Light ahead


December 29, 2016 was a landmark day for the UAE's financial sector. As the year came to a close, the long-awaited Bankruptcy Law came into effect.

Since the Commercial Code of 1993, insolvencies in the UAE have resulted in significantly lower recovery rates than in other jurisdictions. The new bankruptcy law has therefore been welcomed across the board as a needed modernization of the UAE’s economy.

The UAE government has been formally considering amendments to the insolvency regime since 2009, and a previous draft insolvency law was published in 2011. In broad terms, the new law entails a wider application of court-ruled bankruptcy solutions as an alternative to liquidation and covers all companies governed by the UAE Commercial Companies Law, free zone companies (with the notable exception of ADGM and DIFC), establishments, and civil companies with professional business.

The law has mandated the creation of a Financial Restructuring Committee to administer the law’s application, which will work under the tutelage of the Ministry of Finance. This entity will be responsible for the application of a solvency test to measure the sufficiency of a business’ assets, and a set of new procedures for a company to follow when it is faced with financial difficulties.

Broadly speaking, the new law provides troubled companies with a debt-restructuring framework. Instead of leaving no option but to bail, the law gives a chance for companies to rescue their business. The new law mandates the extension of court examinations for up to six years after the court’s rule if there is approval from the creditor, and it provides a restructuring procedure for financially insolvent companies with slim chances of rescue, something that was previously impossible.

The scheme is expected to benefit commercial banks, as the possibility of bailing companies out will lower the risk of defaulting. Prior to the law, banking institutions would rather write off failing businesses than invest further resources in restructuring their debts. In 2015 alone, defaulted loans amounted to a debt loss of USD1.4 billion for UAE-based banks.

Of all the types of business that will benefit from the law, SMEs are the most welcoming. SMEs have been bearing the brunt of the absence of legislation to restructure or liquidate debts. The sector is underfunded owing to the fact that SMEs rely heavily on loans for their development, they are most prone to default on their debts when economic slowdowns arise, and in most cases are perceived as too risky to invest in by commercial banks.

The recent slump in oil prices, the cautionary approach of lenders, and the sluggish consumer consumption in the UAE in the past two years have been particularly damaging for struggling SMEs, whose growth expectations have been pulled back. This new law offers a light at the end of the tunnel, creating a more supportive environment for them to continue operating. If the law’s implementation advances fruitfully, confidence in the loan market will spur venture capitals and angel investors to put their assets in a growing number of SMEs and startups. Recovery rates would be accelerated, creditors would see their investments returning faster, and reinvestments could come to become the trend in the SME funding scenario.

According to the World Bank’s Doing Business Report of 2016, the UAE ranked 26th worldwide, but its ranking for winding down a business fell to 104th position with an average of 3.2 years needed to conclude a business, implying higher costs and more uncertainty for both creditors and debtors. The Bankruptcy Law promises to sever these impediments by forcing lenders to trust in fledgling businesses and by witnessing higher returns on their funding to reinvest them.

Despite the apparent benefits this new enactment will bring to the financial industry, observers still expect the actual implementation of the law to materialize with these benefits. Emirati courts still need to become acquainted with the law, to be exposed to its implications, and to rule the first cases before assessing the actual practical value of this law before it becomes business as usual.