Veil Piercing When a Sovereign Owns the Shares; Venezuela Edition
This is a joint post by Mark Weidemaier and Mitu Gulati.
At least in the short term, the odds of Venezuela continuing to service its mountain of external debt are looking slightly better, though long-term prospects remain bleak. State-owned oil company PDVSA may be even worse off. A default or restructuring by one or both borrowers will raise issues that are typically peripheral in a sovereign debt crisis. If Argentina's pari passu saga tested the willingness of courts to approve novel injunctions, Venezuela's debt crisis will test the willingness of courts to disregard the legal fiction that corporations are separate legal "persons." That fiction means that a corporation's shareholders are not liable for corporate debts (or vice versa), unless a creditor can "pierce the corporate veil"--i.e., prove the shareholder abused the corporate form to engage in "fraud or inequitable conduct."
Consider at least two ways veil piercing issues might arise. First, Venezuela's economy depends heavily on oil exports managed by PDVSA and its subsidiaries, but assets related to these sales may belong to legally separate entities. PDVSA likely has few US assets, aside from shares in a holding company whose remote subsidiaries include CITGO Petroleum. Although we have limited information about PDVSA's operations, accounts receivable for US oil sales likely belong to a Venezuelan subsidiary. As an initial matter, bond creditors can try to attach these receivables, because the subsidiary has guaranteed PDVSA's bonds. Creditors without such a guarantee, however, cannot attach receivables without piercing the veil between these entities. Moreover, PDVSA's right to exploit Venezuelan oil reserves exists by the government's say-so. If the government were to transfer that right to a new entity, even bond creditors would have to persuade a court to let them pursue claims against the new entity's assets. Veil piercing is one of several theories they might invoke to do this.
As a second example, consider whether PDVSA creditors might like to hold Venezuela responsible for PDVSA's debts. Piercing the corporate veil between PDVSA and its government owner could help creditors avoid being bound by the result of a PDVSA bankruptcy. Moreover, while most Venezuelan bonds have CACs, PDVSA's creditors are not bound by these clauses; they could not be compelled to participate in a Venezuelan restructuring either. To be sure, creditors like these would be hard-pressed to find attachable Venezuelan assets. They could, however, disrupt the country's future access to capital and commercial markets by threatening to seize loan proceeds or other assets.
For the most part, US courts resolve questions like these by simply borrowing the rules from corporate law. To us, this is odd. For one thing, the usual reasons for limiting a shareholder's liability for corporate debts don't seem very relevant when the shareholder is a foreign government. Among other reasons, because a foreign sovereign is entitled to sovereign immunity, it does not need to rely as heavily on corporate law principles to protect its assets. Moreover, many of the standard justifications for limited liability, such as ensuring liquid markets for corporate shares, have little relevance to entities like PDVSA.
Given the significance of oil exports to the Venezuelan economy, and the many entities involved in these trades, the Venezuelan debt crisis may require courts to think more deeply about veil piercing questions. (This article describes some of the basic facts.) One intriguing question is whether PDVSA's bond creditors can pierce the corporate veil separating PDVSA from Venezuela given the extensive disclosures in PDVSA's offering documents about the relationship between the company and its sole shareholder. Those disclosures make clear the country controls PDVSA, requires it to provide gas at subsidized domestic prices and to contribute to a variety of social funds, and in other respects uses PDVSA as a government cash machine. In the ordinary corporate context, a creditor might seize on facts like these to try to pierce the corporate veil. In the context of a state-owned entity, it isn't clear to us that such facts should matter at all, and that seems especially true when the facts are disclosed in advance to voluntary corporate creditors. But we will see. To return to the example of Argentina: courts have sometimes gone to great lengths to make foreign sovereigns come to terms with their remaining creditors.