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In particular, although secured creditors still have a super-priority in bankruptcy, the text remains unclear on how they may enforce their security on liquidation.

The Law on Bankruptcy No. 21/2004/QH11 dated June 15, 2004 does not really ease market exit. Since its enactment, only 83 businesses have been declared bankrupt, which is a petty number compared to the figure of 97,000 enterprises which have had to suspend their activities or have had been “dissolved” in 2012 and the first nine months of 2013[3]. In accordance with Resolution No. 45/2013/QH13 of the National on legislative program for 2014 dated June 18, 2013, an amendment to the Law on Bankruptcy (the “Draft Law”) will be passed in 2014. The Supreme People’s Court has recently released the 3^rd draft of this text for public comments. The Draft Law contains significant changes to the current legal framework. In this article, we will try to summary the main new provisions of this draft and give some comments and suggestions in order to improve the current text.

What is new?

Point of no return

The Draft Law still adopts the cash flow test[4] as the sole means of assessing whether companies can pay their debts (Article 3). However, under Article 4.1, two new options are being considered with respect to this test:

l option 1: Creditors will have the right to file a petition for the commencement of bankruptcy proceedings against a company when such company is unable to pay its debts as they fall due within three months since the date of creditors’ request.

l option 2: Creditors will have the right to file a petition for the commencement of bankruptcy proceedings against a company when such company is unable to pay its debts amounting to VND 200 million or more as they fall due within three months since the date of creditors’ request.

These proposals will clarify the triggers for bankruptcy.

Bankruptcy proceedings

The time limit for creditors to submit their notices requesting payments of debts is reduced to 45 days from the publication of a court ruling to commence bankruptcy proceedings. However, in exceptional cases, a creditor may lodge a claim before the final declaration of bankruptcy[5] (Article 65.1). Furthermore, one of the rescue measures provided by the Draft Law consists of selling the insolvent company to the creditors or to third parties (Article 93.2 (e)).

In addition, the liquidation of the company’s assets will be stated in the court’s ruling declaring bankruptcy of the company and thus intervene after the date of this decision (Article 105). This is expected to make bankruptcy proceedings less time-consuming than they are for the time being.

Suspension of performance of payment obligations

Pursuant to Article 40.1 of the Draft Law, as from the date on which the court accepts jurisdiction over a petition to commence bankruptcy procedures, the enforcement of civil judgments over assets under which the company is the judgment debtor will be suspended, except for judgments forcing the company to compensate for damage in connection to the life, health, honor of a natural person, to fulfil obligations towards the State or to pay wages and remuneration to employees.

Furthermore, it can be inferred from Article 48 of the Draft Law that the suspension of payment of a secured debt is valid up to the declaration of bankruptcy of the company. Moreover, in case of payment of unsecured debts, suspension of performance of payment obligations would apply only up to the implementation of a business rescue plan (Article 96.1).

Administrator

The Draft Law replaces the current Asset Management and Liquidation Team by an administrator being a certified lawyer appointed by the court at the request of the petitioner. The Draft Law gives him a wide range of powers from the commencement of bankruptcy proceedings to the putting of the company into a rescue proceeding, including inter alia managing the property of the company, calling a meeting of creditors of the company, supervising and controlling the business operations of the company and collecting monies from the debtors of the company (Articles 13.1 and 43.1).

The Draft Law allows the administrator to appoint the legal representative of the company if the company does not have one (Article 13.1 (i)) and to recommend a replacement legal representative to the court as he thinks fit (Article 43.2).

Nevertheless, the administrator does not have the power to dispose of property. This action requires the prior consent of the court (Article 44.2 (d)). The curb on the powers of administrators to deal with property might undermine the benefits of abolishing the Asset Management and Liquidation Teams. Furthermore, he is not in charge of enforcing the court’s decision declaring the bankruptcy of the company, viz., to liquidate the assets of the company (Article 114 and seq.), which is under the scope of the judgment enforcement agent.

Trust property

Although they are held by the trustee, trust assets are not the property of the trustee. The Draft Law tries to protect trust assets in case of some trusts or similar schemes in the event of a bankruptcy. Indeed, pursuant to Article 62.3, in case the company is a securities trading company, a depository bank or a custody bank, the following assets will not be considered assets that are available for bankruptcy:

l trust assets in portfolio management and securities trading account management;

l assets of securities investment funds, securities investment companies, pensions funds, voluntary and complementary pension schemes; and

l assets deposited by clients.

This approach is appropriate in order to ring-fence trust assets. However, the list does not include the other trust structures fully recognised by Vietnamese law: entrustment for sale and purchase of goods (Article 155 and seq of the Commercial Law), trusteeship on banking operations (Circular No. 04/2012/TT-NHNN of the State Bank of Vietnam on entrustment and acceptance of trusteeship by credit institutions and foreign bank branches dated March 8, 2012) or holding of security assets by the security agent (Circular No. 42/2011/TT-NHNN on provision of co-financing for clients by credit institutions dated December 15, 2011), etc.

Making an inventory of the company’s assets

Pursuant to Article 63 of the Draft Law, within a time-limit of 30 days from the date of receipt of the decision of the court to commence bankruptcy proceedings, the company must conduct an inventory of all assets in accordance with the detailed list already submitted to the court and must determine the value of such assets. However, if the administrator thinks that the property inventory and the valuation effected by the company is inaccurate, the administrator may, on his own initiative or at the request of the court, make a new inventory and hire a valuation entity to appraise the value of, or value by himself, all or part of the company’s assets on a full market’s value basis.

Furthermore, if the representative of the company is absent or does not cooperate in the establishment of such inventory, the administrator may appoint a new one to make the inventory and to value the company’s assets (Article 63.2).

Payment waterfall

Under Articles 48 and seq. of the Draft Law, the distribution of assets and dividends to creditors is effected in accordance with the following order:

l secured creditors;

l value of the special financial assistance granted by the State to a State-owned enterprise or special loan granted to a credit institution by the State Bank of Vietnam or another credit institution;

l bankruptcy fees as well as fees and expenses for compulsory enforcement of the decision declaring bankruptcy of the company;

l unpaid wages, severance allowances and social insurance debts and other rights pursuant to the already signed collective labor agreements and labor contracts;

l debts arising after the commencement of bankruptcy proceedings and aiming at rescuing the company’s business;

l tax claims and administrative fines;

l unsecured creditors.

As such, secured creditors have a super-priority in this payment waterfall while tax claims and administrative fines rank after other types of preferential creditors and just ahead unsecured creditors.

Particular issues

Arrangements with creditors

A company which is unable to pay debts which are due and payable may be able to reach an agreement with its creditors for the satisfaction of their claims otherwise than by payment in full. A special arrangement is contained in the Draft Law. Article 33 provides for an optional two-month negotiation period before the issuance of the decision to commence bankruptcy proceedings, which enables the petitioner and the company to negotiate on the withdrawal of the petition. However, the text does not specify the schemes that would be reached with that negotiation.

Under English law, there are many different forms of arrangement with creditors[6]. It might be useful to introduce into Vietnamese law two of them.

The first one is a scheme of arrangement under Part 26 of the Companies Act 2006. Typically, it involves agreement with a number of creditors (the creditors concerned, affirmatives votes of a majority of them being needed) and its members on diverse measures such as the conversion of debt into equity, subordination of secured or unsecured debt, conversion of secured into unsecured claims and vice versa, increase or reduction of share capital. It must be also approved by the court.

For smaller companies, such agreement may take the form of a company voluntary arrangement (CVA) made by the company and its creditors. The real purpose of a CVA is to have creditors accepting partial payments of their claims and thus ease the continuance of the company’s business or at least permit a disposal of its assets on more favorable terms that would otherwise have been the case. A CVA will have at least three-quarter of the creditors concerned. Typically, a CVA involves either sale of assets and distribution of the proceeds to the creditors or continuance of trading under which the company makes periodic payments from its trading income to the supervisor of the CVA (e.g. the court) for distribution in accordance with its terms[7].

Powers and duties of the administrator

Reading together Articles 7.6 and 13 of the Draft Law, it can be inferred that in exercising his powers, the administrator acts as the company’s agent. This role should be clearly stated in the Draft Law.

In the carrying out of his powers and duties, the administrator may have difficulty interpreting the scope of his functions as provided by law or dealing with aspects of his management of the company’s affairs that are not explicitly mentioned in the law, Article 13 of the Draft Law should include a provision allowing him to apply to the court for directions in connection with his functions in those cases.

Under Article 13.1 (b) of the Draft Law, the administrator is entitled to a remuneration provided by law. However, it is unclear whether such remuneration would be included in the bankruptcy fees mentioned in Articles 19 and 50.1 (a) of the Draft Law. Naturally, the administrator’s remuneration and expenses should be paid out of the company’s property.

Claw-back

Article 56 of the Draft Law provides for the setting aside of transactions which are intended to defraud creditors. Those include inter alia undervalued transactions and voidable preferences. However, under this text, all those transactions which have been entered into before the commencement of bankruptcy proceedings will be set aside. Given the difficulty in showing undue trading preferences, the law should automatically unwind all transactions entered into while the company was insolvent. It is common place for family controlled companies to side-line assets once it is discovered that the company is going under and this may take place a year or more before bankruptcy.

However, a period leading up to the bankruptcy proceedings should be provided (e.g. it can extend up to six months for a voidable preference (or in the case of certain persons connected with the company, within two years) before the commencement of the bankruptcy proceedings or to two years for a transaction at an undervalue before the commencement of the bankruptcy proceedings).

More specifically, in respect to preferences, criteria for setting them aside should be also detailed. For instance, in addition to the time limitations mentioned above, such criteria may include the following:

The company has done something, or has suffered something to be done, which has had the effect of putting a creditor (including a contingent creditor) into a better position than he would have been in if the thing had not been done;

The company was insolvent at the time or became insolvent as a result of the transaction; and

The company was influenced in giving the preference by a desire to put the creditor in a better position than he would have been in if the thing had not been done (this is presumed in the case of certain persons connected with the company)[8].

Improper trading and the liabilities of directors

To give directors an appropriate incentive either to initiate corporate rescue, or to put the company in a form of insolvency proceeding at an early stage of their company’s financial problems, a typical corporate insolvency law usually provides for a civil offence that penalises a director who fails to take appropriate and prompt actions based on the objective assessment of the company’s financial condition[9]. The Draft Law prevents only the directors and members of the board of management of failed enterprises being State-owned enterprises or those operating in conditional economic sectors from assuming those functions in other State-owned enterprises or from setting up new enterprises. This is however insufficient.

Therefore, it might be useful to have the insolvent trading provisions as provided under Australian law[10]. Insolvent trading takes place if a company incurs a debt when it is insolvent (or will become insolvent by incurring that debt), in the circumstances that the director in question is aware at that time that there are grounds for suspecting that the company is insolvent (or would become insolvent by incurring that debt) (Corporations Act 2001 (CA) s.588G(1) and (2)(a)). A cause of action also accrues if a reasonable person in a similar position in the company’s circumstances would be so aware (CA s.588G(2)(b)). In other words, a director is under a positive duty to prevent the company from (i) incurring debt while insolvent, or (ii) turning insolvent by incurring debt[11]. A director liable for insolvent trading may be ordered to pay compensation to the company and may be punished by a disqualification order (CA s.588J(1) and s.206C(1)). The court may also order a liable director to pay a fine to the government (CA s.1317G(1)(a)). Criminal sanctions may follow if a director’s failure to prevent insolvent trading is dishonest (CA s.588K).

Indeed, it is very difficult to prove fraud, because it is necessary to show intention, so the insolvent trading provisions give the court or administrator much more leverage to recover suspicious trades. It does not run counter to public policy because the power can only be used if (objectively) the company was trading while insolvent. This position basically creates a duty of care for directors not to trade while the company is insolvent. It also will increase the use of auditing and other external measures to monitor the financial health of companies.

Enforcement of security interests

From the date on which the court accepts its jurisdiction over the petition to commence bankruptcy proceedings, a secured creditor may only enforce its security if so permitted by the court (Article 40.3). Although Articles 48 and seq. of the Draft Law provide that secured creditors rank ahead over all other categories of creditors (preferential creditors and unsecured creditors), those texts are unclear about how the secured creditors may enforce their security upon declaration of bankruptcy of the company. The vague provisions about the rights of secured creditors to take action over the company’s assets would give the courts wide powers to “manage” bankruptcies. The Draft Law should provide that at that time, the secured creditor can enforce its security without having to obtain any consent from the court or the judgment enforcement agent for that purpose. Furthermore, it should allow secured creditors to appoint receivers to take control of the debtors’ assets[12].

In addition, a lien as security arising by operation of the law can offer great protection for a creditor. The Draft Law should recognise the validity of the creditor’s lien over the company’s property as from the date of commencement of a bankruptcy proceeding and also during the liquidation procedure (by paying the lienee in priority to take back the asset at stake).

Priority for new finance

In practice, new finance is useful to ensure adequate working capital of the company. Usually, this will be granted by the company’s bank or other major existing secured creditors. In case there are substantial contracts approaching completion, the cost of additional finance may be small in comparison to the income to be received.

However, the new finance regime provided by the Draft Law is far from being satisfactory. Indeed, under Article 44.2 (e), upon receiving the court’s decision on the commencement of bankruptcy proceedings, the company may pay those new debts only if so permitted in writing by the court. The Draft Law does not prescribe any criteria on which the court may give such permission. The requirement of the court’s permission would dissuade new creditors from advancing funds. Rather, the new debts should be paid as they fall due without the need for court intervention[13].

Furthermore, under Articles 48 and 50.1 of the Draft Law, debts arising after the commencement of bankruptcy proceedings and aiming at rescuing the business of the company will be paid after the claims of secured creditors, bankruptcy expenses and employees’ claims[14]. However, this additional funding should be treated as an expense of the rescue, with the result what they should be payable out of the property of the company in priority to bankruptcy expenses and employees’ claims.

Finally, it should be noted that pursuant to Article 47.2 of the Draft Law, interest rates accruing from new indebtedness may be agreed upon by the parties.

Executory contracts

In practice, insolvency of a contractual counterparty is a common termination event in commercial contracts and an event of default in most credit facilities. Under Article 426.1 of the Civil Code, a party has the right to unilaterally terminate the performance of a contract if so agreed by the parties or so provided by law. This text reflects the principle of freedom of contract provided in Articles 4 and 389.1 of the Civil Code under which the parties are free to agree any circumstances in which the contract will automatically terminate or in which either party will have the right to terminate the contract. Therefore, this text permits a party to unilaterally terminate a contract when the other party to the contract falls bankrupt where there is an ipso facto clause in the contract[15]. This solution should be expressly stated.

The terminology adopted by Article 58 of the Daft Law is the “suspension of a contract being currently effective”. The term “suspension” is confusing and inappropriate and should be replaced by the terms “termination” and “rescission” to be in line with Article 426 of the Civil Code. Likewise, a definition of a contract being currently effective on insolvency should be given (e.g. a contract under which obligations remain to be performed on both sides). The expression “a contract being currently effective” shall be also replaced by the phrase “an executory contract” to better reflect the connotation of this concept.

Suspension of performance of payment obligations

As mentioned above, suspension of performance of payment obligations is a principle expressly provided by the Draft Law. From the date of receipt of the decision on commencement of bankruptcy procedures, the company is not allowed to make payment of unsecured debts (Article 44.1.b) and from the date of acceptance by the court of its jurisdiction over the commencement of bankruptcy procedures, the realization of secured assets of the company in favor of secured creditors (which basically means the payment of secured debts) shall be temporarily suspended, unless otherwise permitted by the court (Article 40.3). The starting point in time of the suspension in case of secured debt is therefore not the same as in case of unsecured debt. The distinction is fairly unfavorable for secured creditors while in principle their rights should be better protected by law.

In short, the Draft Law is much better drafted than the existing one, in order to be more in line with other relevant legislations and to ease market exit. The introduction of the administrator and the protection of trust property are amongst the most important provisions. However, there is still a lot of room for improvement.-