Out-of-Court Restructuring Strategies

*****

This is the third of five articles in the Financial Distress series:

1. Stages of Financial Distress?
2. Sources of Liability in Financial Distress
3. Out-of-Court Restructuring Strategies
4. Voluntary Insolvency Proceedings
5. Do’s and Don'ts - Action Plan for Debtors in Financial Distress

*****

Out-of-court restructuring is a crucial strategy for companies facing financial distress in Mexico. This approach aims to reach contractual agreements between creditors and the debtor without resorting to formal insolvency proceedings. While these processes are not governed by specific binding rules in Mexico, they are guided by internationally recognized principles of conduct and professional practice. Understanding the key components and challenges of out-of-court restructuring is essential for companies seeking to navigate financial difficulties effectively.

Coordinated Approach Among Creditors

One of the primary challenges in out-of-court restructuring is achieving a coordinated approach among creditors. This coordination is crucial for several reasons:

• Overcoming differences in creditors' attitudes and interests
• Addressing the varying nature of creditors' claims
• Mitigating the "prisoner's dilemma" where individual creditors may be incentivized to act uncooperatively

Successful coordination can reduce the risk of asset dilapidation caused by early-moving creditors and can decrease the cost and time required to achieve restructuring. This is often achieved through pooling advisers, sharing costs, and improving communication among creditors.

Standstill Agreements

A key component of out-of-court restructuring is the standstill agreement. This agreement typically includes:

• Undertakings by creditors to refrain from enforcing their claims during negotiations
• Commitments not to challenge other participating creditors' claims
• Agreements not to take actions that would improve a creditor's position to the detriment of others
• Similar undertakings from the debtor
• Provisions for sharing information and lock-up covenants

However, standstill agreements in Mexico face some legal challenges. The enforceability of undertakings to refrain from exercising procedural rights is questionable, and specific performance may not be available. Additionally, the lack of legal protection for shared information in court proceedings can complicate the exchange of sensitive data.

Rescheduling Agreements

The end product of a successful out-of-court restructuring is typically a rescheduling agreement. This can be implemented in two main ways:

• Refinancing Approach: Providing a new money facility to repay the old debt
• Restructuring Approach: Changing the terms of the existing debt

Each approach has its advantages and disadvantages. The refinancing approach may mitigate risks related to the validity of original claims but could face challenges in maintaining the priority of security interests. The restructuring approach may preserve existing security interests but could be more vulnerable to challenges based on the validity of the original claims.

Interim Financing

Securing new money to continue operations during the standstill period is often crucial. However, this raises questions about how new money providers will be recognized in priority over pre-existing creditors. The risk of having this privilege set aside in case of subsequent insolvency proceedings is a significant concern for potential interim financiers.

Dealing with Publicly Traded Debt Securities

Restructuring publicly traded debt securities presents unique challenges. Indenture trustees, who typically represent holders of these securities, may face limitations in their authority to enter into standstill agreements or accept rescheduling terms. The need for approval from security holders' meetings can cause delays and complicate the restructuring process.

Implementation of rescheduling agreements for publicly traded securities often involves exchange offers, which can be costly and time-consuming. Additionally, Mexican securities laws impose restrictions that can hinder broad acceptance of such offers.

Employee Considerations

Dealing with employees in the context of restructuring is particularly delicate in Mexico. Key considerations include:

• Legal restrictions on waiving accrued and unpaid salaries or benefits
• Limited options for rescheduling labor conditions
• The need for administrative procedures to amend economic conditions or suspend/terminate labor relationships

Conclusion

Out-of-court restructuring in Mexico offers a flexible alternative to formal insolvency proceedings. However, it requires careful navigation of legal, financial, and practical challenges. Success often depends on achieving coordination among creditors, implementing effective standstill agreements, and crafting rescheduling agreements that address the needs of all parties involved.

Companies considering this approach should be prepared for complex negotiations and may need to engage legal and financial experts to navigate the process effectively. While out-of-court restructuring can be a powerful tool for avoiding formal insolvency, it requires careful planning, execution, and consideration of the unique aspects of Mexican law and business practices.