A bona fide creditor may attempt to take one of the following actions to enable them to take security over assets in Cyprus:
1)
Mortgage – the property under mortgage is transferred into the
creditor’s ownership with a right of redemption in the case of default.
The property will be worth a similar amount to or equal to the amount of
the mortgage.
2) Pledge – gives the lender the right to sell the asset but does not confer ownership of the asset.
3) Charge over immovable property – a fixed charge gives legal rights as security without any actual transfer of ownership.
4)
Impose a floating charge on any immovable property – a floating charge
‘floats’ over all of the assets of the debtor, in the event of a
default, the floating charge crystallises and becomes a fixed charge
over the asset.
5) A lien – gives the right to the debtor to possess
the assets until the debtor pays its debts but does not give the
creditor the right to sell the asset.
Duty of the Directors of the Company:
The
Directors of the company have a duty to the company to act in the best
interests of the company and its beneficiaries, not only when the
company is in financial difficulties but from the moment that they are
appointed as directors until the time that they resign.
Cyprus Companies Law Caps 113:
Section
301 of the Companies Law, Cap 113 states that ‘any conveyance,
mortgage, delivery of goods, payment, execution, or other act relating
to property made or done by or against a company, within six months
before the commencement of its winding up will, in the event of the
company being wound up, be deemed as fraudulent preference of its
creditors and be invalid accordingly’. The Court will look at the
dominant or real intention and not at the result in order to determine
whether or not fraudulent preference has occurred.
Section 303 of the
Companies Law, Cap 113 states that where a company is being wound up, a
floating charge on the undertaking or property of the company created
within 12 months of the commencement of the winding up shall, unless it
is proved that immediately after the creation of the charge the company
was solvent, be invalid, except to the extent of any cash paid to the
company at the time of or subsequent to the creation of and in
consideration for the charge.
Introduction of Fraudulent Trading:
Further
to the above situations, Section 311 of the Companies Law, Cap 113
introduced the concept of fraudulent trading into the insolvency
proceedings in Cyprus. If a liquidator can prove that fraudulent trading
has occurred, the court may find the person responsible, for example,
the director or other such officer of the company, personally liable for
the debt incurred.
Transactions at an undervalue:
Any
transactions which can be proven to have been carried out at an
undervalue, with the intention of putting the assets in a position that
makes them unavailable or unreachable to the companies’ creditors will
be classed as transactions carried out with the intention to defraud the
creditors and they are then vulnerable to being declared null and void
by the court.
Transactions which fall under the Fraudulent Transfers Avoidance Law:
Under
the Fraudulent Transfers Avoidance Law, Cap 62 Section 3, every pledge,
mortgage, gift, sale or other transfer or disposal of a movable or
immovable property made by any person with the intent to hinder or delay
his creditors or any of them in recovering their debts from him will be
deemed to be fraudulent and will be invalid against such creditors.
In
this situation, the property or asset purported to be transferred or
dealt with in another manner but for the same reason may be seized and
sold to satisfy any judgment debt due from the person who made the
pledge, mortgage, gift, sale or other attempted or actual transfer or
disposal. This was shown in the case of Adamou v Kitchiou (1978) 1 JSC
12 and Lymperopoulou v Christodoulou and Others (1957) 22 CLR 184.
A
transaction which falls into the category of a fraudulent transfer
avoidance is one of the ways in which a party can proceed against
company directors, taking them to Court under the Common Law Principles
and where the Court may lift or pierce the so-called ‘Corporate Veil’ to
protect the party’s interests.
Liabilities of a company director
The
concept of fraudulent trading was introduced into insolvency
proceedings in Cyprus by Section 311 of the Companies Law, Cap 113,
creating a civil liability for persons who can be shown to be abusing
the status of limited liability and it also created a criminal offence.
The provision allows an action to be taken against persons who are
knowingly parties to the carrying on of the business, but if the person
cannot be shown to have been a knowing party, then they will not be
liable. Although the provision can apply to directors, and often does,
it is not limited to directors only and can be brought against other
parties who knowingly take part in the carrying on of the business.
As
discussed above, a Director may face personal liability in the event
that it can be shown that they have continued to trade with the intent
to defraud the company’s creditors, Sections 307-311 of the Companies
Law cover the situations where a company officer may be liable. These
offences can carry a conviction; under Section 307 (m) (n) (o), the term
of imprisonment for which can be up to five years and in the case of
all other offences, it shall not exceed two years.
The Companies Law
states it shall be a good defence to some of the possible charges if the
accused director can prove that he had no intent to defraud. For some
of the other offences, he must prove that he had no intent to conceal
the state of affairs of the company or to defeat the law (Section 307
(1)).
Formal Procedures
A company in financial difficulties
in Cyprus may find itself facing one of several different formal
procedures which are provided for under the Cyprus Law.
According to the Cyprus Companies Law, Cap 113, Section 203, there are two main methods of winding up a company, these being:
a) compulsory winding up order which is made by the Courts; or
b) voluntary winding up, which can be instigated either by the members of the company or the creditors of the company.
Winding up by the court:
In
this situation, the court may issue a liquidation order for the company
This may result from the presentation of a petition by a creditor, the
company itself, the Official Receiver or the Attorney General. The Court
will examine the petition for liquidation and if it believes that the
company is unable to pay its debts (this test is discussed in detail
below), it will then issue a liquidation order.
Voluntarily winding up:
In
this situation, the directors make a decision that the company has no
future and agree that that the company should be wound up and therefore
proceed to terminate the company’s existence. For this to happen, a
special or an extraordinary resolution will be passed by the company in a
general meeting, unless the articles of association for the company
provide for another procedure, stating that the company is unable to
continue business due to its liabilities (Cyprus Companies Law). This is
governed by Section 261, Cap 113.
Re-organisation Plan:
A third
option that a company in financial difficulties may decide to take is
that of a reorganisation plan. Such a plan may involve the merger of two
companies or it may involve the incorporation of a totally new company.
This action is taken in order to improve the future possibilities of
the company and to resolve the financial difficulties. Once the
directors have approved the measures, a petition to the court will be
made for the approval of the plan and usually, an order will be issued
to that effect. This method of restructuring a company is not always
suitable and will depend upon the severity of the financial difficulties
that the company faces. It will be a decision for the directors to make
as to whether this option would be suitable under the circumstances.
This is the most flexible and informal option available to a company.
The Process of being Under Management:
Under
Section 250 (1) Caps Law, where in any proceedings the official
receiver becomes the liquidator of a company, whether provisionally or
otherwise, he has the power , if he is satisfied that the nature of the
business of the company or the interests of the creditors require the
appointment of a special manager of the business of the company, other
than himself, to make an application to the Court. The application by
the official receiver shall be supported by a report by the Official
Receiver, which shall be placed in the file of the proceedings. The
report shall either state the amount of the remuneration which, in the
official receiver’s opinion, the special manager ought to be allowed or
that the Official Receiver’s opinion is that it is desirable that the
determination of such remuneration should be deferred, Rule 50 (1) of
The Companies (Winding-Up) Rules 1949. The Court, upon receiving such an
application, may appoint a special manager of the business to act
during such a time as the Court may direct, with such powers as the
Court believes necessary. The special manager will give security and
account in a manner as directed by the Court and shall receive
remuneration in a manner that the Court sees fit.
Tests for Insolvency
The
test for insolvency in Cyprus is based on the company’s ability to pay
its debts. If the company is unable to pay its debts, then it is likely
to go into insolvency through one of the procedures discussed below and
become a formally insolvent company.
The Cyprus Companies Law, Cap
113, Section 212 stipulates the situations where a company will be
considered under Cyprus law as being unable to pay its debts. These are
as follows:
a) The company owes more than 855 Euros to a creditor.
The creditor may claim the debt by sending a formal letter to the
registered office of the company and the company then has 21 days in
which to send the creditor his money. If the company does not send the
creditor his money, then the creditor may apply to the Court requesting
that the Court issue a liquidation order against the company.
b) If
execution or any other process issued with regard to a judgment, decree
or order of any court in favour of a creditor of the company is returned
unsatisfied in whole or in part.
c) The court will consider the
company’s debts/liabilities, both those that it presently has and those
which it is likely to have in the future. If it is proven that the
company is unable to pay its debts, the company will be officially
considered incapable of paying its debts and will officially enter the
procedure of insolvency.
Grounds for being placed into each procedure
Winding up by the Court:
The court will issue an order to wind up a company in the following situations;
a) A special resolution is made resolving that the company be wound up by the court.
b) The company is unable to pay its debts (Cyprus Companies, Section 212, Cap. 113).
c)
The court believes that it is just and equitable to wind up the company
(Cyprus Companies Law, Cap. 113, Section 211, as amended by Law 2 (1)
of 2000).
d) The company does not commence business within 1 year of
its incorporation or suspends its business for a year without giving
notice of this intention or submitting a plan for the business to be
restored.
Voluntary winding up:
This is a very common action taken
by companies that may be encountering difficulties. It occurs because
the directors decide that the company has no future and agree that it is
in the best interests of the company for it to be wound up. A
resolution will be passed stating that the company is unable to continue
conducting its business due to its liabilities and that it has been
decided that it is best to wind the company up, Cyprus Companies Law,
Cap. 113, Section 261. The company should give notice of the passing of
the resolution in the Official Gazette for the Republic of Cyprus within
14 days of the passing of the said resolution.
Re-organisation Plan:
A
reorganisation of the company will also begin with a meeting of the
company, a resolution being passed and a petition being sent to the
court requesting that the relevant order be issued. This must occur
before the reorganisation can take place.
Required Notifications
Winding up by the Court:
The
court will serve a liquidation order to the company and inform the
Registrar and the Official Receiver that the company is in the process
of being wound up. The company also has a duty, for every invoice, order
for goods or business letter that it issues or that is issued by or on
behalf of the company or a liquidator of the company, or by a receiver
or manager of the property of the company, to include a statement
informing the receiver that the company is being wound up. Failure to do
so may incur a fine, Section 317 (1) and (2) Caps Law.
Voluntarily winding up:
If
it takes place due to the members of the company, a declaration must be
given to the Registrar by the directors five weeks before the general
meeting of the company During the meeting, a resolution will take place
in which it will be resolved that the company should be wound up and
that an administrator should be appointed. If it takes place due to the
company’s creditors, a meeting of the creditors will take place on the
same day as the general meeting of the company. A notice of the
creditors’ meeting must be published in the Official Gazette of the
Republic of Cyprus and in two newspapers in the town where the company’s
registered office is situated. The same provisions apply regarding
Section 317 (1) and (2) Caps Law to a voluntary winding up.
Re-organisation Plan:
With
regard to the reorganisation of the company, a relevant decision will
be made at a general meeting and a resolution passed based on the
decision. A petition will need to be sent to court requesting that the
relevant order be issued. Further provisions will depend upon what
decision the company makes, for example the procedures with a merger
will be very different from the disolution of an old company and the
incorporation of a new company. Legal advice should be sought depending
on the outcome of the meeting.
Creditors
The same principles apply to liquidation procedures and winding up as well as to reorganisation procedures.
The
Companies Law, Cap 113, Section 300, as amended by Law 198/86 and Law
19/1990, lays down the order for the distribution of the assets of a
company in a compulsory winding up or administration.
Under the above
section, unsecured creditors are ranked below the costs of winding up,
preferential debts and charges secured by a floating charge. An
unsecured creditor has the lowest priority in the rank of priorities for
settlements. They will only be satisfied once secured creditors have
been satisfied and can only be satisfied if any surplus credit or assets
remain.
Accordingly, unsecured creditors have no real freedom to
enforce their rights under liquidation and must therefore wait until the
liquidator has made all other distributions before they will receive
anything towards the repayment of the debts owed to them. However,
unsecured creditors are entitled to repossess assets which are not owned
by the company, for example goods which may be the subject of a
retention of title clause.
A further point to make would be that an
unsecured creditor who had been awarded a judgment before the
liquidation proceedings were commenced is able to have the judgment
served to the liquidator who must then execute the judgment and ensure
it is enforced like any other civil judgment. In this sense, an
unsecured creditor therefore becomes a secured creditor.
The general
rule is that secured creditors may enforce their security in a situation
where the company is to be liquidated. The extent to which secured
creditors can enforce their security is dependent upon the value of
their security in the first place. The question will be: Does the value
of the security cover the debt which is owed to the creditor? If so,
then they will be fully satisfied and any remaining balance will be
credited to the assets of the company and will be used by the
administrator to satisfy any other liabilities that the company has. If,
however, the security does not cover the full amount of the debt, then
they will join the ranks of the unsecured creditors and have the
remaining amount of the debt settled to the extent possible in such a
way.
The procedure of setting off sums owed by the company’s
creditors against amounts owed by the company to the creditors is
regulated in Cyprus by Sections 198-200 Caps Law 113.
Section 198
enables the creditors to achieve a set off with the company disregarding
the fact that the company may be or is under the process of
liquidation. The company, creditor or the administrator or shareholders
may make an application to the court with the intention of convening a
meeting for the class of creditors that would be participating in the
set off. During the meeting, if ¾ of the creditors present accept the
proposal for the set off, the court will give its approval of the set
off taking place. If approval is given, the proposal is binding on the
company and all of the creditors in the said class.
Section 199
explains the procedures relating to the notices which must be given of
the meeting and gives information regarding compromises with the
company’s creditors and members.
Under Section 246 (3) Caps Law, when
all creditors have been paid in full, any money which is due on any
account whatsoever to a contributory, (contributories are defined by
Section 205 Caps Law as ‘every person liable to contribute to the assets
of a company in the event of its being wound up’) from the company may
be allowed to be given to him by way of a set off against any subsequent
call.
The continuing of business after entering a procedure
In a
situation where a liquidator has been appointed, they take the control
of the company. The ultimate aim is the completion of the task for which
he has been appointed. In this situation, the directors are no longer
in control of the company for the majority of matters. The shareholders
are in the same situation as the directors and have no exercise of their
control powers over the company. All the powers of control are taken
over by the liquidator.
If, however, the company decides to create a
reorganisation plan in order to attempt to solve the company’s financial
issues, the directors remain in control of the company. The
shareholders’ rights are also unaffected as no third party has been
appointed to handle the situation that, for example, a liquidator,
administrator or a receiver would control.
Financing each procedure
In
a situation whereby liquidation is taking place, the costs of the
liquidation process are covered by the liquidation of the assets of the
company and are paid out as the first priority in the hierarchy of
creditors, as set out in the Cyprus Companies Law, Cap 113, Section 300,
as amended by Law 198/86 and Law 19/1990.
If a company decides to
undergo a process of reorganisation or restructuring, it will find funds
from lenders or current support networks to fund any plans and
procedures agreed upon. The funding of such measures will most likely be
one of the factors that are taken into consideration when the company’s
directors are making a decision as to whether such a measure would be
suitable.
The effect on company employees
When a company goes
through the process of winding up, the company’s employees are
automatically dismissed, though the liquidator can re-employ some of the
staff to assist in the business, but this will only be the case until
the winding up is fully completed. The purpose of their re-employment is
to assist the liquidator in finalising the duties that he has been
appointed to complete, Companies Law, Cap 113, Sections 219-221 and
264-265.
In the case of a reorganisation, the effect on the employees
is difficult to determine and legal advice should be sought with regard
to the effects in each individual situation.
The effect on contractual obligations
Contracts
entered into by a company that goes into liquidation are not necessary
terminated merely as a result of the company entering into the
procedure. The liquidator has the right to cancel unilaterally an
onerous contract in order to fulfil his duties and ensure that the
liquidation of the company goes ahead, which he has been appointed to
arrange.
A company which is entering into a reorganisation plan or
restructuring does not necessarily directly have any impact on contracts
that company has already entered into. The directors of the company
should ultimately take these pre-existing contracts into consideration
when discussing and planning for the re-organisation.
Claims
In
the case of a company reorganisation, the creditors will claim their
debts in the way that is prescribed in the reorganisation
agreement/order. There is no way to state definitively how this will
occur, as each case will be different.
In a case whereby a liquidator
is appointed, the creditors will send the company a formal claim in
order to prove their debts. The creditors must send the liquidator proof
of their claims. It is the liquidator’s job to consider each of these
and decide which claims:
a) he will accept;
b) he will reject; and
c)
he is in a position to ask for more information about and evidence of
if he believes that he needs further information before he will be in a
position to decide whether or not to accept or reject the claim. If a
claim is rejected, the liquidator must give the reasons to the creditor
in writing why he has rejected the claim. If the creditor is
dissatisfied with the liquidator’s decision, he may apply to the court
to request that the court consider the situation with regard to why the
liquidator did not accept the proof of his claim and ask them to
reconsider his claim.
d) The Companies Law, Cap 113, Section 300, as
amended by Law 198/86 and Law 19/1990, lays down the order for the
distribution of the assets of a company in a compulsory (court) winding
up.
e) In a compulsory winding up, the order is as follows;
f) 1)
Costs of the winding up – this covers the costs of getting the assets,
the petition and drawing up the statements of affairs as well as the
liquidator’s remuneration and the Inspection Committee’s expenses.
g)
2) Preferential debts – these debts are ranked equally so if the
company’s property is not sufficient to make full payments for each,
they will have to be paid proportionally.
h) 3) Charges secured by a floating charge.
i) 4) Unsecured ordinary creditors.
j) 5) Any deferred debts.
k) Lastly, any remaining surplus will be distributed among the members in proportions based on their rights under the articles.
l)
If the company has decided to enter into a voluntary arrangement or a
reorganisation plan, the creditors will be paid according to the terms
that have been agreed upon. The rights of secured and preferential
creditors remain and will not rank lower than those of the company’s
unsecured creditors.
Tax liabilities
The main point to note
here is that the company will not be liable to pay tax for entering into
each procedure; however, the company will be liable to pay tax on any
profits which are gained whilst the company is involved in any of the
procedures.
The area of tax in such proceedings is too detailed and
complex for a full and sufficient discussion here, however, the
Establishment and Recovery Tax Law, L4/78, as amended, governs in part
this topic here in Cyprus. In particular, Section 8 of the Law states
that the receiver is liable to arrange the tax liabilities of the
company during each of the procedures and should advise the company
accordingly of the relevant taxes and amounts due as an expense of the
liquidation.
Under Section 183 of the Companies (Winding up) Rules,
1949, every solicitor, manager, accountant, auctioneer, broker or other
person employed by an official receiver or liquidator in a winding up by
the Court shall, at the official receiver’s or liquidator’s request,
deliver his bill of costs or charges to the official receiver or
liquidator for the purpose of taxation.
Due to the depth and
complexity of this area, we advise that all companies undergoing such
procedures seek professional advice, in particular regarding their
potential tax liabilities.
Ending the formal procedure
The
process of cramming down is a term that is used in Bankruptcy Law where
individuals are concerned and in Insolvency Law where companies are
being considered when referring to the courts’ enforcement of a
procedure, for example, a reorganisation plan, despite objections which
may be raised by some of the company’s creditors.
We can therefore
say that the process of cramming down creditors is only really relevant
in voluntary arrangements and where a reconstruction/re-organisation
plan is being implemented, the reasons for this being that the approval
of these arrangements depends on majority voting. During these
procedures, the dissenting minority are obliged to accept the
arrangement which has been voted for by the majority and dissenting
creditors are bound by the vote as if they had indeed agreed to the
terms themselves.
It should, however, be borne in mind that the
minority are often protected by principles that are intended, through
the Companies Law, to protect the minority’s interests. Therefore, it
must be appreciated that the scope of these procedures can be limited by
such minority protections.
It is always advisable for the parties to seek legal advice in such circumstances.
Winding up by the Court:
If
the Court has ordered liquidation, the liquidator, once he has
completed the winding up, will request that a meeting be held for all of
the creditors so that he can produce his report on the winding up. The
attendants at the meeting will consider the report and its contents and
whether or not it should be released. After the meeting, the liquidator
must notify the court and the Registrar that the meeting did in fact
take place and also what the outcome was. The Registrar will register
the notice once he receives it and at the end of a three-month period
after the registration, the company will be officially dissolved.
Voluntary winding up:
The
liquidator will send what is known as the final account and return to
the Registrar. After this, a period of three months will follow and
after this period, after the registration of the final account and
return, the company will be considered to be dissolved unless the court,
by way of an application by the liquidators or another interested
party, orders the deferment of the dissolution date.
Re-organisation plan:
If
the directors of the company decide to reorganise or restructure the
company, the outcome will be dependent upon the particular decisions
that have been taken. It may be that the result is that two companies
merge or that they undertake a joint venture. The desired outcome of
such procedures will ultimately be that the financial difficulties that
the company was facing are solved or at the very least, that a plan is
implemented which sets out a time frame for various steps to be taken to
begin working on the financial difficulties.
Alternative forms of restructuring
It
may be possible to avoid liquidation if the company is still in a
position to be able to pay its debts. There are various ways in which a
company’s members can be advised regarding restructuring in order to
avoid a formal procedure for liquidation/winding up. One such way to
enter into a restructuring plan is to appoint a Receiver Manager. Any
creditor of a company can request that a Receiver Manager be appointed.
The appointment of a Receiver Manager is an alternative to the formal
winding up procedures and is governed by the Companies Law, Cap 113 Part
VI. It is also possible for the company and all of its creditors to
enter into an unofficial restructuring agreement, which involves all of
the creditors of the company and the members meeting and discussing and
coming to an agreement on a solution.
In recent years, it has become
noticeable that more attempts are being made to move away from formal
insolvency proceedings and preference is being shown for corporate
recovery via the restructuring of the company’s finances by means of
negotiations between the company that is in difficulty and its
creditors. We believe that there are numerous reasons for the shift in
preference. However, it can be said that one of the main reasons may be
the inflexibility of formal proceedings. A restructuring is not a
statutory remedy and therefore gives an amount of flexibility, however,
it does have some limitations. For example, there are no statutory
mechanisms in such a restructure which will compel a dissenting creditor
to participate. This may then lead to a formal procedure being
initiated.