Considerations on DIP Financing in Mexico
By Alejandro Sainz & Gabriela Avendaño
Posted: 26th September 2017 08:32
On 10 January 2014, the legal reforms to Mexico’s restructuring or concurso Law (Ley de Concursos Mercantiles, or “LCM”) were enacted. It is part of a series of comprehensive amendments that provide new provisions for insolvency proceedings in Mexico to improve the process of restructuring companies, the balance between creditors and debtors and the certainty of outcomes for international creditors.
The new rules have served to expedite the insolvency proceedings with the purpose of maximising the value of the debtor’s estate for the benefit of creditors and shareholders while minimising the risks for the benefit of creditor’s rights and therefore, increase the access to loans.
Among some of the most relevant amendments were those to Debtor-in-possession (“DIP”) financing aimed to provide debtors with a source of funding that would give enough liquidity to allow time for restructuring or an orderly sale of the distressed company. The lack of regulation on DIP financing, required to assist debtors, in many cases forced the liquidation of various companies.
DIP Financing is not new in Mexico, but the reforms provided some certainty as a more specific mechanism and provisions were regulated. Before the reforms the DIP financing market in Mexico was not common and it really began to materialise until the homebuilders’ cases. The current LCM provides for a process for post-petition borrowing that may be requested since the filing of the insolvency petition and that entitles the judge and/or conciliador to authorise the DIP financing.
During the conciliation stage, the conciliador is the authority entitled to approve post-petition loans and define its terms and conditions.
The new provisions allow the debtor to incur unsecured or secured indebtedness in the ordinary course of business. If such credit is approved by the court or conciliador, as the case may be, it provides a priority claim or a lien to a lender on the debtor’s unencumbered assets or a second priority claim on encumbered assets.
DIP loans have a priority claim in the insolvency, except for certain labour, tax, and secured claims. However, although great changes have been achieved, we must recognise that many others still remain. The amendments to the LCM make more efficient insolvency proceedings in Mexico but the concurso still faces various challenges.
The LCM should allow for immediate access to DIP Financing to minimise any damage to the debtor. When a company faces financial challenges, time is of the essence. In Mexico authorities usually take time to declare a company in concurso and/or authorise and determine the conditions of a DIP Financing. We lack resources such as interim/final orders by which the authority may authorise measures to provisionally aid a company in distress and deal with the absolute necessities to continue the operation of the business while providing legal certainty to DIP lenders.
Likewise, although the law does provide for priming, rules that allow the ability to prime pre-petition secured creditors without their consent, at the discretion of the authority are necessary. The sole existence of such a measure would be an incentive for pre-petition secured creditors to provide some financing themselves versus having a third party ahead of them. Certainly, the judge discretion should be subject to a rigorous, but expedite, process.
A DIP financing should receive a superpriority claim even above tax, labour and secured creditors as most credits that are given to a company at such stage would benefit the debtor´s estate and in most cases, should raise the creditors’ rate of return. A DIP claim should receive a superpriority administrative treatment and come before all other administrative claims having to be satisfied as a pre-condition for a company to emerge from concurso.
Likewise, with respect to guaranties and collaterals, the conciliator, visitor or even the debtor should be able to petition the constitution of guaranties in favor of the DIP lender against assets that have no liens, constitute a second lien or even grant a first priority lien over assets that have existing liens for specific situations. Such lender as an incentive to lend should have immediate access to the collateral granted to exercise its ability to seize the collateral end sell it to satisfy its claim. Regardless of which lien is primed or constituted, and whether the priming is hostile or consensual, the secured creditor should always be given adequate protection.
Any challenges against a DIP credit authorisation should only be considered when creditors’ fraud or willful misconduct is claimed with sufficient evidence. The judge’s decision should be final and no appeals should be allowed to grant legal certainty to DIP lenders.
Unlike Mexico, other jurisdictions allow a DIP creditor to set upon a DIP loan provisions such as: roll overs; financial covenants (that allow the DIP lender to monitor the financials of the distressed company); acceleration of diligences (which mainly translate in a faster sale of assets that allows the company to increase its cash flow); among many others.
The main problem of our legislation is that Mexican courts are not educated in this subject and that the authorisation of any of these measures will be contingent to the judge’s approval and will most probably be contested by any creditor.
In order to make DIP financing viable in the Mexican jurisdiction, additional amendments and rules are required at various levels: The Ministry of Finance, the Mexican Securities and Exchange Commission and the Federal Institute of Experts in Insolvency Proceedings.
Ideally, specialised courts should be created given the particular and complicated nature of insolvency proceedings and the significant increase in the filling of these measures. The judicial power should receive training and education on insolvency and bankruptcy matters so they are prepared to assist companies in distress and maintain their existence to avoid that a generalised default in its payment obligations, put at risk their viability and that of those with whom it makes business.
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Alejandro Sainz leads the Insolvency & Restructurings practice group and co-leads the Mergers & Acquisitions Practice Group of Cervantes Sainz S.C. He represents and provides legal advice to national and multinational clients in a broad range of transactional matters, providing legal advice in the areas of corporate, finance and commercial law, including reorganisations, restructurings and work-outs, bankruptcy and cross-border insolvency procedures (concursos), sale & acquisition of distressed assets and securities, corporate finance, mergers & acquisitions, foreign investment, joint ventures, infrastructure, real estate, and telecommunications transactions.
He was selected by Latin Lawyer as one of Mexico’s top lawyers and by The International Who's Who of Insolvency & Restructuring Lawyers as one of the world's pre-eminent insolvency & restructuring lawyers. Mr. Sainz was also appointed by Chambers and Partners as one of Mexico’s premier insolvency and restructuring lawyers.
Direct: +(52) 55 9178 50 72
Gabriela Avendaño has working experience in capital markets, financial, transactional and corporate matters. She has represented Mexican and international issues, as well as underwriters in a variety of registered and private securities offerings. She has also assisted domestic and international clients in reorganisations, restructurings, and financing transactions.