Twenty years ago, foreign bankruptcy cases were of little concern to most businesses in the United States. However, as a result of globalization, U.S. companies increasingly find themselves needing to collect from a foreign business in financial distress or otherwise affected by a foreign bankruptcy. In response to legal issues arising from such situations, Congress incorporated the Model Law on Cross-Border Insolvency into Chapter 15 of the U.S. Bankruptcy Code in the fall of 2005. The Model Law, first adopted in 1997 by the United Nations Commission on International Trade and Law (UNCITRAL), provides a mechanism to coordinate bankruptcies of debtors who have businesses and assets in multiple countries, and has been adopted in many countries.

Chapter 15 of the U.S. Bankruptcy Code can be used by a U.S. corporation that operates in several countries and chooses to file bankruptcy outside of the U.S., or by a foreign corporation that has U.S. assets or operations. If the distressed business chooses to file bankruptcy outside of the U.S., but needs assistance preserving the assets of the business within the U.S., then Chapter 15 allows the business to commence an ancillary bankruptcy case in the United States.

In order to proceed with an ancillary case under Chapter 15, a representative of the foreign business must file a petition in a U.S. Bankruptcy Court seeking recognition of the foreign insolvency proceeding. If the petition of the foreign representative is granted, the foreign representative is authorized to operate the foreign debtor’s business in the U.S. and transfer its assets in the U.S. with similar powers to a trustee or debtor-in-possession. In addition, Chapter 15 provides that a U.S. Bankruptcy Court can give other appropriate relief, including: (1) applying the automatic stay protection of Section 362 of the Bankruptcy Code and staying actions or proceedings in the U.S. against the foreign debtor or its assets; (2) staying execution against the foreign debtor’s assets when enforcing a judgment; (3) suspending the right to transfer, encumber or dispose of the foreign debtor’s assets; (4) granting discovery regarding the foreign debtor’s affairs and assets; (5) entrusting the administration of the foreign debtor’s assets in the U.S. to the foreign representative; (6) allowing the foreign representative to discover, find and marshal assets in the U.S. and coordinate the disposition of such assets with the main foreign insolvency proceeding; and (7) granting any other relief available to a trustee and debtor-in-possession under the Bankruptcy Code.

But suppose you do not want to be subject to the powers of the foreign representative in the U.S. - can a Chapter 15 proceeding be stopped? Any party in interest can contest the Chapter 15 petition by filing an objection within 20 days after the Chapter 15 petition is filed. The objecting party can respond to the petition, but cannot assert other claims against the foreign representative. Typical grounds for contesting a petition are: (1) whether the basic elements for recognition have been met (for example: whether there is a foreign proceeding and a foreign representative); (2) whether granting relief to the foreign representative is in the best interest of creditors and other interested parties; (3) whether the creditors’ interests are sufficiently protected; (4) whether by granting the petition, the court is taking an action that would be manifestly contrary to the public policy of the United States such as divestiture of property interests, lack of due process and issues under U.S. securities laws; and (5) whether it is fair to grant the petition since it would force a creditor to present its claim in a foreign insolvency proceeding and therefore impair its rights to arbitration or to make a successful argument for payment of its claim. Moreover, even if recognition is granted to the foreign representative, the creditor can seek relief from the automatic stay to allow it to take action against the foreign debtor’s property.

In the face of a Chapter 15, some creditors have sought to file an involuntary bankruptcy petition in the U.S. against the foreign debtor, arguing that the Chapter 15 proceeding should not proceed. However, this strategy has limited effectiveness because assets outside of the U.S. are not subject to the jurisdiction or control of a bankruptcy proceeding initiated in the U.S. unless the U.S. proceeding is recognized by the foreign court. In addition, Chapter 15 directs U.S. Bankruptcy Courts to cooperate and coordinate with the foreign proceeding.

Although Chapter 15 adds a layer of complexity to multinational bankruptcy cases, U.S. creditors may benefit from coordinated efforts by foreign and U.S. courts because an orderly restructuring or liquidation of the debtor’s business is likely to prevent the rapid loss of value that occurs when the debtor’s business gets attacked and dismantled bit-by-bit through piecemeal collection efforts by local and foreign creditors.

For more information about cross-border insolvencies, or for information about the new bankruptcy laws recently enacted in China, please contact Diane P. Furr at 704.342.5338 or dfurr@poynerspruill.com.   Diane is a partner in Poyner & Spruill’s Charlotte office, concentrating her practice in Bankruptcy & Creditors’ Rights.