Buying distressed assets in Italy

A distressed asset can be either a business or an individual asset (in this case, usually a real estate) which is owned by a natural or legal person that (a) is in a state of economic and/or financial difficulty due to excessive debt that could potentially jeopardise its business continuity in the short term, or (b) is already subject to individual executive procedure or pre-insolvency or insolvency procedures.

Despite the owner of a distressed asset could be either an individual to whom pre-insolvency and insolvency procedures are not applicable as well as a company or an entrepreneur, for the purpose of the present guide it will be taken into consideration only the position of the latter, thus every reference to the seller must be intended as referred to them.

In such cases, the seller often needs to dispose of its assets in order to deal with its state of crisis, thereby recovering liquidity useful for settling its debts or carrying on the business. Potential buyers have to take into account the risks they may face and the solutions that Italian law provides to avoid or limit these risks.

Under Italian law, the relevant insolvency regulation is currently embodied in the Code of Business Crisis and Insolvency (Codice della Crisi d’Impresa e dell’Insolvenza, in short CCII: Legislative Decree No. 14 of 12 January 2019, as last amended by Legislative Decree No. 83 of 17 June 2022), which replaced the former Bankruptcy Law (Legge Fallimentare, R.D. No. 267 of 16 March 1942).

The provisions of the CCII apply in case of crisis or insolvency of the debtor, which are so defined under Art. 2 CCII:

• crisis: indicates the state of the debtor that makes insolvency likely and is manifested by the inadequacy of prospective cash flows to meet obligations in the next twelve months;
• insolvency: the state of the debtor manifested by defaults or other external facts showing that the debtor is no longer able to meet its obligations on a regular basis.

The state of crisis or insolvency so defined concerns a factual situation that characterises the seller. It is not always easily detectable from the outside by the potential buyer, as crises and insolvency are the consequence of the relationship between the seller and its creditors.

However, there are certain indications of the likelihood of the seller's crisis or insolvency that can be gathered by a third party unrelated to it. Such as a significant financial imbalance as reflected in the seller's financial statements, a high level of indebtedness, sharp declines in turnover, major operating losses, as well as legal actions brought by creditors against the seller such as individual enforcement actions on its assets or bankruptcy petitions.

In all these cases, therefore, the potential buyer will need to carefully assess the risks before proceeding with the transaction.

The risks to which the buyer is exposed when purchasing a distressed asset are:

• clawback actions;
• criminal charges (in the most serious cases);
• liability for the seller’s debts (in case of sale of business or business unit only).

Clawback actions may be exercised by creditors or, in the event of the subsequent bankruptcy of the seller, by the bankruptcy receiver. The effect of such actions is the ineffectiveness of the transaction vis-à-vis such parties. The buyer will have to return the asset. It will be entitled to restitution of the price paid, but in case of the seller's insolvency the percentage of restitution is, usually, very low and in some cases zero.

The requirements of the clawback action depend on whether it is an ordinary or a so-called bankruptcy clawback action:

• ordinary clawback action: pursuant to Article 2901 of the Civil Code, acts of disposition of the debtor's assets that are detrimental to creditors are subject to this action if both the seller and the buyer were aware of the prejudice that the transaction would cause to creditors;
• bankruptcy clawback action: pursuant to Article 166 CCII, the transaction could be revoked in two cases that differ on the burden of proof of knowledge of the seller’s insolvency:
  
  
• if the bankruptcy receiver proves that the buyer was aware of the seller's state of insolvency and the sales is performed by the seller after the filing of the petition followed by the opening of the judicial liquidation (i.e. the new procedure that replaced bankruptcy) or in the six months prior thereto; and
• if the value of the sold asset exceed by more than one-fourth the purchase price and the transaction was carried out after the filing of the petition followed by the opening of the judicial liquidation or in the year prior thereto, except in case the buyer proves it wasn’t aware of the seller’s state of insolvency

The buyer may face also criminal risks: in particular, if the buyer knowingly concludes a transaction with the seller aimed to jeopardise the interests of creditors, it may be liable of criminal charges for complicity in the so-called patrimonial bankruptcy offence.

In case of sale of business or business unit, the buyer is jointly and severally liable with the seller for the debts of the business resulting from the compulsory books of account (Article 2560 of the Civil Code). The seller and the buyer may agree that all or some of such debts are not transferred to the buyer, but the buyer will anyhow remain liable vis-à-vis the creditors, and may not be able to recover from the seller what has been paid to them, especially if the seller is in a state of insolvency or crisis.

Risk of clawback actions.

In the event that the parties decide not to frame the transaction within a pre-insolvency or insolvency procedures under the CCII, it is highly recommended that the buyer conducts careful reviews and evaluations of the seller and the distressed asset.

As a first step, a thorough due diligence must be carried out in order to understand whether the seller is actually in a state of crisis or insolvency, which could therefore significantly increase the risk of the transaction: an accounting, tax, and legal analysis has to be carried out to verify the reliability of the information provided by the seller, and to ascertain the exact amount of debts and the value of the corporate assets.

From a more purely economic point of view, on the other hand, it is appropriate to conduct a business audit through which the main elements that characterize the business (such as positioning, level of technology, quality of management, state of property and facilities, etc.) should be examined.

In addition to that, it would be careful to commission an appraisal which proves that the purchase price of the asset is equal to – or not excessively lower than – the market value, to prevent possible legal risks related to clawback actions and patrimonial bankruptcy offences.

Once these activities are completed, it will be up to the buyer to decide whether to proceed with the transaction, having obtained at this point all the necessary information to properly conduct a risk assessment from both a legal and economic perspective.

In any case, in this scenario, the buyer will remain exposed to possible legal risks, especially with regard to clawback actions (should the requirements be met).

Risk of liability for the debts pertaining the business or business unit.

In case of sale of business or business unit, the buyer can exclude the joint and several liability for the debts of the business (Articles 2560 of the Civil Code) by an explicit waiver to such liability by each creditor, prior to the closing of the sale.

The legal risks to which the buyer may be exposed decrease significantly if the purchase of distressed assets is made as part of a pre-insolvency or insolvency procedure under the CCII, which provides for multiple types of instruments to which the seller may resort to address its state of crisis or insolvency and which exclude or limit the applicability of clawback actions that might otherwise make the transaction itself ineffective.

The main procedures under the CCII that can protect the buyer of a distressed asset are the following:

• negotiated crisis resolution (Articles 12 ff CCII): it is a recently introduced procedure that allows the debtor to be able to find a solution to its state of crisis within a negotiation with creditors, aided by an independent expert whose role is to facilitate the negotiation between the parties;
• turnaround plan (Article 56 CCII): this tool consists of the arrangement of a plan that allows the restructuring of the seller's debt exposure, which is subject to the positive certification by an independent professional about the truthfulness of the data represented and the feasibility of the plan;
• restructuring agreement (Articles 57 ff CCII): it is an agreement that, unlike the provisions of the turnaround plan, requires both the consent of at least 60 percent of the creditors (or less, under certain requirements) and the approval by the competent court, and whose provisions apply only to the adhering creditors (except in special cases);
• restructuring plan subject to court approval (Articles 64-bis ff CCII): this instrument, newly introduced by Legislative Decree No. 83 of 17 June 2022, allows the seller to derogate some rules on the competition of creditors and causes of pre-emption but it requires the division of creditors into classes and the approval of the plan by the unanimity of the latter. Moreover, the positive certification by an independent professional and the subsequent approval by the competent court are required;
• composition with creditors (Articles 84 ff CCII): it is a much more complex procedure which requires the seller to elaborate a plan – subject to the positive certification by an independent professional – and a proposal to creditors aimed to satisfy their credits through (i) the selling of the assets of the debtor’s business or (ii) the direct or indirect business continuity. Both plan and proposal are submitted to the vote of creditors: if the majority approve them and, subsequently, the competent court grant its approval, the provisions set forth under the plan and the proposal will be applicable to all creditors, including the dissenting ones.

In all these cases, Italian law offers greater protection not only to the seller, but also to the buyer who purchases distressed assets under the protective umbrella of one of these instruments, thus avoiding risks of clawback actions and criminal charges for complicity in patrimonial bankruptcy offence.

In the case of the sale of business or business unit, the Italian legal system provides under Article 2560 of the Civil Code that the buyer is jointly and severally liable with the seller for the debts of the business resulting from the compulsory books of account, even if the seller and the buyer agree that such debts are not transferred to the buyer.

This is a provision that, in the case of the purchase of business from a seller in a state of insolvency or crisis, would make the purchase unfeasible. The seller is heavily indebted and is not able to pay its debts in full, therefore the buyer would be liable for such debts.

In order to make the sale of business or business unit feasible, the Italian insolvency law provides that, in the event of resort to some of the crisis resolution tools provided by it, the provision of Article 2560 of the Civil Code is not applicable or could be derogated by the parties, thus excluding the buyer's liability with respect to the seller's outstanding debts. In particular, the exclusion of such liability applies to the different pre-insolvency or insolvency procedures as follow:

• negotiated crisis resolution (Articles 12 ff CCII): in this case, the court can authorize the sale of the business with the exclusion of liability under Article 2560 of the Civil Code;
• turnaround plan (Article 56 CCII): the exclusion of such liability has to be indicated as a condition of the proposal to the creditors;
• restructuring agreement (Articles 57 ff CCII): the exclusion of such liability has to be indicated as a condition of the proposal to the creditors;
• restructuring plan subject to court approval (Articles 64-bis ff CCII): in the lack of a specific reference to the exclusion rule provided by the provisions on composition with creditors, it is uncertain if such rule is applicable or if it is possible to the set the creditors’ waiver as a condition of the proposal (the restructuring plan subject to court approval has been introduced in 2022 and there isn’t case law on it yet);
• composition with creditors (Articles 84 ff CCII): in this procedure the applicability of Article 2560 of the Civil Code is explicitly excluded.

It is therefore much safer and more convenient for the buyer to purchase distressed assets under a pre-insolvency or insolvency procedure, so as to limit liability with respect to the seller's debts.

The pre-insolvency or insolvency procedures tend to be informed by the principle of competitiveness, therefore they require that, in the event the seller who has resorted to such tools envisages selling distressed assets to satisfy its creditors, a competitive procedure should take place in order to ensure the best satisfaction of creditors. It is important to bear in mind that the same procedure also applies in the case of the renting of a business.

After giving appropriate publicity to the assets' offer for sale through the specific public sales portal, the court orders the opening of the competitive procedure, indicating the procedures for the submission of bids, the requirements for the participation of the bidders, the forms and timing of access to the relevant information, the manner of conducting the competitive procedure, the minimum increase in the price that the bids must provide and the guarantees that must be given.

If no competing bids are submitted, the asset is awarded to the original bidder, whereas if it is awarded to a different party, the original bidder is released from its obligations and is entitled to reimbursement of the expenses and costs incurred in formulating the bid.

In any event, with regard to the sale of business, experience shows that the successful bidder is rarely a party other than the one with whom the seller had originally agreed, since it is difficult for third parties to obtain all the useful information that that party was able to obtain directly from the seller during the negotiations: most of the time, therefore, this bid will be successful and the purchase will be safe.