The coronavirus and the resultant global crisis will most certainly have a strong impact on commercial contracts and economies throughout the world. The broad paralysis of the Israeli (and global) markets could, without a doubt, "push" a broad range of companies to the "edge of a cliff", due to the harm incurred as a result of their inability to meet their commercial obligations, such as credit terms or the provision of services or goods.
It is likely that many companies will ask themselves whether to take legal measures to protect their rights and even act preemptively and commence rehabilitation proceedings to receive relative, temporary and supervised protection from the Israeli courts, against the (most likely contradicting) demands of their various creditors.
This brief overview will address one of the issues faced by many companies today: the fate of contracts when one of the parties is having financial difficulties or is likely to have financial difficulties, in a manner that can harm one of parties with whom the company has entered into commercial contracts, or from whom the company has taken credit.
The new Israeli Insolvency and Rehabilitation Law (entered into force in September 2019) sets in place a mechanism relating to this issue. The mechanism was adopted with minor changes directly from sections 350h to 350k of the Companies Law.
The rationales of the Insolvency and Rehabilitation Law are to enable the financial recovery of the debtor (where possible), and to increase the repayment rate to the creditors.
Therefore, the aforementioned mechanism relating to contracts may sometimes lead to a situation where the financial recovery of the debtor comes at the expense of the creditors, who may be forced to continue to execute the contract even though there are grounds for voiding due to a breach; or at the expense of creditors with whom the contract may be voided without being paid in full for the service they have provided.
The Insolvency and Rehabilitation Law states that the filing of insolvency proceedings cannot be grounds for the termination of a contract, thereby limiting the possibility that the other party to the contract will send a termination notice due to the commencement of insolvency proceedings. This section of the Insolvency and Rehabilitation Law is applicable even if the said contract expressly states that the mere filing of an insolvency proceeding is sufficient to terminate the contract. The Insolvency and Rehabilitation Law forbids the application of such conditions when a company files such a proceeding, in order to prevent the termination of all the contracts to which the company is a party, a situation that will most likely make it difficult to assure the company's rehabilitation.
When a "commencement of insolvency proceedings" order is given, a trustee is appointed to be entrusted with full control of the company’s activities and assets. The conduct of creditors will be more complicated from that point on, under the examining "eyes" of the court, the appointed trustee, the Commissioner of Insolvency Proceedings (the official receiver) and other creditors.
For example, claims relating to the period before the commencement of insolvency proceedings will be considered as "debt claims". If the creditors that have claims against the insolvent company do not hold any securities, they will be considered as regular creditors, last to be paid, and will receive a percentage of their claim according to the sums of money collected during the proceedings and the total amount of claims.
When a company is given a commencement of insolvency proceedings order, with the purpose of ensuring its financial recovery, secured creditors will be able to realize the security only after the court issues an order allowing realization.
If the insolvent party has breached the contract and the other party has requested that the company's trustee void the contract: if the trustee considers the contract necessary for the company's financial recovery, the trustee will file a motion to court, requesting the court to order that the contract should not be voided. The court will order as requested if the trustee can convince the court that the contract is indeed necessary for the company's financial recovery or that the contract will make it possible to increase the repayment rate to the creditors, and that the company will uphold its obligations under the contract.
If the court orders that the contract should not be voided, the obligations and expenses under the contract, dated from the date a commencement of insolvency proceedings order was granted and throughout the insolvency proceedings, will be considered as the expenses spent in order to allow the proceedings, and therefore will be paid in full, first in line of the creditors (subject to the secures creditors).
If the court orders the voiding of the contract, the expenses up to that point will be considered as a non-secured debt claim.
It should be noted that the trustee of the company can assign its contracts to third parties, even if a contract forbids such assignment. The court will approve the trustee's request if it is convinced, inter alia, that the assignment will not cause damage to the second party of the contract.
There have not yet been many court decisions on the application of the Insolvency and Rehabilitation Law, since it is has only been in force for approximately six months.
The following is an example of the application of the law in circumstances similar to those described above: a contract between companies was voided after one company discovered that the other company, a security company, was about to file a motion for the commencement of insolvency proceedings. A court judgement granted on January 6, 2020 ruled that the contract could not be voided, since the contract is necessary for the security company's financial recovery, and the trustees appointed to the security company will ensure that it upholds its obligations under the contact.
Court decisions on the said subjects may vary according to the circumstances of each case. The fate of contracts where one of the parties has become insolvent will be decided according to the company's chances for financial recovery.
