European Court of Justice effectively torpedoes Dutch pre-pack procedure; other European pre-pack procedures may also be at risk.
The advance of the so-called ‘pre-pack procedures’ in the Netherlands was recently considered as one of the greatest developments in insolvency law in recent years. The Dutch pre-pack practice, however, is now at risk due to a ruling of the European Court of Justice. In answer to preliminary questions of the Subdistrict Court of Almere, the European Court of Justice has ruled that a pre-pack is not excluded from European Directive 2001/23 on the transfer of undertakings (“the Directive”).
What is a Dutch pre-pack, exactly?
A pre-pack is a transfer of the assets prepared before the declaration of bankruptcy, with the consent of a prospective insolvency administrator, appointed by the court, and is put into effect by that administrator immediately after the declaration of bankruptcy. This prevents (additional) loss of value as in a regular bankruptcy and increases the chances of a relaunch of the company. Supporters of the pre-pack argue that it prevents (unnecessary) job losses. To date, there is no statutory basis in the Netherlands for this practice. The Dutch legislative proposal Continuity of Businesses Act I is supposed to change this. On 4 April 2017, however, the Dutch Senate did not put the legislative proposal to the vote, in anticipation of the outcome of the ruling of the European Court of Justice.
The FNV/Smallsteps case
In the fall of 2013, the childcare company Estro Groep B.V. (“Estro”) entered into financial distress. Plans for refinancing were unsuccessful, after which an alternative plan was followed up: to transfer a significant part of Estro to a newly established company called Smallsteps B.V. (“Smallsteps”) using the pre-pack procedure. On 5 July 2014, Estro was declared bankrupt. On that same day – right after the declaration of insolvency – the contract of the pre-packaged insolvency sale was signed by the insolvency administrator and Smallsteps. Subsequently, Smallsteps offered a new employment agreement to nearly 2,600 employees, formerly employed by Estro. In the end, approximately 1,000 employees were given notice of dismissal by the insolvency administrator.
The Dutch trade union FNV decided to go to court together with four of the dismissed employees, arguing that the take over by Smallsteps was a transfer of undertaking. They claimed that all employees had automatically transferred with their employment agreement to Smallsteps, while retaining Estro’s employment conditions. Smallsteps, on the other hand, argued that there had been ‘bankruptcy proceedings’, so that the pre-pack procedure falls under the exception of Article 5 paragraph 1 of the Directive (as also previously ruled by the Subdistrict Court of Almelo). In this case, the Subdistrict Court of Almere decided to ask preliminary questions to the European Court of Justice.
European Court of Justice
In line with the opinion of Advocate General Mengozzi, the European Court of Justice ruled on 22 June 2017 that the Dutch pre-pack procedure, in which the transfer of the undertaking is prepared down to its every last detail in order to enable a swift relaunch following a declaration of bankruptcy, does not qualify as ‘bankruptcy proceedings’ in the meaning of Article 5 paragraph 1 of the Directive. According to the European Court of Justice the pre-pack procedure is not aimed at the liquidation of the company: on the contrary, it is aimed at the continuation of the company. In such cases it is not justified that the employees lose the protection of the Directive. Therefore, according to the European Court of Justice, the Directive is also applicable to a transfer of undertaking after a pre-pack procedure as illustrated in this case. The consequence is, as a basic rule, that all employees will automatically transfer to the acquiring company, while retaining the employment conditions from the bankrupt company.
It is likely that the popularity of the pre-pack procedure in the Netherlands will decline as a result of this ruling of the European Court of Justice. Companies in financial distress cannot apply the pre-pack procedure anymore to reorganize their workforce in a cheap and fast manner. In addition, we expect that – until there is a statutory basis – many courts will not be inclined to cooperate with a pre-pack procedure anymore. Therefore, the future of the pre-pack practice in the Netherlands will strongly depend on the future of the legislative proposal Continuity of Businesses Act I.
The reasoning of the European Court of Justice will, however, not only have important consequences for the pre-pack procedure in the Netherlands. Similar (pre-pack) procedures are found in Belgium and France. It remains to be seen whether these procedures can stand the liquidation objective test as laid down in the Directive and explained in the ruling by the European Court of Justice. In the United Kingdom, the Court of Appeal already settled in similar cases that the full protection of the Directive is applicable.
Certainly, the last word on this has not yet been spoken. In any case, it will be worthwhile to keep a close eye on the developments. To be continued!