An increase of a company’s share capital by means of in-kind contributions consisting of claims against the company is, in practice, referred to as a debt-to-equity swap. It alters the relationships between the company, its creditors, and its members or shareholders. Most commonly, it operates as a measure of financial restructuring, but it may also serve as a means of acquiring an equity stake (loan-to-own). Compared with acquiring shares or assets, this route can be cheaper and where ownership is dispersed also simpler, especially when implemented in a compulsory settlement in which the consent of existing members or shareholders is not required. Conducting the debt-to-equity swap under a compulsory settlement likewise offers numerous benefits and procedural simplifications. At the same time, the approach entails certain limitations and drawbacks. Implementation is generally possible only if the company is insolvent or imminently so; existing members or shareholders retain their stake; and the route is, overall, riskier, more complex, and more time-consuming. A dispersed creditor base can further complicate the operation. Opportunities for due diligence and for obtaining representations and warranties as well as indemnities from existing members or shareholders are likewise limited. A precondition for carrying out a debt-to-equity swap is holding claims against the company, typically purchased or otherwise acquired from existing creditors. Claims may be transferred by assignment, transfer of contract, or discharge of another’s debt with subrogation. These methods differ in consent requirements and in the scope of rights transferred. The risks associated with acquiring claims can be mitigated by agreeing liability for the existence and collectability of the claims and by arranging conditional transfers. Financial restructuring and debt-to-equity swap can be executed out of court or in court proceedings, namely compulsory settlement or preventive restructuring. The advantages of the out-of-court route include lower costs, speed, confidentiality, predictability, and flexibility; those of compulsory settlement include formalization, reduced risk of prejudice to creditors, immunity from avoidance, no need for the consent of the company and its members or shareholders, binding effect on dissenters, and specifically for debt-to-equity swap numerous benefits and simplifications regarding takeover bids, audits of in-kind contributions, shareholder loans, competition-law constraints, tax incentives, change-of-control clauses, and more. For an investor seeking to obtain an equity stake through debt-to-equity swap, compulsory settlement is particularly advantageous: with a sufficient share of claims it allows initiation of the proceeding, submission or modification of the restructuring plan, selection of the auditor and licensed business valuer, adopting a capital-increase resolution on the investor’s terms, and assumption of management and appointment of corporate bodies during the proceeding. This regime inevitably encroaches on the corporate rights of members or shareholders—at times so intensively that it raises questions of constitutionality and of compatibility with EU law, especially as regards the method of valuing the debtor and the possibility for creditors themselves to adopt the capital-increase resolution. From both functional perspectives, debt-to-equity swap plays an important role and has positive implications for the broader economic and socio-economic landscape.
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