This is a process only available for companies that do not meet the formal Bankruptcy Test, but where the directors feel that they will be unable to trade out of their existing indebtedness. In a preventative composition, the company would make an application to the court supported by a detailed overview of its trading position and net assets (and various other information) and their plan for how the preventative composition plan should proceed to enable them to settle their debts to a position where they can exit the plan and begin business as usual again.
If the court accepts the application, the company’s debt obligations will be suspended, during which time the court will appoint a trustee to supervise the directors’ management of the company. The trustee would seek to agree a plan for the company to trade out of its existing position. The plan would require the approval of a majority of its creditors holding not less than two thirds of the value of the total outstanding debts of the company. The trustee, with assistance of the court, would then oversee implementation of the preventative composition plan over a period of up to 3 years. During the term of the plan, the company is restricted from taking certain measures (such as settling claims that arose prior to commencement of the plan, taking on new debt or disposing of its assets etc.) and must generally manage the business in accordance with the terms of the court-approved plan and under the supervision of the trustee and the court. If at any time during the implementation of the plan, the company fails the Bankruptcy Test or the court determines that the plan is impossible to implement, it may terminate the plan and convert it into a declaration of bankruptcy, described below.
There are two limbs of bankruptcy under the Bankruptcy Law: Formal restructuring and Insolvent liquidation.
The initial view to be taken by the court on an application for bankruptcy is to assess whether the company can be restructured, settle its debts, and become profitable again. So, similar to the preventative composition, an expert and trustee are appointed to determine the company’s financial position, compile a complete list of creditors, and assess whether the company can be restructured in order to become profitable once more. Any such plan presented to the court requires the approval of the company and the approval of a majority of its creditors holding not less than two thirds of the value of the total outstanding debts of the company. The trustee and company then implement the restructuring plan, in a similar way to the preventative composition plan, but with the trustee taking a more executive role.
If a restructuring is not possible, the court shall issue a judgement to declare the company bankrupt and order liquidation of its assets. A declaration of bankruptcy and liquidation could also be issued in a range of other scenarios, including if the required majority approval of creditors is not reached for the restructuring plan, or if the company applied for bankruptcy and is deemed to have acted in bad faith or applied in order to delay or evade payment to a creditor. The court may also order the insolvent winding-up of a company if a plan for preventative composition or restructuring fails or becomes, in the court’s opinion, impossible to achieve.
Once bankruptcy is declared, the trustee shall arrange to liquidate the company and its assets and distribute the proceeds to the creditors in order of priority, and the balance back to the company for distribution among its shareholders.