Croatia: systemic risk and state intervention

August 2017 | EXPERT BRIEFING | BANKRUPTCY & RESTRUCTURING

financierworldwide.com

At no time in its 26-year history has Croatia seen a piece of legislation that has caused as much turmoil as that of the recently enacted Special Administration Procedure Act (Act), popularly known as ‘the Lex Agrokor’.

Prior to the adoption of this controversial law, the public had been following the major financial crisis that had engulfed the Agrokor Group – Croatia’s largest privately owned company in the retail and food production sector. The company, which operates in territories of the former Yugoslavia, includes energy, construction, the distribution of newspapers and tobacco services among its business interests. The importance of the Agrokor Group to the Croatian economy should not be underestimated and may be best understood by analysing the facts and figures of the company’s operations. For example, the total annual revenue amounted to approximately €6.5bn in 2016 while the number of people employed was more than 60,000.

The vast and rapid expansion of the regional market – Croatia, Serbia, Slovenia and Bosnia and Herzegovina – and particularly the new fields of businesses that were almost exclusively acquired through debt financing, caused an erosion of the Agrokor Group’s creditworthiness, leading Moody’s to downgrade the company to a Caa2 credit rating. According to publicly available data, the Agrokor Group faces liabilities amounting to almost HRK50bn (approximately €6.5bn) – six times the company’s assets and a total which makes its survival difficult to imagine.

After the Agrokor Group managed to negotiate a standstill arrangement with its creditors and suppliers, the Croatian government decided to take the matter into its own hands in order to safeguard the stability of the Croatian economy, as well as Agrokor employees and a great number of endangered small and medium-sized enterprise suppliers. Even though the Act is not specific to the problems surrounding the Agrokor Group, the timing and the manner in which the Act was passed suggests otherwise. Furthermore, the level of importance of the Act is demonstrated by the fact that it was passed expeditiously, contrary to the ordinary legislative procedure and without any prior consultation with the Croatian public.

At its core, the Act aims to protect the viability of companies that are of systemic significance to Croatia and which may affect the overall economic, social and financial stability of the country. Moreover, the special administration procedure under the Act is intended to be a rapid and effective procedure for the preventive restructuring of such companies in order to ensure the liquidity, sustainability and stability of their business operations.

In order to qualify as a company of systemic significance, a business entity – which cannot be a financial or credit institution – must be a joint stock company and, either alone or together with its subsidiaries and affiliates, employ more than 5000 people during the preceding calendar year and have outstanding receivables amounting to more than HRK7.5bn (approximately €1bn).

The Commercial Court in Zagreb is vested with exclusive authority to conduct the special administration procedure. The procedure can only be instigated with the explicit consent a debtor that meets the criteria of systemic significance or upon request of a debtor’s creditor. Once the Court receives the proposal for the instigation of the procedure, it is obliged to notify the government, which then nominates a special commissioner to handle the procedure.

The role of the commissioner corresponds to that of a company director: he or she is entitled to represent the debtor solely and independently, but with certain limitations. The commissioner may undertake all the actions necessary for the debtor’s ordinary course of business, including payments to the debtor’s employees and suppliers. That said, the commissioner does not have unlimited authority. Without prior approval of the creditors’ council, which is comprised of up to nine members each representing a group of creditors with different legal status and subsequently economic interest, the commissioner may not dispose of a debtor’s estate and shares (including its subsidiaries and affiliates) if its value exceeds HRK3.5bn (approximately €500,000). With regard to debtor subsidiaries and affiliates, it should be noted that the existing management structure is entitled to undertake all the actions that are necessary for the ordinary course of business. In other cases, obtaining prior consent from the commissioner is required.

In order to reduce systemic risk, continue business operations and preserve assets, the commissioner may, with prior consent from the creditor’s council, settle the debtor’s existing due obligations originating from the normal course of business and obtain new financing. Claims relating to the delivery of goods and provision of services to the debtor or its subsidiaries and affiliates are deemed to be necessary for the continuation of the usual course of business. However, the same status does not apply to holders of claims originating from financial and credit arrangements or to holders of security instruments. The exception is claims originating from new financing, which have priority over all other obligations, save for claims made by employees and former employees.

During the course of the special administration procedure, it is not possible to instigate liquidation, pre-bankruptcy or bankruptcy proceedings against the debtor. Furthermore, all proceedings that have already been initiated before that moment shall be suspended. In addition, an immediate moratorium is placed on all collection and enforcement procedures against the debtor and its subsidiaries and affiliates, except for employment-related claims.

Secured creditors may not in any way exercise their right to separate settlement or demand liquidation of the debtor’s assets in order to settle their claims. In terms of timing, the special administration procedure may last up to 15 months, during which time the commissioner is entitled – always with the prior consent of the Creditors’ Council – to file a request to the Court to end the procedure and instigate regular bankruptcy proceedings. This is done because it is deemed unlikely that an economic balance will be established or that the debtor’s business operations will continue on a more permanent basis.

The commissioner may, within 12 months from commencement of the procedure and with the possibility of an extension, propose to the creditors’ council an adoption of the restructuring plan in a form that is acceptable to a majority of creditors. For example, the amount of the claims of the creditors who accepted the settlement must be greater than the amount of the claims of the creditors who voted against it. The settlement shall be deemed accepted if it is supported by two-thirds of all outstanding claims.

Considering the timing and its contents, it is obvious that the purpose of the Act is to address the issues surrounding the Agrokor Group. Even though time will reveal the exact consequences of the Act, for the moment it raises concern over the lack of equal treatment of creditors who are not guaranteed adequate representation. Political opposition heavily criticising the Croatian government’s attempt to save the Agrokor Group by means of adopting the new law is also raising concerns that certain provisions of the Act are not compliant with existing EU and national legislation. Therefore, it has not come as too much of a surprise that only four days after coming into force, the constitutionality of the Act has been challenged before the Croatian Constitutional Court.

Hrvoje Vidan is a partner and founder and Mihaela Malenica is a senior associate at Vidan Law Office. Mr Vidan can be contacted on +385 1 48 54 070 or by email: hrvoje.vidan@vidan-law.hr. Ms Malenica can be contacted on +385 1 48 54 070 or by email at: mihaela.malenica@vidan-law.hr.

Hrvoje Vidan and Mihaela Malenica

Vidan Law Office