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Bankruptcy and Non-Bankruptcy Options for PDVSA

posted by Mark Weidemaier

This is a joint post by Mark Weidemaier and  Mitu Gulati.

We have talked before about the possibility that Venezuelan state-owned oil company PDVSA will need to restructure. With oil prices still low, the early-2017 gloom about the company's economic prospects hasn't lifted. True, the company and its sovereign owner have managed to stave off default for a while now; perhaps this can continue. But restructuring is a real possibility. In our international debt finance class this year, we have been asking students to think about how a restructuring might work.  

For PDVSA the options basically come down to bankruptcy and the use of exit consents. We talked about the latter option--basically a voluntary exchange offer in which participating bondholders also vote to eliminate contractual protections in the old bonds, making them less attractive to hold--in an earlier post. For many corporations, bankruptcy would be the preferred option, if only to benefit from the automatic stay of creditor collection efforts. But PDVSA's bankruptcy options are limited. It is a Venezuelan company, and Venezuelan bankruptcy law is not ideal for debtors seeking to restructure. Plus, in order to be worth anything, a Venezuelan bankruptcy proceeding would need to be recognized in the United States, likely under Chapter 15 of the Bankruptcy Code. It isn't clear that a Venezuelan proceeding would merit such recognition. Nor is it clear that PDVSA meets eligibility requirements under US bankruptcy law. Still, bankruptcy offers the only mechanism for imposing restructuring terms on dissenting creditors, and that is what PDVSA most needs (with regard to its bond debt, anyway).

Comments

My question is whether there is any conceivable scenario under which the Venezuelan government would actually want to use a bankruptcy process. I understand that a bankruptcy system (such as Chapter 11) presents the attractive aspect of being able to legally bind holdouts. Indeed, that might work much better than Collective Action Clauses.

But the downside here -- from the perspective of the sovereign debtor -- is that control of the system moves from the sovereign debtor to the bankruptcy judge (especially if somehow a Chapter 11 proceeding is invoked). And I do not see Venezuela ever willing to give up that kind of oversight to a judge (and especially not a US judge in some place like Delaware).

All of that means that Venezuela, if and when it bites the bullet and does its restructuring, will probably use the Exit Consent technique. Bankruptcy won't play a part if the Venezuelan government needs to keep control of the process.

In theory, one might think that Venezuela could do a fast adoption of the type of restructuring mechanism that would be acceptable to a US court for purposes of Chapter 15. Here, one could imagine that a Venezuelan local judge would have oversight over the restructuring. But, even here, at least by my reading, the question of whether the local Venezuelan process would be given recognition in the US (ala Chapter 15) will depend in large part of what the US government says in its submission to the courts. And, given the complicated relationship that exists today between the US government and Venezuela, this seems like a risk that the Venezuelan government won't want to take.

To reiterate, doesn't that then leave us with Exit Consents for PDVSA? (No Chapter 15, No Chapter 11)

Mitu, while I agree that the formal control over the restructuring process under Chapter 11 would move from Venezuela to a US bankruptcy judge, I don't think the country would have much to loose with this. The fact is that, because PDVSA's bonds contain a consent to US jurisdiction, at least some US judges will have the last word on how successful the restructuring of PDVSA's debt will be in binding hold-out creditors. If Venezuela is already required to convince a US judge that PDVSA's restructuring is "fair" to hold-outs, etc., why not do that in front of a judge that actually has the power to approve the restructuring and force the hold-outs to take the deal if more than 2/3s of the creditors agree? In terms of keeping control of the process, if PDVSA can obtain the agreement of 2/3 of its creditors, I doubt a US court would have much to say against such plan.
My question is actually whether a US court would want to take the risk of overseeing a restructuring of PDVSA's debt. When Yukos attempted to file for bankruptcy under chapter 11, US courts dismissed the case based on several convenience concerns, even though the bankruptcy was an attempt to protect American creditors against a Russian tax debt that "expropriated" Yukos's assets (321 B.R. 396 (2005)). I wonder if similar concerns wouldn't make the courts dismiss a chapter 11 bankruptcy for PDVSA.

I am skeptical as to whether or not PDVSA would even want to file for bankruptcy in the first place. While the automatic stay is an attractive provision of the code that will keep creditors from attaching assets while the company's case is being determined, the automatic stay does not last forever. Furthermore, there is a chance that because Venezuela's own bankruptcy regime does not recognize restructuring, just liquidation, that the bankruptcy case could be converted from a chapter 11 to a chapter 7 and all of the company's assets would be liquidated. I am questioning whether or not PDVSA would want to risk losing its largest asset, CITGO, by filing for bankruptcy.

Merits of bankruptcy are not limited to automatic stay but also include the voting system for plan confirmation working as aggregated CAC for non-secured bondholders. I agree with Maria that the downside of submitting the plan to the U.S. court is not much, in that the disputes related to the bonds are already submitted to the U.S. jurisdiction. Yukos Oil's case is intriguing but, in that case, it seems that Yukos had some conflict with Rosneft owned by Russia and pursuing Yukos' benefit for its rehabilitation may cause confrontation with Russia's interest. As long as Venezuela is supportive of rehabilitation of PDVSA and PDVSA obtains supermajority's vote for the plan, the concerns raised in the case would be mitigated to some extent. Thus, it would make sense that Venezuela introduces reorganization type bankruptcy similar to Chapter 11 and PDVSA file Chapter 15 for recognition of the bankruptcy process. However, I'm stuck in technical issue. The definition of "person" relates to both Chapters 11 and 15 and, as long as PDVSA is regarded as "instrumentality" of Venezuela, both proceedings are not available to PDVSA (it seems likely according to the definition of instrumentality in FSIA). I don't understand why such exclusion is necessary, particularly when state-owned corporation voluntarily files for them. What if the shares in PDVSA is tentatively transferred to some trust structure.

Like Mitu, don't think it would be in PDVSA's interest to file for Chapter 15.
According to my understanding, a Venezuelan bankruptcy court would most likely restructure the debt of Venezuela in favor of the Venezuelan government, which -- I assume -- can "influence" such outcome to the detriment of its creditors. However, under Chapter 15, if the foreign bankruptcy proceeding is recognized, the power over the restructuring process would move from Venezuelan courts to a US judge, who would be less concerned with Venezuela's interests than Venezuelan courts. Accordingly, I don't see why PDVSA would willingly go down that road and be under the mercy of US courts rather than Venezuelan courts, especially when it doesn't have to.
The better alternative would be either (i) to file for bankruptcy in Venezuela without a subsequent Chapter 15 filing, and simply refuse to pay creditors who would have limited recourse, if any, or (ii) using the threat of domestic bankruptcy to negotiate exit consents.
Also, I want to reiterate that Chapter 11 is not applicable here because it expressly excludes from its scope "governmental units," which include instrumentalities of foreign states, such as PDVSA.

Lea, unless the bankruptcy in Venezuela is recognized in the U.S. court, the creditors can continue suing PDVSA in NY court even after the filing or completion of (reorganization-type) bankruptcy proceedings in Venezuela. They can foreclose or seize the assets int the U.S., such as CITGO Holding's shares or trade claims to the obligor in the U.S. Or they may try to invalidate the transfer of assets during (liquidation-type) bankruptcy proceedings as fraudulent conveyance. At least we need to consider how to reorganize PDVSA Holding Inc., which pledged the shares in CITGO Holding, unless it already became valueless and PDVSA can leave it in the creditors' hands.

The bankruptcy route seems to me to be riddled with uncertainty -- which Venezuela, and probably creditors, want to avoid. While both exit consents and Ch. 15 may ultimately come under the supervision of a U.S. Judge, like Maria and Ryokichi point out, there seem to be more hurdles via the bankruptcy route. First, Venezuela would likely need to enact a new "bankruptcy" regime. This is a low hurdle, but a hurdle all the same. Next, and more difficultly, they would need to get the new regime recognized by U.S. Courts; this may be difficult because if the new regime is so narrowly tailored so as to only apply to PDVSA, which is the type of regime Venezuela would want, U.S. Courts may not want to recognize such a regime. And for what remedy would Venezuela go to all this? a temporary stay on creditor's ability to bring suits to obtain judgments PDVSA has no intention of paying anyway? While a ch. 15 route may be possible, there seems to be a handful of road blocks that make the practicality of a Ch. 15. questionable to low.

One interesting approach would be for Venezuela to suggest or imply a willingness to go the Ch. 15 route as a "stick" to get creditors to accept an exit consent. Like I said, Ch. 15 may be undesirable from the creditor's perspective as well. If Venezuela can offer an exit consent slightly better than what creditors would expect to get in a Ch. 15, that might help Venezuela - even if they had no intention of following through on a threat of going the ch. 15 route.

It seems to me that desire rather than feasibility will be the biggest factor in determining whether or not we see PDVSA pursue bankruptcy under Ch. 15. Historically, Maduro has demonstrated a deep mistrust of the U.S., and as he tightens his grip on PDSVA it seems unlikely that he would change those views now. We see no indication of the Venezuelan legislature scrambling to put in place a bankruptcy regime that would pass muster with U.S. courts, rather we see the rise of new state-owned oil company in Camimpeg that seems conveniently positioned to take over operations if/when PDVSA goes into default. Exit consents pose their own risks for PDVSA and the Venezuelan government, but they would ensure that Maduro holds on, for at least a while longer, to what he seems to value most, control.

The bankruptcy option for PDVSA poses 2 likely insurmountable challenges: (1) the Venezuelan legislature would need to fashion a reorganization bankruptcy process that would meet the standard necessary to be recognized by the U.S. in order to get the automatic stay; and (2) Maduro would need to voluntarily choose to cooperate with the United States in the Chapter 15 ancillary proceeding. Because both of these challenges reduce Maduros degree of control over PDVSA (and its assets), it is doubtful that the socialist party will bow to the leader of the capitalist world in this way. While the automatic stay and ability to bind holdouts (in a potential chapter 11) do provide attractive bonuses of a bankruptcy route, it seems like a political catastrophe for the United Socialist Party (whose leaders have blamed the United States for nearly all of Venezuela’s problems) to now voluntarily choose to ask for the U.S.’s cooperation. Instead, it is probably in both Venezuela and PDVSA’s best interest to restructure the bonds through collective action clauses and exit consents. By doing so, the United Sociality Party will retain control over the restructuring process and can continue to dominate the political stage, thereby retaining its power in government.

I agree that bankruptcy would not be a first option to pursue, but what if the majority of the 1.5b bonds are purchased by hostile hedge funds? Exit consent would not work for the series, and they would obviously be free riders. It would cause chilling effect over the other investors' consideration as to whether they accept exchange offer. A possible threat PDVSA can use was to say that bankruptcy is a viable alternative and, thus, the holdouts' purchasing the majority of specific series of bonds would not be a big deal. Not having a bankruptcy as plan B, negotiation with the possible holdouts would become much more difficult.

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