Why SMEs need to take a deeper look at the new bankruptcy laws

Close to 10,000 small and medium-sized enterprises (SMEs) and more than 1,500 private sector companies used the economic stimulus, according to UAE Central Bank. However, despite the support there are several SMEs who have been impacted by this pandemic and the revised bankruptcy law could provide them with another opportunity to survive. Abdulla Alawadi & Associates, one of UAE’s oldest law firms, feels that impacted organisations with the SME sector in UAE will be in a better position to mitigate the challenges with the recently announced bankruptcy law.

In a statement, the law firm clarified that the key purpose of the amendments is around restructuring businesses rather than dismantling them and selling their assets, which would be detrimental for the economy. The amendments stipulate the addition of new provisions to the law with regards to ‘emergency situations’ that impinge on trade or investment, to enable businesses to overcome credit challenges in times of pandemics, natural and environmental disasters and wars.

Based on this, a new mechanism has been put in place wherein if SMEs face financial difficulties, such a mechanism provides grace periods whereby creditors are prohibited from filing for bankruptcy. During this grace period, both the debtor SMEs and creditors would have to engage in good faith negotiations to, among other things, defer payments and financial fines. This grace period would provide debtor SMEs the breathing space required to recover.

According to Bahjat Abou Zeyd, Senior Associate for Corporate at Abdulla Alawadi & Associates, “The key changes in the Law is the introduction of the concept of an `Emergency Financial Crisis'. This is defined as "a public event that affects trade or investment in the State such as the outbreak of an epidemic, a natural or environmental disaster, war or others". Furthermore, the UAE Cabinet will determine if, and for how long, any given situation will be deemed to be an Emergency Financial Crisis.”

Abou Zeyd clarified that under the old provisions, a company could apply to the court to commence bankruptcy proceedings if it has failed to pay its debts when due for more than 30 days. Such provisions are temporarily suspended for the duration of the Emergency Financial Crisis, provided that the debtor's default is caused by the Emergency Financial Crisis.

The debtor can apply to the court for a `grace period' of up to 40 days to attempt to negotiate a settlement with its creditors. If the court approves the grace period, the debtor is obliged to publish the court's decision in two national newspapers and invite creditors to negotiate a settlement within 20 business days of publication. The settlement terms must include satisfaction of all debts within 12 months. If the settlement is approved by the court and agreed by creditors, who hold at least two thirds of the value of the debt, the settlement will be binding on all creditors, regardless of whether they participated in the negotiations or agreed to the settlement terms.

How does this help SMEs?

The process outlined by Abou Zeyd gives distressed debtors protection from formal bankruptcy proceedings and breathing space to continue operating, whilst under the protection of the Bankruptcy Law.

However, not all distressed debtors will be in a position to take advantage of this new process where the debtor is unable to:

• repay all debts in full within 12 months; or

• secure agreement to its proposals from the requisite majority of creditors, the debtor will be obliged to file for bankruptcy proceedings in the normal course. in such cases, the amending law gives the court the power to accept the application and to amend the process as it deems fit, so long as the debtor's default is caused by or is a result of the emergency financial crisis.

Another major amendment is the ability of a debtor to apply to the court for permission to procure new financing, with or without security, provided certain conditions are met. These include:

• the financing must have priority over any existing ordinary debt owed by the debtor;

• any security granted must be limited to:

  the assets of the debtor which are not subject to security; or

  any secured asset where the value of the asset exceeds the value of the existing secured debt unless the party providing the new financing is a licensed financing entity. In which case new security may be granted over a secured asset even if the value of that asset is equal to the value of the existing secured debt if the new security does not exceed 30% of the value of that asset.

These conditions concerning new financing during an Emergency Financial Crisis allows the debtor more flexibility to access financing, which in emergency circumstances could be crucial to the survival of a business.

The new changes to the law also allows modification to the rules applying to bankruptcy proceedings commenced prior to, but continuing during, the Emergency Financial Crisis, These include:

• extension of time where the court can extend the grace period for negotiating a settlement with creditors to up to 80 business days

• the court has the power to vary the debtor's existing contractual obligations, should it deem it necessary to do so. For instance, the court may decide that it is permissible during an Emergency Financial Crisis for the debtor to terminate an existing contract or for a debtor to apply to the court for an order rescinding a contract.

Which SMEs qualify for these provisions and which sectors?

Each company affected by the pandemic and facing financial difficulties can qualify for these provisions irrespective of the sector in which the company operates.