Distressed M&A in the Polish market
May 2018 | EXPERT BRIEFING | MERGERS & ACQUISITIONS
Legal developments in recent years have created new opportunities for investment in Polish distressed businesses. On 1 January 2016, the new Polish Restructuring Law entered into force and the Polish Bankruptcy Law was substantially amended, providing a new legal environment for distressed M&A transactions.
The preservation of a debtor’s enterprise has always been one of the main aims of Polish bankruptcy proceedings. In the context of a liquidation bankruptcy, this meant that the court-appointed trustee was to make efforts to sell the business of the debtor as a going concern. This was difficult within the framework of lengthy bankruptcy proceedings. In particular, upon the debtor becoming subject to bankruptcy proceedings, there is typically a rapid further deterioration of the debtor’s business resulting from the loss by the debtor of any remaining liquidity, its best employees and its credibility in the eyes of its business partners. Consequently, by the time the bankruptcy proceedings had finally reached the point where the debtor’s enterprise was prepared for sale by the trustee, it may no longer have been a going concern or, at the very least, its value may have significantly decreased.
The amendment to the Polish Bankruptcy Law which came into force in 2016 was prepared by a legislative group of insolvency practitioners, including judges, legal practitioners and business people. Taking into account experiences gathered from more than a decade of applying the old Polish bankruptcy and reorganisation law, the expert group profoundly amended the insolvency proceedings system in Poland. In terms of M&A, one of the most important changes was the introduction of a pre-packed acquisition procedure, which essentially allows the debtor’s business to be taken over on ‘day one’ following the opening of bankruptcy proceedings.
Obviously, not all enterprises are suited to a pre-packed sale and, in such cases, the Polish Bankruptcy Law or the new Polish Restructuring Law offer alternative solutions. However, over the first two years since its introduction, the pre-pack procedure has been quite successful.
Acquisition of a business within bankruptcy proceedings and pre-packed sale
The ordinary result of bankruptcy is the liquidation of the debtor’s assets and the division of the proceeds among its creditors in accordance with specified priorities. Often, the highest value for the assets will be yielded by the sale of the debtor’s enterprise in its entirety and give affect to such a sale is one of the main goals of the court-appointed trustee.
The primary benefits of acquiring an enterprise within bankruptcy proceedings are that the acquirer has no liability for the bankrupt’s debts and any and all encumbrances established over the purchased assets are released. Effectively, the buyer purchases a clean business.
Once the bankruptcy proceedings are opened, the court-appointed trustee prepares an inventory and valuation of the assets within the bankruptcy estate, and draws up a liquidation plan, both of which are to be submitted to the judge-commissioner within 30 days of the opening of the bankruptcy proceedings. In theory, the liquidation of the bankruptcy estate should be accomplished within six months of the opening of the bankruptcy proceedings. In practice, that deadline is rarely met.
The liquidation of the bankruptcy estate is, in principle, conducted by way of a public tender offer or an auction. However, according to the prevailing views in Polish legal doctrine, the creditors’ council may allow the debtor’s enterprise or an organised part of it to be sold to an identified bidder outside such a procedure. Alternatively, the sale of an enterprise may, with the consent of the judge-commissioner, be preceded by a lease of the debtor’s enterprise with a pre-emption right in favour of the lessee.
Obtaining consent from the creditors’ council or the judge-commissioner takes time, but time is of the essence in insolvency proceedings. Consequently, it is not uncommon that, despite a bidder being interested in taking over the business or leasing it, the relevant consents are granted too late and the transaction, having been deprived of its economic rationale, does not go forward.
On the other hand, the acquisition of a distressed business prior to filing for bankruptcy carries other risks. Firstly, such an acquisition is not carried out on a debt-free basis. Secondly, the transaction may ultimately be invalidated under insolvency proceedings in respect of the debtor if, for example, the purchase price was glaringly low, the transaction was undertaken to the detriment of creditors while the debtor was insolvent, or the transaction was with a related entity.
In light of these issues, the Polish market for distressed mergers and acquisitions was far from active.
These difficulties were acknowledged by the expert group preparing the 2016 amendment, which then explored mechanisms that would expedite the acquisition of distressed assets while giving the parties the protections and benefits of a sale within bankruptcy proceedings.
As a result of the amendments, since 1 January 2016, a motion for bankruptcy may be accompanied by a motion for approval of the terms of a prepared sale of the debtor’s enterprise, an organised part of the debtor’s enterprise or any substantial part of the debtor’s assets. The only exception is that such a sale cannot apply to assets which are subject to a registered pledge which gives the secured creditor the right to appropriate such assets or undertake their sale within a special procedure (unless, of course, the pledgee consents). However, a view has been presented in the doctrine that the pledgee’s consent is not required for the sale of pledged assets together with the debtor’s enterprise if it would be more beneficial to the creditors than a separate sale of such pledged assets.
The motion has to indicate at least the proposed purchase price and purchaser. The petitioner must also file a description of the assets which are potentially subject to the sale, and a valuation of such assets prepared by an expert valuer selected from a court-approved list.
If the potential purchaser wishes to take over the business on the date of opening the bankruptcy proceedings, the relevant purchase price has to be paid to the court’s escrow account prior to filing the motion. This approach might appear to assist in reaching a quick sale, however in the majority of cases, the purchasers have not adopted it for fear of having substantial funds frozen in the court’s escrow account during the potentially long period of time between the filing of the motion and the court’s ultimate approval of the terms of sale at the opening of the bankruptcy proceedings.
The court must approve the terms of a prepared sale if the purchase price is higher than the potential proceeds of sale within a liquidation bankruptcy as decreased by the costs of such liquidation. The court may approve the terms if the purchase price is below but close to this amount, and the sale is justified by an important public interest or the possibility of preserving the debtor’s enterprise.
According to a report published by the Court Watch Poland Foundation – ‘Fundacja Court Watch Polska’ – in the first year after the introduction of the pre-packed procedure, the courts considered approximately 30 motions for approval of a prepared sale. The motions for bankruptcy and approval of terms of sale may be filed by either a debtor or by any of its creditors. The vast majority of such motions were filed by debtors or in cooperation with debtors, and the courts approved the terms of sale in respect of approximately two-thirds of the motions. The period between the filing of a motion and the court’s decision varied from four to 307 days, with the average being 121 days. In most cases, the delays resulted from appeals by the debtors against motions prepared by creditors who were potential buyers.
Although complete statistics on pre-packed procedures in 2017 are not yet available, the concept seems more popular in its second year of implementation. In recent months, the terms of the prepared sale of Alma, a big supermarket chain, were approved by the court, although the transaction has not yet been completed.
Alternative methods of acquisition of distressed assets
Bankruptcy proceedings are designed for, and may be conducted in respect of, an insolvent debtor. In most cases, the debtor has lost the ability to pay its debts as they fall due. While the acquisition of a business in such severe financial difficulties might be made at a significant discount, it typically bears significant risk.
In many cases, it is preferable to carry out an acquisition when the business is at a lower level of distress, i.e., at a time when the debtor is threatened by, but has not yet fallen into, a state of insolvency.
Polish law offers debtors the possibility to restructure their indebtedness under one of four types of restructuring proceeding which, despite offering different levels of protection to the debtor against its creditors, are all intended to conclude some sort of arrangement between the debtor and its creditors.
The terms of such an arrangement may include a debt to equity swap which, in connection with additional contractual protection, may be used by potential investors, having been afforded a clear picture as to the structure of and the volume of indebtedness of the target business, to acquire the debtor’s business by way of a share deal.
Also, the terms of an arrangement may provide for the sale or lease of the debtor’s enterprise with a pre-emption right in favour of the lessee, which may be an attractive option, especially for industry players seeking to expand their business.
These methods of acquisition are currently not frequently used in the Polish market because, in principle, they do not allow for acquisition of the debtor’s business on a debt-free basis and are, therefore, less clean than an acquisition under bankruptcy proceedings. Also, the opportunity to acquire businesses in such circumstances is not especially visible.
However, this might change if and when the currently contemplated online system for notifying bankruptcy and restructuring proceedings is up and running. Potentially, the system will give potential acquirers more insight into pending restructuring cases, and unearth more potential opportunities at a point in time when they remain attractive targets.
Andrzej Wierciński is a senior partner and Klaudia Frątczak-Kospin is a senior associate at WKB Wierciński Kwieciński Baehr. Mr Wierciński can be contacted on +48 (22) 201 00 00 or by email: firstname.lastname@example.org. Ms Frątczak-Kospin can be contacted on +48 (22) 201 00 00 or by email: email@example.com.
© Financier Worldwide
Andrzej Wierciński and Klaudia Frątczak-Kospin
WKB Wierciński Kwieciński Baehr