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The role of bankruptcy as a means to put pressure on managers of corporations in market economies is well known, and all aspects of the problem are described in a large number of studies. The threat of bankruptcy of a corporation due to managerial errors on markets (or, as the extreme variant, the cases where creditors intercept control) is tradi tionally seen as the most important external tool of corporate governance. Apparently, it is expected that the application of such a mechanism (notwithstanding the pluses and mi nuses of the models (pro creditor or pro debtor) used in different countries) should result in rehabilitation of finances and enhancement of efficiency of operations carried out by the corporation being the object of the respective procedures.

For details see: Radygin A., Swain H., Simachev Yu., Entov R. et al. Institut bankrotstva: stanovleniye, problemy, naprav leniya reformirovaniya (The institution of bankruptcy: itТs rise, challenges, and reform avenues). M., IET - CEPRA, 2005.

RUSSIAN ECONOMY in trends and outlooks In principle, all systems of insolvency and bankruptcy may be>

Thus, the model formed in Germany is oriented towards an increase in the efficiency of satisfaction of creditorsТ claims, at the same time, the rehabilitation procedures are aimed at the maximization of debtorsТ assets for further distribution among creditors. A typical UK model is aimed at the protection of credit circulation, creation of efficient and rapid mechanisms of distribution of debtorsТ assets among creditors. Over the time, when the bankruptcy procedures are applied, the control over the enterprise is transferred to a third party acting on behalf of the creditors. An apparent flaw of this model is the fact that it is aimed at the liquidation of enterprises rather than their rehabilitation, since creditors are primarily interested in the sale of the assets of companies experiencing differences and not their rescue.

The models adopted in the USA and especially in France are based on a combination of the solution of macroeconomic problems as concerns the ensuring of stability an sus tained growth of the economy, and the objectives of creation of efficient mechanisms of distribution of debtorsТ assets. For instance, in France the institution of insolvency is to a considerable extent aimed at the protection of the debtorТs interests and restructuring of debtorsТ enterprises. The US legislation permits debtors to keep control of insolvent legal entities and grants the debtor the exclusive right to propose own plans with respect to the reorganization of the company for a certain period of time. The distribution of rights biased in favor of the debtor is to a considerable extent a policy choice, since the preservation of companies subject to bankruptcy proceedings as functioning enterprises, and not the ces sation of their activities via liquidation, is seen as the priority. A significant flaw of this model is that the debtor has the possibility to abuse its rights.

All intermediate models primarily differ primarily as concerns the ratio (balance) be tween the infringement on the rights of creditors and preservation of operating enter prises.

According to the estimates presented by EBRD, the bankruptcy legislation of coun tries with transitional economies is underdeveloped in comparison with other spheres of commercial law68. It is especially true with respect to the efficiency of enforcement of this legislation. Short duration of the bankruptcy procedures permits to avoid delays, which could negatively affect both the debtor, and creditors, as well as overload the judiciary sys tem. Nevertheless, bankruptcy proceedings often are protracted and bring no results.

There are doubts as concerns the competence of the assigned external managers, as well as their powers. In spite of the fact that in the recent years the countries of Central and Eastern Europe, the Baltic States and member countries of the CIS have been taking seri ous steps towards the improvement of both the respective legislation, and practices in the sphere of bankruptcy of companies, there are no apparent changes to the better.

At the same time, the specific objective constraints, which render difficult the effi cient and large scale application of this mechanism in Russia and a number of other transi tional economies, are well known. These constraints include:

Х unfavorable financial standing of a significant part of newly created corporations;

See, for instance, Telyukina M. Osnovy konkursnogo prava (Principles of bankruptcy law). M.: Wolters Kluwer, 2004; Ste panov V. Nesostoyatlnost (bankrotstvo) v Rossii, Frantsii, Anglii, Germanii (Insolvency (bankruptcy) in Russia, France, Eng land, Germany). M.: Statut, 1999.

See: EBRD Transition Reports. 1999Ц2003. EBRD. See also: Radygin A. D., Gontmaher A. E., Mezheraups I. V., Turunt seva M. Yu. Ekonomiko pravovye factory i ogranicheniya v stanovlenii modelei korporativnogo upravleniya (Economico legal factors and restrictions in formation of corporate governance models). M.: IET, 2004.

Section 4.

Institutional and Macroeconomic Challenges Х the traditions of soft budgetary constraints;

Х persistence of a considerable number of corporations with state participation;

Х the lack of an adequate and competent executive and judicial infrastructure;

Х social and political barriers preventing implementation of real bankruptcy proceedings of with respect to loss making corporations, especially as concerns the largest enter prises, or enterprises in single company towns;

Х technical difficulties associated with the objective assessment of the financial standing of potential bankrupts;

Х corruption and other criminal aspects of this problem, including those associated with the property redistribution processes.

Bankruptcy legislation biased towards debtors is typical with respect to Uzbekistan, Moldova, Lithuania, and Ukraine (although in the latter case the general pro debtor bias is combined with certain serious pro creditor provisions). The legal frameworks of bank ruptcy in Azerbaijan, Kazakhstan, and Georgia may be defined as systems biased towards creditors. Significant pro creditor elements are present in the legislation of Latvia, Estonia, and Ukraine. Initially, the countries of Central and Eastern Europe and the CIS member states faced the choice between these two models. However, since the majority of devel oped countries applies mixed models, which include elements of both the American and British models, these countries attempt to find a balance between the rights of creditors and debtors (thus, for instance, the management of the enterprises subject to bankruptcy proceedings is usually transferred to a neutral manager biased neither towards the debtor, nor creditors), therefore many countries with transitional economies also chose this way.

The modern (since 2002) system of the Russian bankruptcy law may be defined as a neu tral system with a significant pro debtor bias69.

In all fairness, it should be noted that the legal basis of insolvency in Russia had been set forth yet before the beginning of the first stage of its development indicated below70.

Nevertheless, at present there may be singled out 3 major stages as concerns the devel opment of the institution of bankruptcy in Russia:

Х from the end of 1992 to the beginning of 1998, the period, when law of the Russian Federation No. 3929 1 of November 19, 1992, УOn insolvency (bankruptcy) of enter prisesФ, hereinafter referred to as the first law on bankruptcy, was in force;

Х from the beginning of 1998 to the end of 2002, the period, when federal law No. 6 FZ УOn insolvency (bankruptcy)Ф, hereinafter referred to as the second law on bankruptcy, was in force;

Х from the end of 2002 till present time, the period, when federal law No. 127 FZ УOn in solvency (bankruptcy)Ф, hereinafter referred to as the third law on bankruptcy, is in force.

The first law on bankruptcy was adopted in Russia at about the same time as in other countries with transitional economies. Although in 1995 through 1997 the number of bank ruptcy related claims submitted to arbitration courts significantly increased, bankruptcy proceedings did not become as widespread as in other countries with transitional econo mies. This law was based on the Уinability to payФ principle, which in turn based on the analysis of the ratio between the values of assets and liabilities and in the case the amount See: Telyukina M. Osnovy konkursnogo prava (Principles of bankruptcy law). M.: Wolters Kluwer, 2004, pp. 77 - 79.

Decree of the RF President No. 623 of June 14, 1992, УOn measures aimed at the support and rehabilitation of insolvent state owned enterprises (bankrupts) and implementation of special measures with respect to such enterprisesФ; Resolution of the RF State Committee for Management of State Property No. 717 r of November 5, 1992, УOn the approval of the model rules governing the bankruptcy procedures with respect to the sale of bankrupt enterprises and property thereof.Ф RUSSIAN ECONOMY in trends and outlooks of creditor indebtedness exceeded the value of property owned by the enterprise, it was considered to be insolvent on the basis of its balance sheet indicators.

At this stage, the most significant external factors determining the interests of the parties in the sphere of insolvency were as follows:

Х the excess of the amount of debt over the value of the debtorТs property was set as the criterion permitting to declare the enterprise bankrupt, what caused significant difficul ties with respect to the initiation of bankruptcy proceedings;

Х a significant number of large attractive enterprises remained in the state or mixed own ership;

Х the economy was characterized by a high level of barter payments and there existed an acute problem of non payments, which also concerned tax and other mandatory pay ments due to the state.

The first law on bankruptcy is as a rule characterized as a rather imperfect document.

The overwhelming majority of authors agree that this law was too biased towards debtors.

The law defined insolvency (bankruptcy) as the inability of the debtor to meet creditorsТ claims to pay goods (works, services), including the inability to make mandatory payments due to the budget and extra budgetary funds due to the fact that the debtorТs liabilities ex ceeded the value of its property, or in relation to the unsatisfactory structure of the debtorТs balance sheet. The practical enforcement of the law revealed that the rights of creditors were significantly limited due to the difficulties associated with the appraisal of the real value of property by arbitration courts and respective delays of decisions ruling the debtor bankrupt. The legal terms and indications of bankruptcy, which were in force at that time, protected mala fide debtors, thus destroying the principles of property circulation71.

Among the reasons of insufficiently active enforcement of the first law on bankruptcy there were also indicated the lack of systematic implementation of bankruptcy proceed ings on the part of the state in capacity of the tax creditor and its orientation towards such tools as the imposition of penalties for delays of payments. Ordinary creditors had no in centives to initiate bankruptcy proceedings, since all liquid assets were used in order to repay the debts to the state as a privileged creditor.

The serious flaws of the first law on bankruptcy accounted for the fact that this law had failed to produce any significant impact on the Russian economy72. As a result, in this period bankruptcy was neither a serious threat to inefficient managers of the majority of Russian enterprises, nor a means to ensure the rights of external creditors.

The lack of efficiency of the first law on bankruptcy resulting from its excessive bias towards debtors is most often named as the key factor behind the adoption of the second law on bankruptcy. It is believed that the key innovation in the second law was the radical change in the approach to the determination of criteria of insolvency (bankruptcy) as con cerns the debtors in the form of legal entities, which had significantly strengthened the po sitions of creditors. The second law on bankruptcy was based on the insolvency principle:

the inability of an enterprise to meet its liabilities was determined at the time the respective payments were due, therefore enterprises were deemed insolvent on the cash basis. This innovation had significantly reduced the barriers preventing initiation of bankruptcy pro ceedings.

See: Vitryanski V. Novoye zakonodatelstvo o nesostoyatelnosti (bankrotstve) (New legislation on insolvency (bankruptcy) // Khozyaistvo i pravo. 1998. No. 3.

See: Sonin K., Zhuravskaya E. Bankrotstvo v Rossii: ni zashchity kreditorov, ni restrukturizatsii (Bankruptcy in Russia: Away From Creditor Protection and Restructuring), Special report. Russian Economic Trends. 2000. Transl. from English. M.:

RECEP, 2000, Volume 9: Issue 1, 2000.

Section 4.

Institutional and Macroeconomic Challenges As a result, the scale of the application of insolvency proceedings in the economy started to increase intensively (see Fig. 1). The growth in the number of bankruptcy cases was viewed in particular as a result of toughening of budgetary constraints with respect to Russian enterprises related to the enactment of the second law on bankruptcy. In other words, a sharp increase in the number of bankruptcies was associated with the fact that due to the absence of an efficient legal framework of bankruptcies until 1998 the majority of Russian firms had accumulated significant debts to the federal and regional budgets and private creditors.

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