Bankruptcy and arbitration in Ukraine: can I have both?
Domestic insolvency procedures and international arbitration have been locking horns on and off throughout the world – and Ukraine is no exception. At the same time, the emergence of insolvencies were more or less predictable, thus making dispute resolution strategies somewhat easier to build. The 2020 quarantine changed this status quo immensely. The lockdown shook up supply chains, suspending or closing many businesses. This will most likely lead to an overwhelming solvency crisis. Experts all over the world are expecting a wave of restructurings and bankruptcies; it is substantially up to the creditors whether they will be able to recover on debts.
To contain this wave of insolvencies, governments and lawmakers are changing the existing legislative framework. In Ukraine, the most recent legislative initiatives include the introduction of a moratorium to the initiation of bankruptcies by creditors. Under the draft Law No. 3322 – already adopted by the Parliament though not yet in force – the courts shall deny the commencement of insolvency proceedings for creditors’ claims that matured on or after 12 March 2020. This moratorium shall remain in force for the duration of the quarantine and 90 days after its lifting. Once in force, the changes shall undeniably hold back the insolvencies and hopefully allow for most businesses to recover their financial state. Many may nevertheless not make it.
It is primarily for the creditors to do the damage control – assessing the nature of obligations, available securities and risks of non-recovery, as well as applicable dispute resolution clauses.
Depending on this assessment, a creditor might find itself with a troubled, poorly secured debt under a contract concluded with a Ukrainian debtor and providing for dispute resolution bymeans of arbitration. Alternatively, a creditor may already be in arbitral debt recovery proceedings, with the risk of insolvency of a Ukrainian debtor looming over the creditor’s recovery chances. In any similar situation, domestic insolvency legislation and court’s approach towards related arbitrations become key in building recovery strategies. Let us analyse how recovery will work with Ukrainian troubled debtors – can a creditor have both arbitration and bankruptcy?
Under Ukrainian insolvency and related commercial procedure law, the latter governing arbitrability issues, insolvency cases and cases on monetary claims against the debtor undergoing court insolvency procedures in Ukraine shall be considered exclusively by Ukrainian commercial courts. It is not rare that Ukrainian debtors, whether within arbitrations already pending at the time of commencement of insolvency proceedings or in arbitrations commenced after institution of insolvency proceedings, bring up this concept of Ukrainian law and ask the tribunal to terminate the proceedings and refer the parties to a Ukrainian domestic court. In such cases, the approach of the tribunal (and subsequently the domestic court enforcing the award wherever in the world) will be highly dependent on the details of the case.
Applicable substantive law and seat of arbitration
While Ukrainian law is quite unambiguous as to the monetary claims arising in Ukrainian law-governed relations, it does not deal with arbitrations governed by any other law or seated outside Ukraine. Ukrainian court practice further does not contain any cases where a debtor, in interpreting above Ukrainian law provisions, was successful in obtaining any anti-arbitration injunction or denial of recognition and enforcement. It may be contended that, where the contractual relations are governed by non-Ukrainian law and/or seated outside Ukraine, the creditors are safe to commence and hold arbitral proceedings from a Ukrainian law perspective. The influence of Ukrainian insolvency proceedings on arbitration shall be assessed separately.
Assets and place of enforcement
Undeniably, for the purposes of future successful recovery it is vital that an asset search is done prior to any debt recovery steps are taken. As it is quite common for the debtors to scatter assets all over the world, it might be the case that debtor’s assets outside Ukraine will be sufficient to cover the debt recognised under the award.
Enforcement against Ukrainian debtor’s assets abroad may further be of interest to the creditors given the technical difficulties that insolvency managers face regarding debtor’s assets outside Ukraine once the insolvency is commenced. Under Ukrainian bankruptcy laws, once the bankruptcy proceedings are commenced, a court-appointed bankruptcy manager shall identify and take inventory all of the debtor’s assets for further sale and distribution of gains among the debtors. At the same time, the procedure of identification of overseas assets is vague and bankruptcy managers typically limit themselves with identification of assets within Ukrainian borders. Thus, it may appear that at the time of the enforcement the foreign assets will be unencumbered and relatively easily recoverable.
Recognition of an award pending bankruptcy proceedings
In terms of possible enforcement risks, the 1958 New York Convention on the recognition and enforcement of foreign arbitral awards, to which 164 states all over the world are parties, provides for a very limited list of procedural grounds for recognition denial. It does not provide for domestic insolvency law provisions to be ground for denial of recognition and enforcement of arbitral awards.
If an award is recognised in Ukraine, Ukrainian court practice is now firmly established in that once the arbitral award was rendered against a person undergoing insolvency proceedings, such award shall be recognised and enforced.
For instance, in Vitkovice, Steel a.s. v DMK insolvency proceedings were instituted after the award was rendered but before it could be enforced. In the recognition case considered by civil courts, the debtor requested denial of recognition and enforcement of the award since at the time of filing of recognition and enforcement motion its bankruptcy proceedings were already instituted. With the institution of insolvency proceedings, the court put a moratorium on granting of creditors’ claims and, according to the debtor, any claims, including award recognition and enforcement ones, anywhere outside insolvency proceedings were to be terminated and transferred for consideration to commercial court within the main insolvency proceedings.
The Supreme Court rejected these arguments on the grounds that the procedure for recognition and enforcement of arbitral awards is a separate type of non-litigious civil proceedings and procedural law does not provide for termination of these proceedings regardless of pending debtor’s insolvency proceedings. Further, the Supreme Court reasoned that recognition of awards is governed by the 1958 New York Convention as well as by the Civil Procedure Code, whereby pending insolvency proceedings are not a ground for denial of recognition and enforcement, thus recognition shall be granted.
Similar issues were raised in Dalmond Trade House Limited v Enakievo Metallurgy Plant PrJSC. The Supreme Court, in addition to affirming the position taken in Vitkovice, Steel a.s. v DMK stated that, under the bankruptcy laws, a commercial court hearing the insolvency proceedings shall consider all material claims to the debtor solely where there is an unresolved dispute on the merits. Since the award is already rendered, the dispute on the merits no longer exists: thus, there are no legal grounds for the debtor to claim transfer of recognition and enforcement dispute to be considered within insolvency proceedings.
Enforcement of an award pending bankruptcy proceedings
As to the coercive enforcement of the award once recognised in Ukraine pending bankruptcy proceedings, an ordinary coercive recovery through bailiff will not be available for the creditor. To gain repayment, the creditor will need to file its creditor claims within the insolvency proceedings. The ground for recognising the monetary claims shall be the enforceable ruling of the Ukrainian court recognising the arbitral award. Otherwise, to register its debts within the register of approved debts, the creditor will have to file its claims all over again within the insolvency proceedings as if arbitration was never held.
Once the debts under the award are included into the register of approved debts by the court, the relevant creditor will be eligible for distribution of funds gained by the insolvency manager through sale of debtor’s assets.
As regards Ukrainian debtors, it appears that a creditor indeed can have both arbitration and bankruptcy. It is important, as in any debt recovery, that the strategy is planned carefully and well in advance. It is important to make a thorough asset search and choose the best recovery jurisdiction, analyse dispute resolution mechanisms available, the related time limits for award or judgment receipt and match them with the anticipated insolvency proceedings. Once assessed carefully and thoroughly, the creditor will enjoy the best of both arbitration and bankruptcy for the most efficient debt recovery.
Draft Law No. 3322 on changes to Code of Ukraine on Bankruptcy Procedures to prevent abuse in bankruptcy sphere for the duration of measures aimed at prevention of appearance and spread of acute respiratory disease COVID-19.
Commercial Procedure Code of Ukraine, Law No. 1798-XII (Nov. 06, 1991), Art. 20 (1) (8) and 22 (1) (2).
Code of Ukraine on Bankruptcy Procedures, Law No. 2597-VII (Oct. 18, 2018), Art. 39 (14).
Code of Ukraine on Bankruptcy Procedures, Law No. 2597-VII (Oct. 18, 2018), Art. 12.
Based on the publicly available information, no cases were established of bankruptcy managers taking steps to identify and inventory assets of debtors outside Ukraine
Vitkovice, Steel a.s. v DMK, case No. 824/131/19, Supreme Court Ruling of 5 December 2019.
Code of Ukraine on Bankruptcy Procedures, Law No. 2597-VII (Oct. 18, 2018), Art. 41.
Dalmond Trade House Limited v Enakievo Metallurgy Plant PrJSC, case No. 824/125/19, Supreme Court Ruling of 16 January 2020.
Lemma Insurance Company PJSC Bankruptcy, case No. 910/10542/18, Northern Appellate Commercial Court Ruling of 3 June 2019.
This article was first published in the IBA Litigation Committee newsletter in November 2020, and is reproduced by kind permission of the International Bar Association, London, UK. © International Bar Association