Revealed: UAE insolvency law explained during coronavirus crisis

Employers and employees must know their rights during current global pandemic

Plans by UAE building giant Arabtec to enter the company into liquidation will be the first real test of the country’s new bankruptcy laws.

It may be the most high profile case of note, to date, but the onset of the Covid-19 pandemic earlier this year has piled huge pressures on businesses.

Daniel Xu, partner at King and Wood Mallesons, explains how the law impacts companies during the current pandemic.

What is the insolvency law for companies impacted by the COVID-19 pandemic in the UAE?

For those companies adversely impacted by COVID-19, the UAE’s legal framework includes two major laws that govern insolvency, both of which aim to assist businesses when they are navigating commercial difficulties. The UAE Federal Law No 2 of 2015, commonly known as the Commercial Companies Law (CCL), allows companies to declare voluntary liquidation by passing a General Assembly Resolution.

Bolstering the CCL is the UAE Federal Law No 9 of 2016, commonly known as the Bankruptcy Law. This particular avenue of provides companies with two court procedures, the first being a protective composition procedure. This is a debtor-led procedure that assists the debtor with reaching a settlement with creditors under the supervision of the court.

This procedure is solely available to debtors who are facing financial difficulty but are not insolvent and who have not ceased to pay any debts due for a period of more than thirty (30) consecutive working days. The option of debt collection proceedings offers genuine rehabilitation, and companies who can foresee the long-term benefits are encouraged to explore this avenue available to them.

The alternative court procedure is bankruptcy, consisting of either court-supervised restructuring or liquidation. This option allows those companies who are beyond rehabilitation to close commercial operations legally, avoiding future legal and financial repercussions.

In cases where companies become insolvent due to COVID-19 crisis, what are the legal implications towards shareholders and other financiers?

Under the CCL, where the losses of the company exceed 50 percent of its share capital, the directors are required to notify the shareholders, who may consider liquidation of the company.

Where losses exceed 75 percent of the company’s share capital, shareholders holding greater than 25 percent of the company can require its dissolution.

In the event that the company becomes unable to pay its debts, the UAE Federal Law No 2 of 2015, commonly known as the Commercial Transactions Law, stipulates the directors must file for bankruptcy within 30 days of the date of suspension of payments of debts.

Failure to take such action may result in the directors being considered personally liable in any future bankruptcy proceedings.

If the company is a partnership or a limited partnership, as defined by the CCL, the partners of the company will be declared bankrupt. However, in the case of groups of companies, the court may also declare the insolvency of another company who has carried out commercial activities in the name of the debtor company or disposed of the debtor company’s assets.

If the company’s assets are not sufficient to cover at least 20 per cent of its debts, the court may order some or all members of the company’s board of directors or the company’s managers, jointly or individually, to pay the debts of the company, in whole or in part, in the cases where they are held liable for the company's losses.

Regarding shareholders, the court may order the shareholders of a company to pay the outstanding balance on their shares. Alternatively, the court may also order the company’s  board of directors to cover debts if it is proven that members committed the following acts within two years following the initiation of bankruptcy proceedings: 

• Undertaking commercial actions without considering the risks, such as disposing of goods at below the market value in order to acquire assets with a view to avoiding the bankruptcy proceedings or delaying their initiation;
• Entering into transactions with a third party to dispose of assets at no charge or for inadequate consideration without benefit or without benefits which are proportionate to the debtor’s assets;
• Paying the debts of any creditors with intent to cause damage to other creditors, during the period when the debtor ceased to pay debts or when the debtor’s assets were insufficient to meet its liabilities.

In extreme cases, the court may also impose criminal liability on board members where they have concealed or destroyed company books with an intent to cause damage to creditors, embezzled or conceal funds or assets.

Is there a scope for voluntary arrangements with creditors when a company goes insolvent due to current crisis?

The UAE Bankruptcy Law offers companies the option to rehabilitate financially and opt for voluntary arrangements with creditors. The protective composition procedure (PCP) allows a company experiencing financial difficulties to reach a binding agreement with its creditors as an alternative to filing for bankruptcy.

This avenue aims to eradicate the stigma often associated with commercial debt and raise awareness that there is a framework available to assist them if they are ready to take this step and have faith in the system in order to continue commercial operations with a legal financial repayment plan in place.

An application must be made to the court in order to commence the PCP, specifying restructuring purposes opposed to liquidation. Should the court decide the conditions for bankruptcy have been met, it will enforce a suspension which prevents individual creditors from taking further legal action.

The company will then be placed under the control of one or more court-appointed trustees who will take over management of the company with broad powers to preserve assets and manage commercial activities. The bankruptcy process is made public, and creditors are invited to submit proof of any claims in order to vote on any restructuring plans. After thorough assessments, a report is produced by the trustee confirming whether there is a reasonable prospect of restructuring the debtor. If successful, a restructuring plan is prepared to detail whether a sale of all or part of the business as a going concern could be likely if the debtor goes into liquidation. Once the court is satisfied with the report, it is provided to the creditors for comment.

A hearing is then scheduled for the court to determine whether a restructuring plan should be prepared or whether the debtor should be subject to a formal liquidation. Should the court rule in favour of a restructuring plan, the plan is put to a creditor vote.

Approval from a majority representing at least two-thirds in value of each class of creditor is required, and dissenting creditors are still bound by the plan if the requisite majority approves the plan.

With an insolvent company's inability to pay debts and payments as well as salaries, what are the legal rights for employees during this situation?

The UAE Ministry of Human Resources recently released Ministerial Resolution No. 279 of 2020 on Employment Stability in the Private Sector (Resolution 279), which provides guidelines to private sector employers concerning the impact of Covid-19. Resolution 279 does not apply to employers in free zones such as the DIFC, who are governed by separate laws.

This resolution encourages employers to consider alternative ways of reducing labour costs to avoid terminating employee contracts. It allows employers to restructure their contractual relationship with employees by gradually adopting measures including implementing a homeworking policy and requiring employees to work remotely; placing employees on paid leave; placing employees on unpaid leave; temporarily reducing employees’ salaries and permanently reducing employees’ salaries.

For an employee to execute any of these measures, the company must have written consent.

However, employers are still able to terminate employees, and this process will be governed by the provisions of the Labour Law and relevant employment contract(s). Any such employers will likely be required to settle the employees’ dues, including but not limited to payment in lieu of notice, or be at risk of facing arbitrary dismissal claims.

Employers are encouraged to consider the Labour Law when assessing this risk.

The DIFC issued a Presidential Directive with similar guidelines allowing employers to take specific measures during an emergency period, which ended on July 31 2020 and will not be extended. It allowed employers to reduce working hours, require employees to take paid or unpaid annual leave and reduce salaries.

The employee’s consent was not required, and the requirement in Resolution 279 that any variation to the employment contract should be agreed in writing was disapplied.