Inter-Creditor Duties in Sovereign Debt
This is a joint post by Mitu Gulati and Mark Weidemaier
As we discussed in a couple of earlier posts, we have been thinking recently about the use of exit consents to restructure sovereign debt, especially in the context of Venezuela and PDVSA, the state oil company. Though focused on corporate workouts, Bill Bratton and Adam Levitin's new paper, The New Bond Workouts, raises questions that also matter in the sovereign context. Bratton and Levitin give a detailed account of the Second Circuit's Marblegate opinion, a 2-1 decision that seems to authorize very aggressive use of the exit consent technique. (Creditors were essentially given a choice between accepting the restructuring plan or being left with claims against an entity that was nothing more than an empty shell.) Bratton and Levitin generally approve of the Second Circuit's decision, but also suggest that courts should revive the doctrine of intercreditor good faith to police against coercive workouts of bond debt.
Bratton and Levitin also talk about how, after Marblegate, bond issuers might be tempted to use both the exit consent technique and collective action clauses. Doing so might put enormous pressure on creditors to participate in a restructuring. For instance, an issuer might design an exchange offer in which participating creditors also vote to eviscerate the payment terms of the old bonds--essentially, threatening potential holdouts that they will be left with worthless instruments. In the English Assenagon case, the court rejected a similar use of exit consents and--interestingly enough--justified this decision in part by invoking something like a duty of good faith among creditors.
To highlight the link to sovereign restructurings, it is possible that exit consents would play a role in any restructuring by both Venezuela and PDVSA. Some rumors are also circulating that Venezuela might attempt to pair exit consents with collective action clauses, along the lines described above. The important question, then, is whether U.S. courts will find ways to limit unduly coercive methods. As we explained in another post (also linked above), Marblegate involved the Trust Indenture Act, which does not apply to foreign sovereigns (and Venezuela does not use the trust structure in any event). Still, the case may prove instructive. And as Bratton and Levitin also point out, there are old (but never overruled) New York cases that support a rule that creditors owe at least minimal duties to each other in the context of a workout.
A careful examination of the facts in Marblegate should caution against assuming that bond issuers and creditor majorities can implement coercive restructuring plans. Indeed, in Marblegate, there was an obvious holdout problem, with one creditor trying to get a disproportionate share of the limited pie. The equities will not always be so clear. In the sovereign context, it is not clear where the limits on coercive restructurings will come from, if not from the Trust Indenture Act. But since both Venezuela's and PDVSA's bonds are governed by New York law, one would assume holdout creditors will begin by looking there. If so, perhaps those old New York cases will be dusted off and given new life in the modern context.