CACs

By Steven T. Kargman (Kargman Associates/International Restructuring Advisors)

Argentina’s new government under President Alberto Fernández recently completed a bond exchange which was approved overwhelmingly by its foreign bondholders. The final restructuring deal that Argentina reached with its foreign bondholders in early August was the product of a fraught and tortuous negotiating process that lasted several months and came after Argentina had defaulted on its sovereign debt in late May for the ninth time in its history.

A recent four-part article published in Global Restructuring Review examines the negotiating dynamics in the restructuring negotiations between Argentina and its foreign bondholders. The article focuses in particular on what I call the “three P’s”—namely, the pandemic, the professoriate, and the Pope—that I argue underpinned Argentina’s strategy in those negotiations.

Argentina sought to use each of the “three P’s” to its advantage. First, the pandemic likely made Argentina’s foreign creditors more accommodating in their stance vis-à-vis Argentina in light of the strains the pandemic placed on Argentina’s sovereign balance sheet. Second, Argentina benefited from the support of prominent professors from around the world who expressed their strong support for Argentina’s negotiating position. The professors weighed in on various matters such as whether Argentina’s debt sustainability would or would not be restored by debt restructuring proposals then under consideration and what type of collective action clauses (CACs) for binding dissenting creditors through a supermajority vote should be used in the new bonds issued pursuant to the restructuring. Third, Argentina sought to benefit from the Pope’s moral authority as reflected in a meeting the Pope held in late January with President Fernández as well as in the Pope’s participation a few days later in a Vatican conference on issues of debt and development.

In its final section, the article discusses the economic prospects for Argentina post-restructuring in view of the major economic challenges that Argentina will continue to face notwithstanding the outcome of the recently concluded sovereign debt restructuring. The article also provides an overview of certain factors that may be relevant to Argentina’s upcoming discussions with the International Monetary Fund (IMF) concerning the IMF’s outstanding loan of $44 billion to Argentina.

The full article can be found here. This four-part article was first published in Global Restructuring Review (GRR) and is reposted with the permission of the GRR.

Author: Carlos Berdejó, Loyola Law School, Los Angeles

Economic theory suggests that corporate law should enable parties to contract freely in order to promote their best interests, leading to socially optimal arrangements. This is particularly true for corporate bonds, which are governed by detailed indentures and held by large, sophisticated investors. However, the Trust Indenture Act, which for 75 years has regulated the terms of U.S. public corporate debt, contains numerous mandatory rules, including a prohibition on collective action clauses (CACs). A CAC allows a qualifying majority of bondholders to modify the interest rate, maturity and principal of an outstanding bond issue in a manner that binds all bondholders, including those who may prefer to hold-out to extract a larger payment. This longstanding prohibition limits the ability of firms to restructure their debt via private workouts and can exacerbate the costs of financial distress by unnecessarily forcing issuers into bankruptcy. Most countries other than the U.S. do not prohibit CACs and afford parties flexibility in choosing the qualifying majority that may amend the core terms of a bond issue.

My article, Revisiting the Voting Prohibition in Bond Workouts, examines contracting choices in Brazil, Chile and Germany, countries that have recently enacted reforms affecting their bond markets, including changes in restrictions on CACs. I find that not only do market participants embrace increased flexibility with respect to CACs, but that interest rates decrease as a result, lowering the cost of capital for issuers.

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[Related Work Note: The work in Revisiting the Voting Prohibition in Bond Workouts provides evidence relating to the argument made in Mark Roe, The Voting Prohibition in Bond Workouts, 97 Yale L.J. 232 (1987), that the prohibition unwisely impeded out-of-bankruptcy recapitalizations and channeled some parties’ incentives towards coercive restructurings that would not have been needed if straight-forward votes were allowed. That article can be found here. More generally, academic bankruptcy theory has focused on the extent to which contract terms should be respected by law, inside and outside of bankruptcy. See Alan Schwartz, Bankruptcy Workouts and Debt Contracts, 36 J. of L. & Econ. 595 (1993), available here. –Stephen Adams, Editor]

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