Enforcing an award against an insolvent company

Introduction

An arbitral award is sufficient evidence to commence an insolvency involuntary proceeding against a debtor.[1]

With this case law a door has been opened to  an alternative remedy: securing the debt recognized under an arbitration award through insolvency proceedings, and use this course of action to push the debtor to eventually settle.

In this article, we will address:

• The importance of said precedent, as well as the advantages, disadvantages and costs of enforcing an award through an involuntary insolvency lawsuit; 
• The ordinary duration of an arbitration, as well as that of the enforcement proceeding in Mexico, explaining the risks of the debtor becoming insolvent during that period of time;
• The admissibility requirements of an involuntary bankruptcy lawsuit;
• The ruling issued by the Collegiate Court, as well as its reasonings.
• The pros and cons of enforcing an award by means of an involuntary bankruptcy proceeding. 

Duration of an arbitration proceedings and the enforcement proceedings.

Arbitration is a very efficient way of resolving a dispute, particularly in international commercial disputes. One of the advantages that are commonly highlighted by those who advocate in favor of arbitration, us included, is that is time-efficient.

Even though an arbitration is regularly faster than a regular trial –particularly in those countries where pre-trial proceedings have a duration of more than one year, as well as in those countries, such as Mexico, where the parties have several layers of appeals at their disposal– an international arbitration may take more than one year to be resolved.

Once the final award is issued, the losing party may seek to set the award aside or oppose the winning party’s action to have it recognized and enforced.  In the case of Mexico, have a two instances constitutional appeal[2] which means that, after the award is issued, enforcement could take up to 3 years or even more.

Considering the duration of the arbitration and award enforcement proceedings, a claimant may have to wait up to 4 years to be able to obtain and enforce an award and during that time the debtor may no longer have assets to enforce said award. That is why the case law cited harnesses special practical importance, since it becomes a way to significantly reduce the enforcement wait time.

Phases of a Mexican insolvency proceeding.

Bankruptcy proceedings in Mexico are governed by the Commercial Bankruptcy Law (Ley de Concursos Mercantiles, “LCM”).

The LCM establishes a three phase proceeding:

1. The first phase, the trial phase, is commenced by a lawsuit by which the creditor demands the insolvency declaration of the debtor. The insolvency declaration (declaración de concurso mercantil) may only be obtained if an examiner appointed by the Federal Institute of Bankruptcy Law Specialists (Instituto Federal de Especialistas de Concursos Mercantiles “IFECOM”, by its acronym in Spanish), issues a report attesting that the debtor meets the insolvency thresholds of the LCM.
2. The second phase, the conciliation or restructuring phase, is led by the Judge and a Conciliator (conciliador) appointed by the IFECOM. In this phase, creditors are required to file their proof of claim and after being reviewed, a credit recognition judgment is issued. Simultaneously, during this phase the Conciliator mediates between the debtor and the creditors, in order to reach a debt restructuring that allows for the company’s survival. The Conciliador’s main task is to convince the majority of the creditors and the company, of an agreeable restructuring structure. If the restructuring takes place, the insolvency declaration is lifted, and the restructuring agreement gets sanctioned by the Judge.
3. The third phase is the liquidation or bankruptcy proceeding. If no restructuring takes place within the conciliation phase, the Court automatically declares the bankruptcy of the company. The purpose of the bankruptcy is the liquidation of  all the company assets to pay the creditors, according to the order of precedence of their credits.

Legal requirements for a creditor to file an involuntary insolvency proceeding.

According to a Supreme Court of Justice case law[3], involuntary insolvency lawsuits may only be admitted when the creditor provides evidence that the debtor meets one of the criterions provided for by article 11 of the LCM, which enunciate cases in which a debtor is presumed insolvent[4]. 

The “article 11” requirement that is generally the easiest to meet, is the existence of at least two overdue debts owed by the debtor (when a company is insolvent, it is not hard to find other creditors by using Court filings databases). The Collegiate Court’s decision opens the possibility for a creditor to commence an involuntary insolvency proceeding, proving its credit with an award that has still not been recognized by a Court.

The Collegiate Court’s precedent.

So, Is a non-recognized award sufficient to prove the existence of a credit under the Commercial Insolvency Law?

In 2017, a Texan arbitral tribunal issued a final award in favor of a creditor, condemning a Mexican company to pay overdue bills due to a charter hire.

A few months after, the creditor filed an involuntary insolvency lawsuit against the Mexican company, along with another creditor that held a promissory note. The lawsuit was initially admitted, but after the debtor filed a motion to reconsider, the District Court dismissed the lawsuit, under the reasoning that the award –that had not been recognized yet– was insufficient evidence to prove the existence of an overdue credit.

The creditor filed a constitutional appeal, seeking to revoke the dismissal order. The Appeal was heard by the Collegiate Court, reversing the District Court’s decision,  considering that the award was suitable evidence to prove  overdue credits, for purposes of commencing an involuntary insolvency proceeding. The findings of the Collegiate Court’s decision were:

• Pursuant to article III of 1958 New York Convention (Convention on the Recognition and Enforcement of Foreign Arbitral Awards) and the Mexican Commerce Code, arbitral awards are binding; Mexico may not impose substantially more onerous conditions or higher fees or charges on the recognition or enforcement of foreign arbitral awards than are imposed on the recognition or enforcement of domestic arbitral awards;
• Under Mexican Law, an Award is binding from the moment the Arbitral Tribunal renders it, without the need of being previously recognized.
• Pursuant to article 1391 of the Commerce Code, arbitration awards are debt titles, and as such, are documents that are suitable to prove an Overdue Credit, and therefore, comply with the requirements of art. 11 of the LCM.

Although the criteria of the Collegiate Court is not binding, such precedent assists creditors with an un-recognized award to enforce it against an insolvent debtor, before it is too late. Also, it is worth noting that the Collegiate Court treated foreign awards as if they were domestic awards, coherent with the New York Convention’s provisions.

Pros and cons of enforcing an award through an involuntary insolvency proceeding.

From the creditor’s perspective, the pros and cons of enforcing an award through an involuntary insolvency proceeding are the following:

Pros:

• Generally, when an involuntary insolvency lawsuit is admitted, the District Court grants interim measures that forbid the debtor to worsen its insolvency; the debtor may react to these measures by trying to settle the case.
• If the District Court issues interim measures against the debtor, this lowers the risk of the debtor becoming more insolvent.
• If the debtor is in fact insolvent, and wishes to use the insolvency proceeding to restructure its debt, then the creditor would be treated equally with respect to other creditors, except for those which have a preeminent right according to the order established by the law.

Cons:

• If the debtor is insolvent, and there are other creditors that have preeminence according to the order established by law to the credit derived from the award, it may be the case that the collection efforts render no results.
• If the debtor does not meet the insolvency thresholds, and it is not declared insolvent, then the creditor would normally be condemned to pay attorney fees. The amount of such fees is regularly not substantial.

 

 

 

[1] Case (550/2017), Third Civil Federal Collegiate Court Mexico City

[2] Case law provided that the constitutional appeal (juicio de amparo) against a judgment recognizing and ordering the enforcement of an award, was the type of constitutional appeal with only one instance (named amparo directo), that was referred to a Federal Collegiate Court. In a recent case law, the Supreme Court of Justice changed the rule, and now, the type of constitutional appeal against this type of judgments is a two-instance appeal (named amparo indirecto), referred to a Federal District Court, followed by a review recourse resolved by a Federal Collegiate Court.

[3] “INVOLUNTARY BANKRUPTCY PROCEEDINGS. FOR ITS ADMISSION IT IS NOT ENOUGH FOR THE CLAIMANT TO SIMPLY ASSERT AND FILE THE LAWSUIT, BUT ALSO IT IS REQUIRED TO DEMONSTRATE THE GENERALIZED BREACH OF THE MERCHANT'S PAYMENT OBLIGATIONS.” (Registry No. 176 356, 1a. CLXVIII/2005.). This case law, in our view, makes a wrong interpretation of the LCM, and accidentally created an admissibility requirement that District Courts have mis-used in order to reject involuntary insolvency lawsuits. When the LCM was enacted, this requirement did not exist, and Courts admitted creditor’s lawsuits without requiring them to prove, ab initio, the insolvency of the debtor; in our view, the bankruptcy system functioned better prior to this precedent. Even though this case law is not binding (it only has 4 instead of 5 precedents), District Courts usually apply it as if it were binding case law.

[4] Article 11.- It shall be assumed that a Merchant generally did not comply with the payment of its obligations when any of the following takes place:

I. Absence or insufficiency of goods to seize when securing an attachment in case of the non-compliance of a legal obligation or when intending to execute a judgment against the merchant with the quality of res judicata;

II. Non-compliance with the payment of obligations to two or more different creditors;

III. Hiding or being absent, without leaving someone in charge that can comply with the company’s administrative or operative obligations; 

IV. In the same circumstances as in the previous case, the closing of the company's premises;

V. Resorting to fraudulent, fictitious, or ruinous practices to deal with or stop complying with its obligations;

VI. Non-compliance of pecuniary obligations contained in an agreement concluded in terms of Title Five of this Law, and,

VII. In any other cases of an analogous nature.