When subsidiaries go bankrupt

Lac Thi Tu Duy duy.lac@phuoc-partners.com Tel: +84 (28) 3744 9977 Joining P&P since 2009, Tu Duy has gained much experience in various consultancy fields, such as civil law, labour, tax, real estate and corporate governance.

By Lac Thi Tu Duy

It is normal and recommended to allow a subsidiary which operates ineffectively and falls into insolvency to go bankrupt for the sake of a healthy business environment. However, except for subsidiaries which are only the front companies to conceal non-transparent or illegal business activities of parent companies, the bankruptcy of an enterprise causes losses to the concerned parties, especially the creditors who are in an almost passive position due to the lack of information regarding the subsidiaries’ insolvency until the bankruptcy is filed.

Many creditors who fall victim to bankrupt companies argue that parent companies, given their roles and positions, cannot shake off the responsibility for their “spoiled children” — they should bear joint responsibility for the subsidiaries’ debts.

From “limited liability”

It is undeniable that “legal entity status” and “limited liability” are the striking legal features of a company in general and a subsidiary in particular. According to civil law, assets, legal rights and obligations of an established company will be separate and independent from the investors who own or co-own it; or the parent company in particular. In its business relationships with third parties, the subsidiary conducts transactions on its own behalf and assumes liabilities by the assets registered under its name.

In addition, the enterprise law also stipulates that the liability which a parent company assumes for its subsidiary is “limited”. The law does not force a company’s owners to assume liabilities for the obligations which arise from the operations of such company and exceed the contributed or committed capital shown on the charter of the subsidiary.

As such, it can be inferred that the parent company can, by simply pouring the committed capital into the subsidiary, be assured that it will not have to spend more on any debts arising from the operations that the subsidiary conducts on its own behalf. Even any illegal conduct of the subsidiary will not give rise to legal liabilities of the parent company.

To the abuse of “the corporate veil”

Not only Vietnam but most countries in the world acknowledge that a parent company and its subsidiaries are independent entities in terms of assets and legal entity status. By way of visualization, the law realizes that there exists a legal veil between these two entities, also called “the corporate veil”.

However, there are no guarantees that this “corporate veil” will not be abused by the parties in the course of their operations. For example, the parent company may not treat the subsidiary as an independent entity but a manipulated one. At the same time, the subsidiary does not actively keep itself at the position of an independent entity. It means that there is a mix-up in business activities or an interference with the subsidiary’s operations in the form of administrative and anti-market mandates.

In order to persuade clients to cooperate with the subsidiary, the parent company and its subsidiary are sometimes willing to cause confusion regarding the legal status and the actual potential of the subsidiary, that this enterprise has the “scale” of or “embodies” the parent company, or that the two companies are “two but actually one”.

In the Vietnamese context, whether a subsidiary’s operations are independent or how independent they are seems to depend on the intent of the parent company or its leaders. Holding over 50-100% the equity of the subsidiary, the parent company has nearly all the powers to decide the important issues directly related to the subsidiary’s destiny, from appointing key personnel to determining the strategies for development. So, it is not difficult to see that leaders of the parent company can definitely give a mandate, or provide direct or indirect instructions with an “impossible not to execute” nature to the subsidiary or its leaders, although this may exceed what law allows in terms of capital contributors or shareholders to do to an enterprise to which they contribute capital.

In addition, it is common today for many subsidiaries to be established for the sole purpose of executing a particular project of the parent company or serving as a link in the supply chains of the parent company — i.e. having a direct “business relationship” with the parent company. In this case, we can visualize that every activity of the subsidiary and its leaders probably has to be conducted under direct instruction from or controlled by the parent company. It is even possible that the parent company’s leaders also manage the daily activities of the subsidiary. Then, the leader of the subsidiary, if a different person, only does the job of signing business documents.

A parent company with capital of thousands of billion dong establishing a subsidiary with a charter capital of just a few million dong can really make people wonder about the separation between the two companies. How can the subsidiary pay salaries to its managers, employees and maintain minimum activities with this tiny capital if it does not rely entirely on the “sponsorship” of the parent company under various forms? On the other hand, the subsidiary can still be a party to many several-billion-dong contracts with its clients.

When business goes smoothly, profits will run into the parent company. But when an “adverse eventuality” occurs with the subsidiary, they can resort to the “corporate veil” to prevent the parent company taking joint responsibility. Those who suffer the heaviest damage are clients, creditors and parties in the relationships with the subsidiary, who get taken in by the “parent-child” relationship between the two entities.

Of note, the unlawful directions or interference by the parent company, if any, are often “unknown” to the creditors who are “outsiders”. Only when they are informed of the petition for bankruptcy filed by the subsidiary, will the risk of losing money become obvious to them. In addition, if the creditors do not have strong evidence, they can hardly request the authority to trace back the cause of bankruptcy in order to determine whether the parent company’s unlawful interference has contributed to the bankruptcy.

Can creditors “seek compensation” from the parent company?

First of all, one should know that it is really difficult to “seek compensation” from the parent company when its subsidiary goes bankrupt since the law always honours the principle that “a company is a legal entity” which must assume all liabilities by the assets registered under its name, whatever the reason may be. However, once it can be proved that the parent company’s unlawful interference has undermined the independence of the subsidiary and “contributed” to its bankruptcy, it might be a different story.

British and American legal systems (Common Law) and even some European countries adopting statutory laws such as France and Germany have long used a mechanism to force parent companies or other owners of subsidiaries to take joint liability for the subsidiaries’ debts when they use the subsidiaries and make them no longer independent entities. This mechanism can be temporarily called “piercing the corporate veil”. Accordingly, this mechanism will nullify some of the rules which limit owners’ liabilities to the amount of contributed capital, and force them to take more joint liabilities for the debts arising in the enterprise to which they contribute capital.

In Vietnam, the mechanism which allows creditors to request the authority to examine the parent company for liabilities in case of its subsidiary going bankrupt is mainly based on Article 190 of the 2014 Law on Enterprises (LOE 2014). Pursuant to this article, the interference by the parent company in its capacity as an owner or co-owner which causes damage to the subsidiary will be the ground for the compensation liability of the parent company and its leaders (individually) for the subsidiary. Concurrently, Article 190.5 of the LOE 2014 indicates that creditors may seek compensation on their own behalf.

However, to be able to seek compensation, creditors must prove that there was interference from the parent company and specific damage has happened to the subsidiary. As mentioned above, this is very difficult because creditors are “outsiders” so they cannot know the unlawful things that the parent company and its leaders did behind the “veil”, or how they harmed the subsidiary. Furthermore, it is really hard for creditors as well as competent authorities in charge of bankruptcy to trace back to how the parent company has performed its owner’s or co-owner’s role to determine if it committed any violations or what damage it caused to the subsidiary.

In addition, it is prescribed in Article 190.5 of the LOE 2014 that this compensation is for the subsidiary instead of creditors. Therefore, with the lower position in the list of those who are entitled to the proceeds from the liquidation of remaining assets, and even the creditors have evidence of the parent company’s violations, whether they should use their right to initiate legal actions is an economic problem that the creditors have to solve (time, effort and money).

In short, though the current law technically provide for the protection of creditors against the parent company’s abuse of power over its subsidiaries, it is actually almost impossible to apply this regulation when a subsidiary goes bankrupt. On the other hand, filing for bankruptcy has become more and more popular in Vietnam, and the separation between parent companies and subsidiaries has always been a big question mark. Therefore, building a mechanism to effectively protect the legitimate rights and interests of creditors and thereby creating a healthy business environment is an urgent demand and should be given a higher level of priority in the course of reforming the business law.

Part 2 — Remarkable Regulations

1. ADOPTION OF LEGAL FRAMEWORK FOR EXHIBITION ACTIVITIES FOR NON-COMMERCIAL PURPOSES

On 26 February 2019, the Government issued Decree No. 23/2019/ND-CP (“Decree 23”) providing guidelines for exhibition activities, especially the ones intended for non-commercial purposes carried out in Vietnam and brought overseas. Accordingly, Decree 23 has some key points as follows:

General provisions on exhibition activities

Decree 23 defines that exhibition means to display works, exhibits and materials concentratedly within a period of time, in a certain space, under different forms and by different technical means with the aims of introducing, disclosing or popularizing such works, exhibits or materials to the society and community. In which, exhibitions for non-commercial purposes means any exhibition not including sales activities or the opportunities to enter into sales contracts.

In addition, Decree 23 also stipulates the conditions with respect to the works, exhibits, materials and locations in exhibition. Particularly, works, exhibits and materials in exhibition must not be the ones prohibited by this Decree such as propaganda against the State of the Socialist Republic of Vietnam, undermining of the national great solidarity, or those not suspended or prohibited from circulation, revoked and confiscated.

Application procedures for licenses to hold exhibitions

The application procedures for licenses to hold exhibitions will be applicable in the following situations:

• Exhibitions brought overseas by Vietnamese organizations or individuals; and
• Exhibitions held in Vietnam by international organizations, foreign organizations and individuals.

Accordingly, Decree 23 details the authority, documents, order and procedures with respect to the issuance, reissuance and revocation of exhibition-holding licenses. The time to issue this license is 07 working days or up to 15 working days for the exhibitions in which it is required to establish the Content Assessment Council.

Notice of holding exhibitions

In the following cases, individuals or organizations must send the Notice of holding exhibitions to competent State authorities:

• Exhibitions held in Vietnam by organizations under the central authority;
• Exhibitions jointly held in Vietnam by organizations of 02 or more provinces or cities; and
• Exhibitions held in a locality by local organizations, or individuals.

With regard to the procedures for giving notices of holding exhibitions, Decree 23 also stipulates the authorities to receive notices; order, procedures and templates for notification as well as temporary suspension of exhibitions. Accordingly, within 07 working days from the day on which the notice of exhibitions is received by competent authorities, if the competent authorities do not give written responses, organizations or individuals may hold the exhibition with the notified contents. However, this period may be extended up to 15 working days for the exhibition in which it is required to establish the Content Assessment Council.

Decree 23 comes into force from 15 April 2019.

2. EXPANDING LABOUR OUTSOURCING ACTIVITIES

On 20 March 2019, the Government issued Decree No. 29/2019/ND-CP (“Decree 29”) detailing and guiding the implementation of Article 58 of the Labour Code on licensing labour outsourcing activities, payment of escrow deposits and the list of jobs in which labour outsourcing is allowed. Accordingly, Decree 29 also abolishes many legal documents concerning labour outsourcing, namely: Decree No. 55/2013/ND-CP; Decree No. 73/2014/ND-CP; Circular No. 01/2014/TT-BLDTBXH; and Circular No. 40/2014/TT-NHNN. Decree 29 has many remarkable new points as follows:

Changes to the authority and conditions for licensing labour outsourcing activities

The authority to issue, renew, reissue and exchange licenses on labour outsourcing will be granted to Chairman of the provincial People’s Committee instead of the Minister of Labour, War Invalids and Social Affairs as before. At the same time, Decree 29 abolishes the conditions on locations of labour outsourcing enterprises and does not stipulate additional conditions on capital and experience with respect to foreign enterprises in joint venture with Vietnamese enterprises. However, Decree 29 supplements some detailed conditions that the legal representative of labour outsourcing enterprises must meet; particularly, he/she must be the enterprise’s manager, does not have a criminal records, and has worked in the labour outsourcing field for a full 03 years (36 months) or more within 05 consecutive years immediately before applying for a license.

Extending the term and not limiting the number of times to renew labour outsourcing licenses

Pursuant to the new provisions, the term of a labour outsourcing license is up to 60 months instead of 36 months as before. Also, pursuant to Decree 29, the renewal of labour outsourcing licenses can be granted many times and the maximum period of a renewal is 60 months instead of 02 times and 24 months.

Supplementing a number of jobs in which labour outsourcing is allowed

In addition to the list of 17 jobs that can be outsourced, Decree 29 supplements 03 jobs to this list, specifically:

• Management, operation, maintenance and providing services on seagoing vessels;
• Management, supervision, operation, repair, maintenance and providing services on oil rigs; and
• Flying aircrafts, serving on aircrafts/maintaining, repairing aircrafts and aircraft equipment/moderation and exploitation of flights/ supervision of flights.

Decree 29 comes into force from 05 May 2019.

3. AS FROM 1 MARCH 2019, UNINCORPORATED ORGANIZATIONS ARE ELIGIBLE TO RESUME OPENING PAYMENT ACCOUNTS AT BANKS AND FOREIGN BANK BRANCHES

As of 28 February 2019, the State Bank of Vietnam enacted Circular No. 02/2019/TT-NHNN (“Circular 02”) amending and supplementing a number of articles of Circular 23/2014/TT- NHNN (“Circular 23”) dated 19 August 2014 of the State Bank of Vietnam providing guidance on the opening and use of payment accounts at payment service suppliers. Circular 02 takes effect from 01 March 2019 while abolishing Circular No. 32/2016/TT-NHNN amending and supplementing a number of articles of Circular 23 (“Circular 32”) and Circular No. 02/2018/TT-NHNN amending and supplementing a number of articles of Circular 32.

Unincorporated organizations are eligible to open payment accounts at banks and foreign bank branches

From the effective date of Circular 02, the organizations which are legal entities, private enterprises, individual household businesses and other organizations are entitled to open payment accounts at banks and foreign bank branches in accordance with the laws.

Banks and foreign bank branches shall notify unincorporated organizations that have resumed signing contracts for opening and using payment accounts to convert the form of opening payment accounts from an organization account to personal account or general account in accordance with Circular 32 on the change in the name of the payment account under new Circular 02.

Payment account holder of the organization

Any payment account holder of the organization is really the account opening organization, but not the legal or authorized representative pursuant to the previous Circular 23. The legal or authorized representative of an organization opening a payment account acts on behalf of such organization to conduct transactions related to such payment account within the scope of representation.

Pursuant to Circular 02, banks and foreign bank branches coordinate with organizations (excluding legal entities) that have opened payment accounts before 01 March 2017 to change any account holder to an organization without signing the contract, unless required in writing by customers.

Authorizing the use of a payment account

The payment account holder is entitled to authorize another person to use a payment account. Authorization must be in writing and comply with laws on authorization.

Handling any tracers or complaints in relation to the use of payment accounts

Customers have at most 60 days from the date of transaction to make any complaint or propose banks and foreign bank branches to track the using their payment accounts. Banks and foreign branches must handle customers’ requests within a maximum of 30 working days of receipt of their requests and have 5 working days to reimburse customers for losses as agreed and in accordance with the law from the date of notifying tracer and complaint results. If the causes or errors by any party have not yet been identified upon expiry of the settlement of complaints and tracers, within the next 15 working days, banks and foreign bank branches must reach agreement with customers on the way of handling any tracers, complaints.

4. TARIFF QUOTAS ON IMPORTED SALT AND POULTRY EGGS IN 2019

As of 04 March 2019, the Ministry of Industry and Trade issued Circular No. 04/2019/TT-BCT (“Circular 04”) providing principles for managing the tariff quotas on imported salt and poultry eggs. Circular 04 features the following key points:

Volumes of tariff quotas on imports

Circular 04 prescribes the volumes of tariff quotas on the import of a number of particular goods in 2019 as follows:

• The import quota of chicken eggs, duck eggs, goose eggs and others (commercial eggs without embryos) is set at 55,181 dozens;
• The import quota of salt is set at 110,000 tons.

Regulations on the management principle

In addition to the above regulation, Circular 04 also provides guidelines for managing tariff quotas on imports as follows:

• Allocating tariff quotas on imports
  The allocation of tariff quotas on imported salt and poultry eggs is conducted in accordance with Circular 12/2018/TT-BCT dated 15 June 2018 by the Minister of Industry and Trade detailing some articles of the Law on foreign trade management and Decree 69/2018/ND-CP dated 15 May 2018 by the Government detailing some articles of the Law on foreign trade management.
• The subjects which are allocated with tariff quotas on imports
  With respect to salt: The tariff quota on imported salt is allocated to enterprises which directly use salt as a raw material to produce chemicals, medication and medical products;

With respect to poultry eggs: The tariff quota on imported poultry eggs is allocated to enterprises whose business/enterprise registration certificates indicate the need for imports.

• The time for allocating tariff quotas on imported salt
  As prescribed by this circular, the time for allocating tariff quotas on imported salt is decided at the request of the Ministry of Agriculture and Rural Development.

Circular 04 will take effect as from 17 April 2019 to the end of 31 December 2019

Part 3 — Monthly Legal Update

Contact us

The contents of the newsletter do not constitute legal advice and do not necessarily reflect the opinions of our firm or any of our attorneys or consultants. The newsletter provides general information, which may or may not be correct, complete or current at the time of reading. The content is not intended to be used as a substitute for specific legal advice or opinions. Please seek appropriate legal advice or other professional counselling for any specific issues you may have. We, Phuoc & Partners, expressly disclaim all liability relating to actions taken or not taken based on any or all contents of the newsletter.