On restructuring, rehabilitation and bankruptcy procedures under Kazakh law

Declaration of the state of emergency in light of COVID-19, low oil prices, and subsequent devaluation of the national currency – the Tenge, is making a serious negative impact on the financial situation of Kazakh debtors. In response, the President of Kazakhstan, among other things, issued an order banning commencement of bankruptcy court proceedings until 1 October 2020.

This is likely to cause a wave of insolvency applications in courts following 1 October 2020. We would therefore like to remind readers of the main insolvency regimes under the Republic of Kazakhstan Law “On Rehabilitation and Bankruptcy.

The Law provides for main three types of insolvency regimes: (i) restructuring; (ii) rehabilitation; and (iii) bankruptcy, as described below.

1. Restructuring

Debt restructuring may be feasible if the debtor is: (i) facing a temporary insolvency and (ii) it is capable of reaching an agreement on restructuring of the debt (for example, by discount, deferral and otherwise) with each and every creditor. The second is of course very rare. This is why restructuring as a type of insolvency regime is rarely applied.

Temporary insolvency refers to a situation where: (i) a creditor holds a binding judgment against the debtor for the recovery of a debt and (ii) such debtor has failed to return the debt during four months (no minimum monetary threshold is set).

To apply for restructuring the debtor applies for a court order. The court reviews the application within 10 business days. If the application is granted the debtor would have two-month to reach an agreement with creditors. During this two-months period: (i) the debtor is protected from bankruptcy applications; (ii) interest or penalties do not accrue; (iii) the debtor is prohibited from transferring its assets.

If during the two-months period the agreement is reached, the court would approve it. Restructuring procedure cannot exceed three years. Following court’s approval and during the validity of the agreement the debtor would be protected from all claims of creditors: interest and penalties would stop to accrue, freezing orders and other types of injunctive relief would be removed, enforcement of judgments would be terminated (except for claims for compensation of damage to health and life).

Breach of the restructuring agreement gives rise to a creditor’s claim to terminate the agreement.

2. Rehabilitation

Rehabilitation procedure sets out a lower standard in terms of required creditor support. To apply for rehabilitation, the debtor must be able to demonstrate: (i) temporary insolvency and (ii) later following the entry of the judgment into effect more than 50 per cent of creditors must support rehabilitation.

Rehabilitation can be implemented for a period of up to five years. If implemented, it is more difficult for a creditor to terminate it. Rehabilitation procedure is frequently used to defraud foreign and domestic creditors.

To implement rehabilitation the debtor would have to file an application to court (a creditor or the debtor may both apply), and the court would conduct a full-scale trial. As mentioned above, one of the elements of “temporary insolvency” refers to a binding judgment against the debtor for the recovery of the debt. Our interpretation is that this requirement only applies to the creditor that initiates rehabilitation procedure – it is not required for creditors who join an ongoing rehabilitation trial.

During the trial, the court would involve a temporary administrator to, among other things, (i) study the financial situation of the debtor and express opinion on whether or not the debtor has a prospect of financial recovery and (ii) register the claims of creditors.

It can take up to six months to obtain a binding judgment and for the rehabilitation procedure to start (review at the District Court and Appeal).

If the court grants the application and the judgment enters into effect, the debtor and creditors would have three months to enter into a rehabilitation plan – plan which sets out main activities which the debtor would undertake to restore its financial condition. Creditors are free to replace management. Affiliated creditors are not allowed to vote, although sometimes debtors try to control the meeting of creditors by way of generating an artificial debt and registering it in the name of an offshore company which beneficial ownership is difficult to track. Kazakh courts are not always active in uncovering such fraud.

Failure to approve the rehabilitation plan within the three-months period leads to termination of rehabilitation procedure, and the court would commence a bankruptcy trial to find out whether there are sufficient grounds to bankrupt the debtor (rarely, the court may reject bankruptcy, and the debtor would return to its state prior to filing for the rehabilitation).

During rehabilitation procedure the debtor would be protected from creditors’ claims. Foreign currency claims would be fixed in Tenge for a period of up to five years regardless of potential inflation or devaluation.

Rehabilitation procedure is extremely dependent on the judge (the judge who reviewed and granted the initial application would review all of the disputes within rehabilitation until it ends, e.g. challenges of claims of other creditors, challenging of actions of the rehabilitation manager, etc. Such disputes except the rehabilitation judgment cannot be appealed to the Supreme Court). In challenging jurisdictions like Kazakhstan, the court’s institutional weakness may lead to serious risks for a creditor.

3. Bankruptcy

Bankruptcy procedure involves liquidation of the debtor where it is not possible to restore the financial condition of the debtor.

To file for bankruptcy a creditor must file an application to court and demonstrate “steady insolvency”, i.e. that: (i) a creditor holds a binding judgment against the debtor for the recovery of the debt or that the debtor recognised the debt and (ii) the debt has not been repaid (no minimum monetary or time thresholds exist).

If the debtor seeks bankruptcy, it must apply to court and demonstrate that: (i) the debtor’s liabilities exceed its assets as at the date of filing the application and (ii) such financial condition existed as of the start of the year in which the debtor has filed the application.  

4. Advantages and disadvantages

4.1. Rehabilitation procedure

The main advantage of the rehabilitation procedure for the debtor is the possibility to obtain deferral of obligations for up to five years. Another advantage, as mentioned, is that the claims of creditors are fixed in Tenge, which can mitigate the risk of a further increase of foreign currency denominated debt following foreign currency fluctuations. The rehabilitation may save a working company.

The majority of key decisions in the rehabilitation procedure would be made and controlled by the meeting of creditors. Creditors or a creditor that holds the majority votes would effectively control rehabilitation procedure. If such creditor is capable of obtaining court’s support, little could be done to change the dynamics of the rehabilitation. Creditors’ abuse may lead to destruction of an otherwise struggling but a promising company, by way of, among other things, bad management.

4.2. Bankruptcy

Surprisingly, it may be difficult to bankrupt a company in Kazakhstan, as Kazakh courts generally do not like bankruptcies. They do not want to be seen as killing business. Frequently, bankruptcy applications are rejected as being premature. Courts take the view that the debtor has not taken sufficient efforts to enforce a judgment against the debtor, even if the value of remaining assets is less than the debt or the debtor no longer exists, although its accounts or other records demonstrate assets.

If commenced, bankruptcy procedure can take years. It may require proper oversight of the bankruptcy manager. If conducted properly, it may involve challenges of transactions of the debtor which led to transfer of assets or favoured settlement of claims of certain creditors. This may result in some of the assets being returned. Sometimes, management of the debtor may be subjected to secondary liability for the debts.

Bakhyt Tukulov