Mexicos New Insolvency Act Increasing Fairness and Efficiency in the Administration of Domestic and Cross-border Cases (Part II)

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Sep 2000

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Editor's Note:

This is the second in a two-part series on Mexico's new bankruptcy law. <a href="/abidata/online/journaltext/00augintl.html">Part I</a> ran in the
July/August 2000 issue.

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<h3>Operative Cases</h3>

Under the Law, an insolvency proceeding consists of two successive stages identified as "conciliation" and
"liquidation."<a href="#45" name="45a">45</a> The goal of a conciliation proceeding is to preserve the debtor's business as a going
concern by negotiating and implementing a feasible plan of reorganization. Liquidation will occur if a
conciliation fails and the case is converted, or if the bankruptcy petition sought relief under a liquidation
case. The goal of a liquidation proceeding is to sell the debtor's assets to pay allowed claims.<a href="#46" name="46a">46</a>

<h3>Conciliation<a href="#47" name="47a">47</a></h3>

If the case is a reorganization or conciliation case, the debtor will remain in possession of its assets and
business and financial affairs under the supervision of the conciliator,<a href="#48" name="48a">48</a> unless removed at the request of
the conciliator.<a href="#49" name="49a">49</a> The conciliation process may last 185 calendar days from the date of the last publication
of the notice of commencement of case, unless (i) the conciliator or creditors holding two-thirds of allowed
claims request an extension of up to 90 days, or (ii) the debtor and 90 percent of creditors holding allowed
claims request an additional extension not in excess of 90 days. In any event, the reorganization case shall
not last more than 365 calendar days.

<h3>Plan Confirmation</h3>

The plan of reorganization must be approved by the debtor and more than 50 percent of creditors holding
allowed claims, including participating secured creditors.<a href="#50" name="50a">50</a> The plan is binding upon unsecured creditors
who vote to reject the plan if it (i) defers payment of their claims, with accruing interest at the legal rate,
for a period of time that does not exceed the minimum term accepted by 30 percent of the general
unsecured creditors that voted to accept the plan, (ii) reduces their claim to an amount equal to the smallest
sum accepted by 30 percent of the general unsecured creditors that voted to accept the plan, or (iii) provides
a combination of debt reduction and payment deferral so long as the ensuing treatment of their claims is
identical to the treatment received by 30 percent of the general unsecured creditors that voted to accept the
plan. With respect to secured creditors that opt out of the reorganization process, these creditors may
continue their foreclosure action, unless the plan provides for payment in full of the value of their liens, and
any unsecured deficiency claim is treated like other similarly situated claims.

If the reorganization plan calls for a capital contribution, the conciliator informs the judge, who, in turn,
notifies the debtor's equity holders in order to allow the equity-holders to exercise their preferential right
of making the contribution within 15 calendar days.<a href="#51" name="51a">51</a> If the equity-holders fail to make the capital
contribution within the prescribed 15-day period, the judge may authorize the contribution on the terms
proposed by the conciliator.<a href="#52" name="52a">52</a>

The bankruptcy judge will approve the conciliation plan if all the confirmation requirements are satisfied
and confirmation would not violate public policy. Confirmation of the reorganization plan concludes the
case, and the conciliator is ordered to cancel the public recordation of the declaration of bankruptcy.

<h3>Conversion or Dismissal</h3>

The conciliator can request the conversion of the reorganization case to a straight liquidation case or
dismissal of the case based, among other things, on the debtor's lack of cooperation or inability to effectuate
a plan of reorganization.<a href="#53" name="53a">53</a>

<h3>Liquidation<a href="#54" name="54a">54</a></h3>

A liquidation case may be commenced (i) upon the debtor's request, (ii) upon the expiration of the
conciliation period if a plan of reorganization has not been filed with the court, or (iii) upon the request of
the conciliator on the grounds that the effective reorganization of the debtor is unlikely. In general, a
liquidation bankruptcy case resembles a case under chapter 7 of the U.S. Bankruptcy Code. A salient
distinction is that property acquired by the debtor during marriage at least two years prior to the
commencement of the case, and the debtor's property or rights deemed inalienable under Mexican law, are
exempt, and thus are not property of the estate.

<h3>Executory Contracts<a href="#55" name="55a">55</a></h3>

The entry of the order granting bankruptcy relief does not affect contracts entailing inalienable rights
or assets.<a href="#56" name="56a">56</a> In general, however, the debtor must honor all pre-petition executory contracts, including
personal service contracts, unless the conciliator objects. Upon request of the other party to the contract,
the conciliator must announce, within 20 days, his intention with respect to the executory contract, or the
other party may terminate the contract upon the expiration of the 20-day period by giving notice to the
conciliator. The bankruptcy of the landlord or the tenant does not terminate a lease for real property.
However, if the debtor is the tenant under a lease of real property, the conciliator may terminate the lease
and pay the landlord a sum as set forth in the contract or equal to three months of rental payments.<a href="#57" name="57a">57</a>

<h3>Fraudulent Transfers</h3>

Any transfer of property or an interest in property knowingly made by the debtor to a transferee (i) with
the intent to defraud its creditors, (ii) within 270 days<a href="#58" name="58a">58</a> before the date of the declaration of bankruptcy,
and (iii) not made for the benefit of the estate, is fraudulent and void, except if the transferee is a bona fide

transferee.<a href="#59" name="59a">59</a>

Fraudulent transfers include (i) gratuitous title conveyances, (ii) transfers made in exchange for
inadequate consideration, (iii) transactions out of the ordinary course of business, (iv) write-offs, (v)
payment of unmatured obligations and (vi) discounts. Any transfers made within the 270-day period
preceding the declaration of bankruptcy to the debtor's spouse, relatives or a business entity in which such
persons or entitities are officers or directors, or own, directly or indirectly, at least a 51 percent interest in
the entity will be presumed to be fraudulent. If a transferee turns over to the estate the property fraudulently
received, and any proceeds thereof, the transferee may file a proof of claim in the case.

Further, a debtor may be imprisoned for a term of one to nine years if it engages in criminal conduct
that results in or aggravates its insolvency.<a href="#60" name="60a">60</a>

<h3>Adjustment of Claims Payable in Foreign Currency</h3>

On the date the order granting the petition for relief is entered, unsecured claims payable in foreign
currency will cease accruing interest, and the outstanding balance of principal and finance charges will be
converted to Mexican pesos at the exchange rate published by the Bank of Mexico, then converted to
UDIs.<a href="#61" name="61a">61</a> However, secured claims payable in foreign currency are not affected, except that the contract rate
of interest will accrue up to the value of the collateral. Further, a secured creditor whose debt is
undersecured as of the date of the declaration of bankruptcy may bifurcate its claim and, thus, have a
secured claim to the extent of the value that the creditor assigns to its lien, and an unsecured claim for the
remaining deficiency. The Law does not provide any guidance for the valuation of liens. Therefore, a
secured creditor must take special care in valuing its lien, because upon bifurcation of its claim, the secured
creditor will be required to surrender to the bankruptcy estate any excess value realized on the foreclosure
of its lien.<a href="#62" name="62a">62</a> The adjustment of claims payable in foreign currency could have a significant impact on
foreign creditors, depending on the exchange rate applicable on the date of the declaration of bankruptcy.

<h3>Cross-border Cases</h3>

Title XII of the Law codifies virtually all the provisions of the UNCITRAL Model Law. Title XII
will govern cross-border and multinational court-supervised reorganization and liquidation cases filed
or pending in Mexico, or in any other country with which Mexico does not have a treaty relationship for
the reciprocal recognition or enforcement of foreign judgments. Title XII will enable Mexican courts to
cooperate with bankruptcy courts in other countries to coordinate their respective administration in
cross-border and multinational cases.

Thus, Title XII will (i) promote comity and cooperation between the Mexican courts and foreign
courts; (ii) authorize local recognition and enforcement of judgments issued in connection with foreign
insolvency proceedings; (iii) create a worldwide estate that should be administered and distributed as a
global unit; (iv) grant foreign representatives direct access to the Mexican courts; (v) enable foreign
creditors and parties in interest to initiate or participate in a Mexican bankruptcy case; (vi) afford due
process to all creditors, wherever located, concerning any relief requested in the case; (vii) treat all
creditors, local and foreign, equally, fairly and equitably; and (viii) preserve and maximize the
going-concern value of the troubled business while a global solution is negotiated and implemented.

By being the first country to adopt the UNCITRAL Model Law, Mexico has set a remarkable
example for both civil law countries and common law countries in making it possible to facilitate
effective cross-border coordination and cooperation in the administration of insolvency cases. Mexico's
increased international trade and investment<a href="#63" name="63a">63</a> will result in a greater number of businesses, with assets
in more than one country, that are mismanaged into failure. To the extent that Title XII is fair and
harmonized with the existing international legislative framework for managing and resolving
cross-border insolvency cases, it should enhance the development of international trade and investment
in Mexico. Because Title XII is designed to be an integral part of the Law, business professionals should
use it as a risk-management tool when documenting cross-border deals involving Mexico to attempt to
neutralize the risks of doing business in Mexico before there is failure.

<hr>
<h3>Footnotes</h3>

<a name="45">45</a> Article 2. <a href="#45a">Return to article</a>

<a name="46">46</a> Article 3. <a href="#46a">Return to article</a>

<a name="47">47</a> Title V. <a href="#47a">Return to article</a>

<a name="48">48</a> Articles 74 and 75. The conciliator, in turn, will have the input of the intervener if there is one in place. <a href="#48a">Return to article</a>

<a name="49">49</a> Article 81. <a href="#49a">Return to article</a>

<a name="50">50</a> See Title V. Employee and tax claimants are not allowed to vote on the plan. <a href="#50a">Return to article</a>

<a name="51">51</a> Article 155. <a href="#51a">Return to article</a>

<a name="52">52</a> Id. <a href="#52a">Return to article</a>

<a name="53">53</a> Article 150. <a href="#53a">Return to article</a>

<a name="54">54</a> Title VI. <a href="#54a">Return to article</a>

<a name="55">55</a> Title III, Chapter V, Section II. <a href="#55a">Return to article</a>

<a name="56">56</a> Article 91. <a href="#56a">Return to article</a>

<a name="57">57</a> Article 106. <a href="#57a">Return to article</a>

<a name="58">58</a> This cut-off date may be extended at the request of the conciliator, intervener or any creditor if the request is made prior to the
date of the order allowing creditors' claims and establishing the priority of claims in the case. <a href="#58a">Return to article</a>

<a name="59">59</a> Title III, Chapter VI. <a href="#59a">Return to article</a>

<a name="60">60</a> See Title XI. <a href="#60a">Return to article</a>

<a name="61">61</a> Article 89. <a href="#61a">Return to article</a>

<a name="62">62</a> Id. <a href="#62a">Return to article</a>

<a name="63">63</a> In the past year, Mexico signed free-trade agreements, similar to NAFTA, with the European Union and Israel. Mexico is in the
process of negotiating similar trade agreements with Latin America and the Caribbean. <a href="#63a">Return to article</a>

Journal Authors

Josefina Fernandez McEvoy

Journal Date

Friday, September 1, 2000 - 12:00