Why Not Accelerate and Sue Venezuela Now?
Mark Weidemaier and Mitu Gulati
People have been asking for months when investors will accelerate PDVSA and Venezuela bonds that have fallen into default. Rumor has it that some investors have already done so. But there seems to be a consensus that investors aren't in a hurry. U.S. sanctions prohibit a debt restructuring, and few investors are eager for the legal battle that would follow acceleration. But we’re wondering if this view misses something important and unique to the Venezuelan crisis. It seems to us that investors who file suit may be able to negate most of the Republic's and PDVSA's restructuring tools, significantly enhancing leverage when a restructuring finally does occur and making it easier to hold out. So we’re a bit puzzled why some of the more aggressive investors aren’t already rushing to get judgments.
To explain: Almost every restructuring option available to the government and its state oil company involves exploiting modification provisions in the bond contracts. Most Republic bonds have CACs, which let a supermajority of bondholders in a given series modify payment terms for the entire group, leaving no holdouts. For bonds without CACs--i.e., all PDVSA and a small subset of Republic bonds--the exit consent technique has a smaller bondholder majority accept new bonds and vote to modify the old ones in ways that discourage (but do not eliminate) holdouts.
The problem, as we see it, is that contractual modification provisions do not work against investors who hold money judgments. It isn’t that a money judgment extinguishes all contract-based rights. Readers of this blog may remember the “me too” plaintiffs from the Argentine debt drama. These were holdouts, many holding money judgments, who wanted injunctions similar to the one entered in favor of NML. Judge Griesa gave them what they wanted, rejecting Argentina’s argument that their contract rights under the pari passu clause had “merged” into the judgment they had gotten through litigation. (Here’s his opinion, from June 2015.) We disagreed with him on the wisdom of granting the injunction in the first place, but he was probably correct on this question. Some contract rights are plainly intended to persist, even after one party has successfully sued for breach. And a lawsuit based on those rights often involves an entirely different claim than the one that produced the judgment.
But the question here is different: It is whether a party who has lost a breach of contract lawsuit can later reduce the amount of the judgment by modifying the contract. The answer, we think, must be no. To use the Republic’s CACs as an example: those permit a vote to “modify, amend, or supplement the terms of the Notes,” including a vote to “reduce the principal amount,” so long as the relevant voting threshold is reached. But investors holding money judgments are no longer seeking to recover principal under the bonds; they have an independent right to the amount of money specified in the judgment. Even if the CAC (like the pari passu clause) survives a judgment, it doesn't seem to permit a modification of that right. And even if it did, courts have limited power to set aside judgments; a retroactive modification of rights, even if permitted by contract, doesn’t seem to be one of them.
If the sanctions weren't in place, we wouldn't be talking about such questions. Litigation takes time, and a vote modifying the bonds would likely occur before entry of a judgment. Knowing this, prospective holdouts would favor bonds that are hard to modify. But here, the sanctions give holdouts plenty of time, although (presumably) not forever. So we’re wondering why holdouts aren’t being a bit more aggressive at pressing their claims. We’re also wondering whether they really have reason to prefer Republic bonds without CACs, as press reports indicate, and as would be true in a normal debt crisis. Anna has already expressed skepticism that differences among the Republic bonds will matter in a restructuring. This is another reason for skepticism. What good is a CAC if holdouts already have money judgments?
Not much, that we can see.