Reorganization of Nortel Group required the companies to continue trading but this was impossible if secondary proceedings were initiated in respect of group companies. Therefore, on request of local administrator English court allowed application for EU courts to give the administrators prior notice of any application in their local jurisdictions to open secondary proceedings, as well as an opportunity to be heard on any such application. The Court held that it had power to send such letters under its inherent jurisdiction and under Art. 31 Section 2 of EU Insolvency Regulation. Although Article 31 Section 2 only required that administrator cooperate with each other, the court considered that this should reflect a wider obligation concerning the cooperation between Courts which exercise control of insolvency procedure in their respective jurisdiction.

    • Casse Vs Key Nat’l Bank Ass’n[vii]- American Court’s Power to approve protocols- Section 105 of US Bankruptcy Code empowers the court to issue orders, process or judgment that are necessary or appropriate in order to carry out the provisions of Bankruptcy Code. Courts may exercise such power to approve protocols. Further, Section 1525 requires foreign courts and representatives to cooperate.

    Other Important Cases:

    • Ackers Vs Saad Investment Company Ltd[viii]. This case illustrates that despite a country implementing Model Law, the courts still get influenced by local interest and are tempted to provide relief influenced by territorialist tendencies.Saad Investment Company Ltd (Saad) had a Cayman Island Company but held assets in Australia to the tune of $7 million. It also had a tax liability to Australian Tax Dept. However, the Company could not be wound up in Australia for recovery of tax dues as it was neither carrying on it business nor was it registered in Australia. On the other hand, in Cayman Island claims for tax from a foreign country were not recognized. Saad was ordered to be would up by Cayman Islands Grand Court. The administrator moved Australian Court to get dual recognition of foreign main proceedings and him being recognized as the authorized representative which was allowed. The administrator thereafter, tried to remit the Australian assets of Saad from Australia to Cayman Islands to be included in the distribution of assets in liquidation of Saad in Cayman Islands. However, Australian Tax Commissioner sought injunction against this which was allowed by Australian Court by holding that the objective of the Model Law was fair and efficient administration of cross-border insolvencies and protect the interest of all creditors and other interested persons, including debtor. Later on, the Court observed that if the Australian assets of Saad were remitted without the commissioner being allowed to prove for tax dues, the unsecured creditor of Saad would unjustly benefited which would be contrary to the fair and efficient administration of Saad Investments. The Court ordered that Tax Commissioner in Australia would be entitled to recover from Saad Investment assets in Australia up to the pari passu amount that he would be entitled to receive as a dividend were he entitled to be admitted to prove for the tax debts as an unsecured creditor in the Cayman Islands liquidation.

    • The case of Yu Vs STX Pan Ocean Co. Ltd (South Korea)[ix] also show that despite implementation of Model Law, and recognition of foreign main proceedings, the local court could still accommodate claim by local creditors.

    Attempts at International Level to evolve a model Law to deal with cross border insolvency:

    • 1998: On 30 January 1998 UNCITRAL adopted framework for cross border insolvency also known as Model Law on Cross-Border Insolvency [MLCBI] of the United Nations Commission on International Trade Law[x].

    • UNCITRAL Legislative Guide on Insolvency Law: UNCITRAL Legislative Guide provides a comprehensive statement of the key objectives and principles that should be reflected in a State's insolvency law. It is intended to inform and assist insolvency law reform around the world, providing a reference tool for national authorities and legislative bodies when preparing new laws and regulations or reviewing the adequacy of existing laws and regulations. Part one and two of the Legislative Guide was completed in 2004 discusses the key objectives and effectiveness of an insolvency law. Part three of the Legislative Guide was adopted in 2010 and it focuses on the treatment of enterprise groups in insolvency, both nationally and internationally. Part four established in 2013 focuses on the obligation of the decision makers of the enterprise in insolvency. Each part of the Legislative Guide presents a detailed series of legislative recommendations, which include a discussion of various options and approaches

    • World Bank also laid down guidelines in the form of “Principles of Effective Insolvency and Creditor Rights System[xi]. The Principles were originally developed in 2001 in response to a request from the international community in the wake of the financial crisis of the late 1990s. At that time, the principles constituted the first internationally recognized benchmarks to evaluate the effectiveness of domestic creditor/debtor rights and insolvency systems. Based on the practical experience gained from use of the principles, and following extensive consultations, the Principles have been revised in 2005, 2011 and 2015.

    • Principles for Effective Insolvency and Creditor/Debtor Regimes: World Bank and UNCITRAL, in consultation with IMF, designed the Insolvency and Creditor Rights Standard(the “ICR Standard”) to represent the international consensus on best practices for evaluating and strengthening national insolvency and creditor rights systems. The ICR Standard does this by combining the World Bank Principles for Effective Insolvency and Creditor/Debtor Regimes and the UNCITRAL Legislative Guide on Insolvency Law..

    • UNCITRAL Legislative Guide along with World Bank Principles constitute the international best practice standard for insolvency regime. And these standards are one of standards recognized by FSB to be broadly accepted as representing minimum requirement for good practice that countries are encouraged to meet or exceed.

    • Model Law on the Recognition and Enforcement of Insolvency Related Judgments: Due to the issues arising out of and uncertainity regarding recognition and enforcement of foreign judgments, more especially in the case of Rubin Vs Eurofinace[xii] SA, UNCITRAL WORKING GROUP V was initiated to work on draft Model Law on the Recognition and Enforcement of Insolvency Related Judgments. The Group submitted its report titled Report of Working Group V (Insolvency Law) on the work of its fifty-third session (New York, 7–11 May 2018)[xiii]. The Group submitted its recommendation in May 2018 - Report of Working Group V (Insolvency Law) on the work of its fifty-third session (New York, 7–11 May 2018).[xiv]

    • In 2010 Basel Committee called for enhanced coordination among resolution authorities as a middle ground approach between territorialism ad universalism. It also recommended an alternative approach based on a more universal framework through a binding instrument or treaty and favored a resolution in jurisdiction in which the institution is headquartered or by a Supranational entity[xv].

    • Initiative by Judges- 2016: In 2016 judges of world established a Judicial Insolvency Network (JIN) and developed Guidelines for Communication and Cooperation between Court in Cross-Border Insolvency Matters, which were formally adopted by Courts in several countries, including Singapore, England and Wales.

    • European Union: In 1970 Europe draft Convention provided for single proceedings (with exclusive competence to decree bankruptcy conferred on the Courts of State in which the debtor's centre of administration was located) which would be recognized in the other Contracting States, and parallel local proceedings were not permitted in those other States. The principles of "unity" (a single proceeding for the whole territory of the Community) and "universality" (the proceedings comprise all debtor's assets, wherever located) which governed the proceedings. Negotiations were also initiated within the Council of Europe which culminated in the adoption of a "European Convention on Certain International Aspects of Bankruptcy", opened for signing in Istanbul on 5 June 1990 hereafter referred to as the "1990 Istanbul Convention".

    • International Bar Association (IBA) has also developed a Model International Insolvency Cooperation Act (1989) and again in 1996 it approved a Cross-Border Insolvency Concordat which provided some generalized principles to guide harmonized cross- border insolvencies. Later on these initiatives were taken over by UNCITRAL.

    • In 2010 EU Parliament revisited the concept of uniform insolvency law based on report on the Harmonisation of Insolvency Law. Again in 2016 The EU Commission issued Directive to harmonise law on preventive restructuring frameworks and measures to increase the efficiency of restructuring, insolvency and discharge procedure.

    • Cross Border Insolvency Agreements (CBI Agreements): Influenced by Customary International Law for dealing with cross – border insolvency, CBI agreements are growing especially after “Guidelines Applicable Court to Court Communication in Cross Border cases” by American Law Institute and the European Commission & “Cooperation Guidelines for Cross-Border Insolvency” adopted by INSOL Europe in 2008 and UNCITRAL Practice Guide on Cross-Border Insolvency Cooperation of 2009.

    • Uniform Choice of Law, Rules: There has been positive development in acceptance of the Rule by way of convention and treaties. Nordic Convention on Bankruptcy between Norway, Denmark, Finland Iceland and Sweden, which was concluded in 1990, accepts the principle that the place of insolvency adjudication as the determining factor and accepted in all members states without further formalities.

    • EU Insolvency Regulation (EIR) (2002): Under EIR law of ‘home state’ is accepted as main proceedings throughout EU. Even Revised EIR also recognizes and applies the insolvency law of the state of the opening proceedings for all purposes.

    • Even under UNCITRAL Legislative Guide on Insolvency Law (2004) recommendation 30-34 address the law applicable to validity and effectiveness of rights and claim, law applicable to insolvency proceedings and exceptions thereto. ALI has also laid down Global Rules on Conflict-of-Law Matters in International Insolvency Cases. Principle 13 deals with issue of ‘International Jurisdiction’ and suggests that the debtor’s centre of main interest (COMI) should be the deciding factor for choice of law.

    • United States: US adopted the Model Law in 2005 and incorporated Chapter 15 in the Bankruptcy Code by the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005. The purpose is to provide effective mechanisms for dealing with insolvency cases involving debtors, assets, claimants, and other parties of interest involving more than one country. Chapter 15 gives the foreign representative the right of direct access to U.S. courts for this purpose. Bankruptcy Courts are authorized to issue an order recognizing the foreign proceeding as either a “foreign main proceeding” (a proceeding pending in a country where the debtor’s center of main interests are located) or a “foreign non-main proceeding” (a proceeding pending in a country where the debtor has an establishment, but not its center of main interests). Immediately upon the recognition of a foreign main proceeding, the automatic stay and selected other provisions of the Bankruptcy Code take effect within the United States. The foreign representative is also authorized to operate the debtor’s business in the ordinary course. It also gives foreign creditors the right to participate in U.S. bankruptcy cases and it prohibits discrimination against foreign creditors (except certain foreign government and tax claims, which may be governed by treaty).

    • The UNCITRAL Model Law has also been adopted (with certain variations) in Canada, Mexico, Japan and several other countries. Adoption is pending in the United Kingdom and Australia, as well as other countries with significant international economic interests. Two rulings of UK Courts also pose a challenge to acceptance of the above principle. The first being of the Supreme Court in the case of Rubin and another Vs Eurofinance SA and other [xvi] where the UK Supreme Court refused to enforce a judgment of the main proceedings under common law and second case is that of Privy Council in the case of Singularis Holdings Limited Vs Pricewaterhouse Cooper[xvii] where Privy Council held that ‘the principle of modified universalism is part of the common law but it is necessary to bear in mind, first, that it is subject to local law and local public policy and secondly, that the court can only ever act within the limits of its own statutory and common powers.

    Modified Universalism: As discussed earlier, while the territorialism works on the principle of “One Debtor – Diverse systems-and proceedings”, the Universalims on “One Debtor- Unified system and Proceeding”, the Modified Universalism – works on the principle of cooperation and coordination between main and secondary proceedings while retaining superiority of main proceedings and try to work out solution in the collective interest of all stake holders. Thus, it is a journey from Unity to Universalism to Universal cooperation.

    While based on the basic concept on Universalism, modified universalism, however, recognizes the main as well as non main proceedings, a range of relief that should be provided to foreign proceedings, assistance of foreign courts and representatives, and mechanism to enhance cooperation coordination between courts and insolvency representatives.

    Events and authorities as mentioned above, show that the world of insolvency has moved from “one-size fits-all solution” to modified universalism. The term ‘modified universalism’ was introduced by Professor Westbrook[xviii] in his book ‘Choice of Avoidance Law in Global Insolvencies. It is said that universalism in its pure form provided a theoretical model which transform a collective local insolvency into global one. However, this needs to be adjusted to the requirement of real world. But, as said by Kipnis[xix], this transformation cannot match real-world circumstances without modifications. This is because even global businesses practically operate in different jurisdiction where laws, cultures, business practices, institutional framework etc are different.

    As also mentioned earlier in this write up, modified universalism requires some loss of sovereignty and control to achieve universal goal. It requires states to accept the principle of COMI for certainty as regards jurisdiction of forum and choice of law. It requires centralization of process in the form of ‘single forum’ approach where one country where the entity has presence, will have international jurisdiction and preside over entire estate of debtor across multiple states. Modified universalism also require that the principles for recognition of foreign judgment/forum, assistance and cooperation and enforcement also need to be understood and practiced. It emphasize that there should be level playing field for all stake holders so that both national and international stakeholders have equal access and participation in the insolvency process of debtor.

    Courts in UK and US have given due recognition to the above. In Re BCCI, the court held that local creditors should not be favored and assets should not be ring-fenced[xx]. Similar approach is adopted by Courts in US[xxi] where it was observed that … the broad scope of bankruptcy jurisdiction under United State law is intended to permit similarly situated creditors regardless of where they are located, to be equally treated in bankruptcy or reorganization cases.

    Conclusion: Thus, CBI is still work in progress. However, principles and practices based on modified universalism could lead to a more effective and acceptable solution. It is suggested by scholars that modified universalism can crystallize into binding law in the form of customary international law. They are of the view that treaty could provide long term regime as it could take care of compliance issues. Further, domestic insolvency law, systems and practices would also need to be strengthened in tune with MLCBI, which would then take care of lots of issues which pose challenge for CBI.

    To Conclude the following quote from World Bank Report succinctly captures the need for efficient and effect CBI system:

    Efficient and predictable Insolvency and Debt Resolution frameworks are key drivers to improve financial inclusion and increase access to credit, which may lead to the reduction of the cost for obtaining credit. Increased access to finance enhances enterprise growth, which in turn leads to preserving employment, growth and the creation of new job opportunities.

    Author Mukesh Chand is General Manger (Legal), Small Industries at Development Bank of India

    [i] Hon’ble Judge James Peck who presided over Lehman bankruptcy

    [ii] Flectcher, Insolvency in Private International Law

    [iii] LA Bebchuk and AT Guzman, ‘An Economic Analysis of Transnational Bankruptcies.

    [iv] Insolvency within Mulitinational Enterprisae Groups- Mevorach.

    [v] In Re Maxwell Communication Corp. 170 BR, 800

    [vi] 170 BR 800 (Bankr SDNY 1994)

    [vii] In re Casse V Key Nat’l Bank Ass’n – 198 F. 3rd 327, 336 (2nd Circuit, 1999)

    [viii] [2013] FCA 738 (30 July 2013)

    [ix] [2013] FCA 680 (Australia)


    [xi] Drafted in 2001 and revised I 2005.

    [xii] [2012]UKSC 46


    [xv] Bank for international Settlement, Basel Copmmittee on Banking Supervision Report and Recommendations of the Cross-Border Resolutioon Group (March 2010)

    [xvi] [2012] UKSC 46

    [xvii] [2014] UKPC 36

    [xviii]  Westbrook, ‘Choice of Avoidance Law in Global Insolvencies.

    [xix] Kipnis, Beyond UNCITRAL: Alternatives to Universalims.

    [xx] In Re BCCI [1997] No 10 Ch 213

    [xxi] Flexitowe Dock and Railway Co Vs U S Line Inc [1989] QB360

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