NEWSLETTER

ON ENTERPRISE RESTRUCTURING

INFORMATIONAL BULLETIN

of the Financial Restructuring Project

funded by USAID

№ 2

October 2000

INSIDE THIS ISSUE:

Memorandum of Understanding Between the Government of the United States of America and the Government of Ukraine on efficient implementation of the Law of Ukraine "On Restoring the Solvency of the Debtor or Declaring It Bankrupt" has been signed

Cabinet of Ministers of Ukraine initiates amendments to the Law of Ukraine "On Restoring the Solvency of the Debtor or Declaring It Bankrupt"

Education and Training

Corporate Restructuring Model

USAID-funded Deloitte Touche Tohmatsu Financial Restructuring Project

Memorandum of Understanding
Between the Government of the United States of America
and the Government of Ukraine on efficient implementation of the Law of Ukraine "On Restoring the Solvency of the Debtor or Declaring It Bankrupt" has been signed

On September 5, 2000, the official signing of the Memorandum of Understanding between the Government of the United States of America and the Government of Ukraine took place in the Ministry of Economy of Ukraine.

The Memorandum was signed by Mr. Christopher D. Crowley, Director of the United States Agency for International Development (USAID-Kyiv) for the Government of the United States of America, and by Mr. V. Rogoviy, Minister of Economy of Ukraine, for the Government of Ukraine.

The Memorandum represents the parties’ wish to cooperate in a mutual effort to facilitate the efficient and effective implementation of the Law of Ukraine "On Restoring the Solvency of the Debtor or Declaring It Bankrupt". This Memorandum is concluded within the framework of the Agreement between the Government of the United States of America and the Government of Ukraine Regarding Humanitarian and Technical Economic Cooperation dated May 7, 1992.

The expected results of the assistance are:

1) creation of a unified database of bankrupt enterprises, and, consequently, a more complete, efficient, and transparent implementation of bankruptcy processes and procedures under the Law;

2) core groups of trained practitioners to work with debtors in debtor-led restructuring;

3) participants of bankruptcy proceedings who understand their rights and responsibilities under the Law;

4) promulgation of standard forms, procedures, regulations and methodologies; and

5) restructured enterprises that will serve as models of successful

reorganizations to demonstrate that, in the appropriate circumstances, reorganizing a company can save jobs, pay more to creditors, and generate more revenues to the state than liquidating it.

The intended beneficiaries of the project are:

1. the Ministry of Economy of Ukraine, which will receive hardware and software necessary to carry out its responsibility under the Law to establish and maintain a unified database on enterprises subject to bankruptcy proceedings;

2) the Verkhovna Rada and Cabinet of Ministers of Ukraine will receive objective information, which will be taken into account when making decisions by the legislative and the executive branches; the High Arbitration Court of Ukraine, arbitration court judges, arbitration managers, and all participants of bankruptcy proceedings will receive accurate information on which to make substantiated decisions; creditors and investors will benefit from improved market information that will facilitate more efficient disposal of assets, and increased payments to creditors;

3) local practitioners will gain restructuring skills; businesses will receive assistance in developing reorganization plans; Arbitration Court judges will receive training and experience in overseeing reorganizations; the Ministry of Economy and the High Arbitration Court of Ukraine will receive assistance in developing standard forms, procedures, regulations, and methodologies; participants of bankruptcy proceedings will receive training in their rights and responsibilities under the Law; the Verkhovna Rada of Ukraine will receive recommendations for amendments to the law.

Cabinet of Ministers of Ukraine initiates amendments to the Law of Ukraine "On Restoring the Solvency of the Debtor or Declaring It Bankrupt"

In August 2000, according to the assignment of the Cabinet of Ministers of Ukraine, a working group has been set up within the Ministry of Economy, that consists of the representatives from the Ministry of Economy of Ukraine, the Agency on Bankruptcy Issues, Ministry of Finance of Ukraine, Chief Tax Administration of Ukraine, the Association of Ukrainian Banks, as well as the experts from the USAID-funded Deloitte Touche Tohmatsu Financial Restructuring Project.

The main objective of the working group is to prepare the draft amendments that would define more precisely the provisions of the Law "On Restoring the Solvency of the Debtor or Declaring It Bankrupt," which has been in effect since January 1 of this year, without changing its general concept that is aimed at financial rehabilitation of enterprises in crisis. After approval by the central executive bodies this draft law will be submitted by the Cabinet to the Ukrainian Parliament as the legislative initiative.

The major objective for preparing amendments is to eliminate a number of inconsistencies of procedural nature from the text of the Law. The draft law has been prepared as the result of studying the practices of application the Law, summarization of the proposals of arbitration courts judges, lawyers, arbitration managers, scientists, solvency restoration practitioners, and representatives of the creditors and debtors.

Explanations to the Amendments

1. A court case where the state of an insolvent debtor is considered, shall be called an insolvency case rather than a bankruptcy case.

The major purpose of adopting the Law was to create legal framework for restoring solvency of Ukrainian enterprises by their restructuring. The major priority was given to providing incentives to the debtors to file insolvency petitions with the court aiming at conducting sanation (restructuring) managed by the debtors’ managers under creditors’ control.

However, the practice of the Law application showed that the majority of debtors, understanding

the usefulness of the procedure in general, reduces filing insolvency petitions, since the stereotype created by the Law "On Bankruptcy," which was effective in Ukraine from 1992 through 1999, still affects people’s mind. During the effectiveness of the above mentioned Law "On Bankruptcy," commencement of the bankruptcy case would inevitably result in liquidation of the enterprise. Even according to the new Law, the term "bankruptcy" and "bankrupt" mean incapability of the debtor to restore its solvency other than through the liquidation procedure. This state of the debtor shall be declared by the arbitration court only at the final stage of the proceedings. The legal consequence of this, is the termination of business activities of the debtor and commencement of the liquidation procedure. However, this stage is proceeded by two other stages of the proceedings: administration of debtor’s property and sanation. During these stages, the exclusively used term is the "debtor" who is incapable to perform its pecuniary obligations (insolvent), who shall not be considered the bankrupt until the arbitration court makes a respective decision.

However, according to the terminology of the Law used by the drafter the case is called "a bankruptcy case," which is incorrect and leads to negative perceptions. In addition, according to the concept, which has been laid as the foundation when the Law was adopted, bankruptcy of the enterprise (i.e. liquidation) shall be an exception rather than the rule. Debtors are given every opportunity to restore their solvency, repay debts, and not become bankrupts. This proceeds even from the very title of the Law.

Therefore, the most substantial changes, by the volume, are in replacing, depending on the essence of the provision, the terms "bankruptcy" to "insolvency," "bankruptcy case" to "insolvency case," "bankruptcy proceedings" to "court proceedings" or "proceedings on the insolvency case".

2. Procedure for appointment of a trustee. Article 13.1 establishes the procedure for appointment of a trustee. The situation, which may arise where it is impossible to appoint a trustee at the time of commencement of the

proceedings and introduction of the property administration procedure, has been addressed.

Article 13.2 has been put in conformity with Article 3 of the Law, pursuant to which the persons, who have obtained licenses, shall be obligated to register with at least one arbitration court.

Article 13.2 has been amended by deleting the provision obligating the State Agency on Bankruptcy Issues to send information on the persons, who have obtained licenses, to the High Arbitration Court. Practical experience shows that such information is of little or no value, since not all persons who have obtained licenses are actually involved in arbitration practices. In addition, it will be impossible to use such information in the regions, since it has no connection to the regions where arbitration managers conduct their activities.

Current wording of the Law does not provide for the reasons and the procedure for terminating the property administration procedure. Arbitration court judges has pointed this out not once.

3. Article 16-1 suggests changes that precisely define the moment when property administration procedure is terminated, as well as the legal consequences.

According to the general rule, the decision on commencement of the sanation or liquidation procedure shall be made by the creditors’ meeting and approved by the arbitration court. The draft Law provides for the exception to the general rule, which is in the reverse decision of the court, i.e. in the possibility to introduce the sanation procedure at the decision of the arbitration court contrary to the creditors’ opinion.

t is possible, when the creditors’ meeting has made a decision on declaring a debtor bankrupt, or has not made any decision at all.

In such cases the arbitration court introduces the sanation procedure upon following conditions:

1. There are sufficient reasons to assume that the creditors’ meeting’s decision on declaring a debtor bankrupt has been made to the harm of the majority of creditors, when the possibility for restoring the solvency has been ascertained (for example, by the trustee).

This provision says that the court must study and evaluate the real state of the debtor, and if it has been ascertained that the creditors’ decision does not conform with such real state, the court shall have the right to introduce the sanation procedure regardless of the creditors’ opinion. Such situation is possible if, for example, one or several major creditors who enjoy priority in satisfaction of claims vis a vis other minor creditors make a decision on liquidation of a debtor.

2. After the creditors’ meeting, the proofs were discovered that the debtor’s solvency can be restored. This provision takes into account the event of change of circumstances. In other words, the creditors, making a decision on liquidation of a debtor, may be not able to foresee the circumstances that may appear later. The court shall take such circumstances into account and shall make a decision, unconditionally, in the creditors’ interests. What circumstances are those? For example, this includes a significant raise of prices to products produced by the debtor; revealing debtor’s property at other persons; consequences of financial crisis, etc.

3. Under other circumstances, provided by law. Article 42.3 that relates to the bankruptcy procedures for city-forming enterprises, provides for the possibility of bail by the local self-government agencies or the central executive bodies shall be considered among such circumstances.

4. Important changes have been made to Article 52 of the Law. The Article in general establishes the procedure for bankruptcy cases of the absent debtor, or in the event the debtor has actually ceased operation.

Unfortunately, the drafters have not provided for a clear definition in the Law on what shall be considered as an actual cessation of operation. The proposed amendments establish this criteria pursuant to the Law of Ukraine "On Entrepreneurship," i.e. "in the event that the debtor does not submit tax declarations and accountancy reports pursuant to the legislation to the state tax agencies for the period of a year." The proposed amendments also take into account that the respective tax agencies’ budgets do not provide for the funds to pay for the arbitration managers’ work. The fact is that in majority of cases when the case is commenced pursuant to this Article, the debtors have no property or the debtors themselves are absent, use of arbitration managers’ services is economically unprofitable to any creditor, and even more so, to the tax agencies, which do not have allocated funds for this purpose. In this connection, it has been proposed to obligate the initiating creditor in such cases to act as the liquidator. In the event that the liquidator reveals debtor’s property, the transfer to the ordinary bankruptcy proceedings shall be made.

5. Article 53 of the Law has been amended as well. A number of contradictions and shortcomings were eliminated from the Article.

Thus, it has been clearly established, which agency shall be authorized to make the decision of initiating the proceedings. Current wording of the Article does not establish how the majority of creditors must be determined in order to approve the sanation plan. The changes propose to determine such a majority pursuant to the debtor’s accounting data.

Current wording of the Law provides that the creditors’ committee shall nominate the trustee before the case is commenced. Since the creditors’ committee only appears after the proceedings have been commenced, it is proposed to eliminate such a contradiction. Pursuant to the proposed changes, majority of creditors shall give their consent to the plan and nominate the trustee, and the creditors’ meeting shall, on the later stages, either to approve this plan or reject sanation and proceed to the liquidation.

6. Intersection of the authorities of the trustee and the sanation manager – debtor’s manager.

Pursuant to current wording of the Law, during the proceedings according to Article 53, two persons appear simultaneously in the case: the trustee and the sanation manager – debtor’s manager, whose authorities intersect.

The changes propose to restrict the authorities of the sanation manager – debtor’s manager, and to obligate him to coordinate his actions with the trustee (similar to the general procedure when the debtor’s manager must coordinate his actions with the trustee).

The creditors’ meeting (after they have been held) shall either approve both the sanation plan and the candidate for the sanation manager and leave one sanation manager – the debtor’s manager (which is allowable according to the general procedure a well, Article 17.2) or appoint another one.

Current wording of the Law does not establish the term for publication of an announcement on the initiation of the proceedings pursuant to Article 53. The changes propose to establish such a term as for the general procedure – 10 days from the date of the respective ruling of the arbitration court.

Current wording of the Law contains a number of minor contradictions that complicate the proceedings. The drafters of the draft changes and amendments have made an attempt to eliminate such inconsistencies based on the analysis of the practical experience of its application, and bring the Law to the unified terminology not disturbing the concept when adopting the Law.

Education and Training

Conference for Arbitration Courts Judges

For the period of October 3 through 7, 2000, in Yalta, the High Arbitration Court of Ukraine, jointly with the Financial Restructuring Project, with financial support provided by USAID are planning to hold a conference for arbitration court judges on discussion of practices of application of and proposed amendments to the Law of Ukraine "On Restoring the Solvency of the Debtor or Declaring It Bankrupt".

Thirty-five (35) judges from oblast arbitration courts of Ukraine and the High Arbitration Court of Ukraine have been invited to participate in the conference. In addition to arbitration courts judges, representatives from the Ministry of Economy, the Bankruptcy Agency, lawyers and solvency restoration practitioners will participate in the conference. The Project will combine the efforts of 50 people in this endeavour.

The participants in the conference will be provided with the text of proposed changes and amendments to the Bankruptcy Law. The plan is to discuss the practice of application of the Law by the arbitration judges, as well as the proposed amendments and explanations thereto in groups, and prepare a list of comments representing the consensus of the attendees.

Participants of the Intensive Training for Solvency Practitioners

For the period from September 5 through 8, 2000, Intensive Training for Solvency Practitioners was held by the Financial Restructuring Project in Kharkiv for the total number of 25 trainees, including representatives of business community (law and auditing firms), arbitration managers, representatives of tax agencies and the arbitration court.

The four-day seminar covered legal and economic issues using the case study method. The first two days were dedicated to teaching participants to develop an operational restructuring strategy for a hypothetical enterprise using the Corporate Restructuring Model (CRM) developed by the Project’s financial analysts from Kyiv office.

During the last two days, the Project’s specialists explained the structure and functions of Ukraine’s Bankruptcy Law, specific tools available at each stage of the Law, legal aspects of financial restructuring, legal features of the CRM. The participants then applied these tools to restructure the debts of the hypothetical enterprise under the Bankruptcy Law.

The seminar participants were provided with a set of hand out materials that included the text of the Law "On Restoring the Solvency of a Debtor of Declaring It Bankrupt," training material on legal and financial issues.

The Project Opens a Satellite Centre in Kharkiv

In early September, the Project has opened up a Satellite Center in Kharkiv.

The Center’s major objective is to promote bankruptcy reform in Ukraine by providing training and consultations on the application of the provisions of the new Law "On Restoring the Solvency of the Debtor or Declaring It Bankrupt" to the solvency restoration practitioners, enterprise managers, and the state agencies, including the State Tax Administration, arbitration courts and the Pension Fund.

It will, in coordination with Kyiv office, assist practitioners in working with insolvent enterprises to restructure their debts under the new Law.

Interested parties in the Kharkiv region in restructuring process should feel free to contact

the Financial Restructuring Project Center in Kharkiv:

Director: Vyacheslav Zhylinkov

Address: 12, Chaikovskogo St.,

   Kharkiv, 61024 Ukraine

Telephone: (0572) 282-227

E-mail:

Valeriy Khandus, Head of the Financial Restructuring Department of the FRP consults participants of the seminar on use of the Corporate Restructuring Model

Corporate Restructuring Model

The Corporate Restructuring Model (CRM) was developed under the USAID Financial Restructuring Project with the object that it will serve as a basic tool for enterprises facing problems and attempting to restructure under the auspices of the new Bankruptcy Law of Ukraine.

The primary focus has been to stress the idea of debtor-led reorganization (Article 53), which means that the debtor puts forth a reorganization plan with the approval of at least 51% of its creditors. Upon approval of the reorganization plan (known as a sanation plan), the debtor’s management under guidance and approval from creditors and the bankruptcy courts attempts to lead its own business back to financial viability One of the key tools to develop an enterprise restructuring plan and to assess its viability is the CRM. The purpose of the CRM is to take a potentially profitable company facing financial difficulties and to allow the managers to use the model to show how and when the enterprise can become profitable again.

We anticipate fully that the outputs of the model will be used as documentation to support the sanation plan to be presented to creditors and the court.

The model is run on an Excel spreadsheet for ease of use. The original purpose of creating Microsoft Excel was to facilitate so called "What-If Analysis" or dynamic analysis, which means that the user can specify some assumptions (input cells), then write some formulas that make some intermediate calculations of the source data. And finally, it allows having some resulting values, which can be organized in some presentational format and can be printed as reports.

Actually, when you start using Excel, you don’t need a calculator any more, because Excel does the calculations for you, if you provide the source data and formulas to perform the calculation.

Using "What-If Analysis" when preparing, for example, a business plan, you should simply change your assumptions, and Excel automatically recalculates all dependent cells: you can see the results immediately. If you don’t like them, just change the assumptions and see what happens. After a number of trials, you can select the best option, and not even touch a calculator!

To give some idea of what the CRM could accomplish, we list the following types of managerial actions which can be supported by use of the model:

- Cut fixed costs

- Cut variable costs

- Use productive assets more efficiently

- Acquire new equipment

- Improve products

- Focus on profitable market segments

The CRM helps develop a restructuring plan for potentially viable enterprises, to help convince creditors that continuation of the business is a financially more attractive alternative to liquidation!

Some preparatory work needs to be done, and the best people who can do this are insolvency practitioners, that are being trained by our project. On current stage of the project the newly trained practitioners will take copies of this model and apply them to troubled enterprises in order to help them in creation of their restructuring plans. After this we hope to get some feedback – proposals to make some enhancements to the model, possible errors etc. Based on the feedback we receive, we are going to polish the current version of the model and make it free for use by all enterprises throughout Ukraine.

USAID-funded Deloitte Touche Tohmatsu Financial Restructuring Project

Financial Restructuring Project's primary objective is to assist in the development of a workable and sustainable financial restructuring system and profession, centered around a flexible insolvency law, which will help Ukraine in its transition to a market economy.

Financial Restructuring Project provides advisory support on issues of revitalization of enterprises to legislative working groups including professionals from government, legal and financial sectors, and other stakeholders with interest and expertise in legal reform.

Financial Restructuring Project holds seminars, sessions, conferences, and study tours for training and educational purposes.

Financial Restructuring Project focuses on creating the infrastructure for implementation of the new Law, testing its effectiveness, and making recommendations for improving Ukraine’s bankruptcy system.Financial Restructuring Project will assist the Ministry of Economy to develop a database for all filing under the Law, as a transparent utilizable tool to register, process, and maintain all cases filed under the law.

Financial Restructuring Project continues to improve the Corporate Restructuring Model as a computerized tool utilized by practitioners in evaluating enterprises and providing sanation plans in restructuring process.

Financial Restructuring Project provides direct technical assistance to enterprises in developing and implementing financial restructuring plans.

Contact the Financial Restructuring Project Office for more information:

News and Media Coordinator:

Inna Topal, e-mail:

Legal advisor:

Yurij Vakhel, e-mail:

yvakhel@restructuring.kiev.ua

Head of Financial Restructuring Department:

Valery Khandus, e-mail:

Tel: +(380) 44 246-3763; 246-4459

Fax: (380) 44 234-0368