The Stay of Simplified Insolvency Proceedings Under the 2020 UNCITRAL Draft Recommendations

The UNCITRAL Draft Recommendations on a simplified insolvency regime (“Recommendations”)[1] is a model of legislative regulation concerning the insolvency of micro, small and medium-sized enterprises (MSMEs)[2]. The model was crafted by UNCITRAL Working Group V in May 2020. According to the Provisional Agenda of the 57th session of the Working Group,[3] the examination of issues relevant to the insolvency of MSMEs started in 2014 upon a specific request of the Commission. In particular, the Working Group was asked to consider whether the legal framework of the UNCITRAL Legislative Guide on Insolvency Law (“Guide”)[4] needs to be reinforced and detailed to provide for a simplification of insolvency procedures for MSMEs.

From 2016-20, the Working Group gradually crafted a new set of rules providing for new and simplified mechanisms to resolve the insolvency of MSMEs in accordance with such principles as equitability, rapidity, flexibility and cost-efficiency.

The Working Group has devoted particular attention to the protection and preservation of the insolvency estate. Because the MSMEs deserve insolvency proceedings that are faster and simpler than those suitable for standard business in order to encourage them to face their financial distress at an early stage and restart their entrepreneurial activities as soon as possible, it is extremely important to preserve and maximize the value of the insolvency estate by protecting the debtor’s assets.[5] For this reason, articles 32 and 33 of the Recommendations suggest that the simplified insolvency regime should provide the stay of proceedings concerning the debtor’s assets, rights, obligations and liabilities, as well as the execution against the assets of the insolvency estate, the termination of contracts with the debtor, and the disposition such as transfer or encumbrance of assets or rights of the insolvency estate.[6]

The stay of proceedings is temporarily limited. Even if the stay can be applied on commencement and throughout the insolvency proceedings, article 32 requires that the stay should always be able to be lifted or suspended by the judicial or administrative authority on its own motion or upon request of any party in interest.[7] Thus, the Recommendations properly balance the needs of creditors against the expectations of the debtor and other parties. While the stay surely allows the liquidation of the debtor’s assets, maximizes their value and gives the highest return for the benefit of all creditors, its broad duration can obstacle the continued operation of business and contractual relations between the debtor and its creditors or third parties. For this purpose, article 32 also recommends that parties in interest be allowed to request relief from the application of the stay. In this way, they are entitled to specific protections when negatively affected by the stay. Similarly, while the stay allows all parties concerned in the proceedings to assess chances of business reorganization, its broad duration maintains the operation of the proceedings and risks to excessively “publicize” the debtor’s financial distress. The possibility that the stay is lifted or suspended undoubtedly reduces such a risk and its harmful consequences.

Moreover, the scope of the stay is also significantly limited. The Recommendations identify four categories of individual rights that should not be affected by the stay. Article 33 specifies those rights that can be freely enforced against the encumbered assets:

(a) The right to commence individual actions or proceedings to the extent necessary to preserve a claim against the debtor;

(b) The right of a secured creditor to protection of the value of the asset(s) in which it has a security interest;

(c) The right of a third party to protection of the value of its asset(s) in the possession of the debtor; and

(d) The right of any party in interest to request the competent authority to grant relief from the stay.[8]

While provisions sub (b) and (c) serve as safeguards against the impairment of the assets’ value deriving from the temporarily limited exercise of rights by secured creditors or third parties, provisions sub (a) and (d) refer to different situations occurring respectively when the competent authority is asked to adopt an order protecting a claim against the debtor or granting relief from the stay to a party in interest. These provisions significantly limit the scope of the stay in order to avoid improper uses of simplified insolvency proceedings by the debtor. It is worth noting that the purpose of simplified proceedings is to allow MSMEs to face and resolve their financial distress promptly and quickly through the assets’ liquidation or reorganization. Thus, the natural benefits of the stay ranging from the equal treatment of creditors to the preservation of the encumbered assets tend to be harmful in those situations in which the debtor applies for the commencement of proceedings to delay the payment of creditors or the satisfaction of stakeholders’ expectations. This risk is balanced by the provision of rights not affected by the stay. The Working Group’s Draft Commentary enlightens the Recommendations by devoting particular attention to the position of secured creditors and their interest in preserving the value of assets in which they have a security interest. According to Comment 97,[9] “[t]he interests of secured creditors can be protected … by consulting them on the sale of the encumbered asset or allowing them to take over the asset where the asset is worth less than the secured claim.”[10]

This kind of balance between opposite interests constitutes one the most important reasons for the success of the Recommendations, because it makes simplified insolvency proceedings actually suitable for the needs of MSMEs and their creditors or parties in interest.