Bankruptcy Future Claims—Elizabeth Warren Edition

Welcome to Credit Slips, the rarified world of “self-described bankruptcy nerds.” Today we’re looking at Future Claims—Elizabeth Warren Edition.

Now, it’s not every day that our humble group blog gets discussed in the New York Times. But as our former-co-blogger Elizabeth Warren continues to rise in the polls, the media and her opponents are taking a renewed interest in the bankruptcy consulting work she did when she was a law professor. Just recently, the New York Times ran a lengthy article on her past consulting workthat even referred our little “bankruptcy nerd” blog. (You might note that we now also offer sovereign debt, financial regulation, and side salads. Come for the bankruptcy, stay for the pie.)

The NY Times piece discussed several cases that Elizabeth worked on, but it failed to clearly articulate the core bankruptcy principle that Elizabeth was fighting for that runs throughout most of the cases highlighted in the article and how Elizabeth’s work was consistently about making the economy and the bankruptcy system work for employees of companies in distress, retirees, and folks injured by a company’s product. To suggest otherwise is ridiculous and fundamentally misunderstands how the bankruptcy system is supposed to work.  

Purdue Pharma Examiner?

The US Trustee should move for the appointment of an examiner in Purdue Pharma's bankruptcy. That's what Jonathan Lipson, Stephen Lubben, and I wrote in a letter to the US Trustee for Region 2 this week.

Purdue is a case that seems to cry out for an examiner.  There is unique public interest in the case because it is so central to the story of the opioid crisis—the major domestic public health challenge of the last decade. In particular, there are real questions about exactly what Purdue and its owners knew about the problems with opioids and when.  Was Purdue was deliberately pushing a product it knew to be harmful? Did its owners, the Sackler family, siphon off substantial funds that could go to remediate opioid harms through fraudulent transfers, as alleged? And can Purdue's current management or the Official Creditors Committee be relied upon to get to the bottom of these questions?  

An examiner--particularly one wielding subpoena power and the power to administer oaths--could go a long way to establishing just what went on at Purdue, and that will help set the stage for a resolution that will be more broadly accepted as legitimate because everyone will be operating on a common factual basis from the examiner's findings. Moreover, an examiner's report is in effect a public accounting of what happened at Purdue. Absent such a public accounting, bankruptcy can become a whitewash:  no trial, no public introduction of evidence, no finding of guilty or not guilty, just claims estimation, a plan and a vote, and then some cash being paid out. That's fine for your run-of-the-mill bankruptcy case. There's really no public interest in why Shloyme's 7th Avenue Garmento Emporium ended up in the chapter. But when a case involves a major public health issue like Purdue, it's reasonable to demand more from the bankruptcy system. Purdue (and possibly other constituencies) will surely object to an examiner motion, be it from the Trustee or from other parties in interest, but I have trouble thinking of a case for which an examiner would be more appropriate.  

 

Interpreting Argentina’s “Uniformly Applicable” Provision and Other Boilerplate

Mark Weidemaier & Mitu Gulati

Over the past week, we’ve discussed various uncertainties over how to interpret the new “uniformly applicable” standard added to aggregated Collective Action Clauses starting in 2014 (here and here). Anna Gelpern’s recent post neatly clarifies some of the issues and provides crucial background on the “uniformly applicable” provision. Oversimplifying, the “uniformly applicable” standard was an attempt to assuage creditor fears that sovereigns would exploit aggregated voting to discriminate among bondholder groups. The intent of the clause was to ensure bondholders got roughly—but as Anna points out, not literally—the same treatment. Our prior posts have focused on how the text of the standard might be stretched to forbid certain unanticipated restructuring scenarios, especially when courts perceive the sovereign to be acting irresponsibly or vindictively. That’s precisely the situation in which courts are willing to stretch the meaning of contract text. It’s what happened to Argentina in the pari passu litigation.

In this post, we focus on the broader question of how courts should approach the interpretation of bond clauses like this one. When presented with disputed but plausible interpretations of a text, courts normally try to uncover the intent of the contracting parties and interpret the contract consistently with that intent. (This is a generalization, but accurate enough for our purposes.) But bonds and other (largely) standardized contracts are different. For the most part, the point of standard language is to ensure standard meaning. That goal isn’t served, and can be undermined, when courts inquire into the subjective intentions of the parties to any particular contract. But if their intent isn’t relevant, whose is? Greg Klass, in a new article “Boilerplate and Party Intent,” offers an insightful way of thinking about these problems.

Argentina’s “uniformly applicable” standard offers a good example of the difficulty. The government officials responsible for negotiating sovereign bond deals generally want to adhere to a set of “market standard” non-financial terms. They have only a vague sense of the specific language of most contract terms. Likewise, many investors have told us that they paid little attention to the “uniformly applicable” language in Argentina’s bonds until Argentina went into crisis. They knew the bonds had CACs and, more concretely, that the clauses featured aggregation provisions. But, beyond that, they didn’t know the details. So a search for the intent of the parties—defined as the bondholder and the government—won’t turn up much of value. (In theory, underwriters are part of the equation, but their incentives are to get the deal done – and using standard forms helps get deals done.)

Imagine Riding the Ceteris Pari-bus into the Sunset ... in Argentina

Imagine sovereign debt without Argentina -- no Paris Club, no pari passu, no CACs, no SDRM ... even sovereign immunity might look totally different. History teaches that whatever happens in Argentina's imminent bond restructuring (revisiting, reprofiling, rejiggering, revamping --the difference is overblown) is likely to have consequences beyond the long-suffering Republic. The fact that Argentina has an actual government with authority over the economy and some capacity to execute a restructuring (unlike, say, Venezuela) justifies wading into the small print of its bond disclosure--as Mark and Mitu have done. Their able interventions free me to focus on two under-covered points. Methinks that (1) the single-minded focus on voting thresholds is misguided, and that (2) it helps to think of "uniformly applicable" as the latest incarnation of pari passu, which goes to show that inter-creditor equity remains a perennial problem in sovereign debt.

What's Wrong with PSLF and How to Fix It

The Public Service Loan Forgiveness program has so far rejected roughly 99,000 out of 100,000 student loan borrower applicants. Poor Education Department oversight, poor contract design and implementation, and widespread servicing contractor failures are as much to blame as problems in the legislative and regulatory program design. Making this program work to provide loan relief for potentially millions of public servants requires a comprehensive set of fixes. US Ed. could start by enforcing its contracts and compensating its contractors properly, and by relaxing its needlessly strict 15-day on-time payment rule, while Congress could give borrowers credit for all payments made under any repayment plan. In our new white paper summarizing federal agency reports, attorney general and borrower lawsuits, consumer complaints, and contract documents, my research assistant and I survey the various reasons nearly all applications have been denied, and we propose contractual, regulatory and legislative reforms needed to fix PSLF.

Can Argentina Discriminate Against Bonds Issued Under Macri?

Mark Weidemaier and Mitu Gulati

We hope readers will forgive our trafficking in rumors, but this one is interesting and raises some fun and wonky questions about the relationship between Argentina’s different bonds. We talked about those differences in our last post. Basically, bonds issued 2016 or later are easier to restructure than bonds issued in the country’s 2005 and 2010 debt exchanges. This Bloomberg article explains the differences. Interestingly—and here’s the underlying driver of the rumor—the exchange bonds were issued during the presidencies of Cristina Kirchner and Nestor Kirchner, while Mr. Macri was in office when the 2016 and later bonds were issued. The rumor—relayed to us by some of our friends in the investor community—is that the new government has signaled that it might restructure the Macri bonds, or perhaps just default on them, while leaving the Kirchner bonds untouched.

We’re skeptical that the government really intends to do this, for two reasons. First, the plan sounds insane. That’s not exactly proof that the new Kirchner government won’t do it. But maybe some officials just believe that the government can improve its negotiating position if it seems willing to consider crazy stuff. That might not be sound negotiation theory or whatever, but maybe some in the new government take this view.

The second reason for our skepticism is that we’re not sure Argentina’s bond contracts give it a practical way to engage in this type of discrimination. But this question is actually quite complicated and highlights some ambiguities in Argentina’s bonds. Contractual ambiguities are our caviar and champagne, so that’s what we want to talk about here.

Could the government simply default on the Macri bonds while continuing to pay the Kirchner bonds? Sure, but doing so would eventually trigger the cross-default provisions of the Kirchner bonds. Here is a summary of the relevant provisions, which we extract from the 2010 prospectus. The discussion is simplified, but includes the key details:

USED could have seen PSLF Fail coming

The Department of Education (USED) knew by 2016 that hundreds of thousands of student loan borrowers planning to apply for public loan service forgiveness (PSLF) were headed for rejection as they started applying in late 2017. The Department conducted a review of servicing contractor PHEAA’s administration of PSLF on October 25, 2016, about a year before the first cohort of borrowers would become eligible for loan cancellation. At the time of the review, 449,860 borrowers were designated as PSLF participants, presumably because they had at least one approved public service employer certification form (ECF). The reviewers audited a sample of 34 borrower loan files, and found that 53% had ZERO qualifying payments. Of those, about 40% were in a non-qualifying payment plan and 60% had ECFs with employment periods ending more than one year prior to the review date, in other words, no current evidence of qualifying employment. Given that all of these borrowers submitted at least one ECF, it is reasonable to assume that most if not all of them were unaware that they were making no progress towards the required 10 years of repayment.

Instead of faulting PHEAA for a situation in which half of borrowers were in danger of not getting PSLF credit for their payments, USED delved into the minutiae of PSLF payment counting, and found two instances of payment-counting errors resulting from servicing transfers. In their recommendations, the USED reviewers stress “it is imperative that Fedloan Servicing and FSA partner to ensure only those truly eligible for forgiveness receive this benefit.” No mention is made of any need to get in touch with the 53% of borrowers who are in the wrong payment plan or do not have up-to-date employer certifications.

The authors of the October 25, 2016 review (Debbe Johnson, Larry Porter, and Christian Lee Odom of SFA) note on the first page that it is for internal USED use only and is a policy deliberation document, presumably to shield it from FOIA release. It became public when the House Education and Labor Committee released the review as an exhibit to the committee’s October 2019 report on the PSLF fiasco.

Argentina’s [Insert Adjective Here] Debt Crisis

Mark Weidemaier & Mitu Gulati

Okay, everybody ready? Argentina? Check. Debt crisis? Check. Cristina Kirchner and crew back in office to, um, right the ship of state? Check. Last time round, their plan involved hurling insults at a U.S. federal judge. Like Spider Man: Far From Home, it was briefly amusing, lasted far too long, and ended badly. Argentina eventually caved in 2016, paying handsome sums to creditors who had sued it in U.S. courts. We won’t rehash the details, but there is great coverage by Joseph Cotterill, Matt Levine, Felix Salmon, Robin Wigglesworth and others. We also covered it extensively here on Credit Slips.

Yes, sure, it would be nice to have a break of more than three years between the formal end of an Argentine debt crisis and the start of a new one. But here we are. Argentina has again borrowed many billions USD under New York law. This time, the legal issues will be a bit different, because Argentina’s debt stock has different legal characteristics. Below, we offer a few preliminary thoughts.

Voluntary Reprofiling

On August 28, Argentina announced a plan to conduct a “voluntary reprofiling” of debt (here). Reprofiling is a fancy term for maturity extension. That sounds gentle—just a flesh wound!—but a long maturity extension can impose a significant NPV cut. Plus, reprofiling might be just the first step on a path that leads to a brutal debt restructuring. Creditors will distrust rosy predictions that a reprofiling will fix the problem. Many will refuse to participate. What happens then? 

Last time around, after its 2001 default, Argentina’s NY-law bonds required the unanimous approval of all the creditors before any alterations to the payment terms could be made. That requirement, of course, magnifies the risk of holdouts. And in fact, Argentina spent the next 15 years engaged in various legal battles (e.g., here).

This time, Argentina’s bonds have collective action clauses, or CACs, which let a super-majority of creditors bind a dissenting minority. If Argentina gets the requisite proportion of creditors to agree, it can impose a reprofiling on the entire group. Of course, the devil is in the fine print.

Christine Chabot on "Is the Federal Reserve Constitutional?"

I hate to admit that I'm beginning to find constitutional law interesting. First, there was the Puerto Rico v. Aurelius case that was argued at the Court a few weeks ago.  And then, a few days ago, I came across Christine Chabot's “Is the Federal Reserve Constitutional? An Originalist Argument for Independent Agencies” (here).

The background here is that a number of scholars have, in recent years, raised the question of whether the manner in which some FOMC members are appointed conflicts with the dictates of Article II's Appointments Clause (yes, the same clause that is central to the Puerto Rico v. Aurelius battle). Chabot's wonderful article unpacks the history of the obscure Sinking Fund Commission to show that, even under an originalist perspective, the current structure of the FOMC holds up.

Even if you have no interest in the constitutional debate, the historical and institutional origins of the open markets purchasing authority are fascinating -- I did not know that Alexander Hamilton had set up the federal open market committee to support the price of US debt. This first FOMC had Hamilton, Thomas Jefferson, John Adams and John Jay conducting independent monetary policy. Wow.

Here is the abstract:

The President’s inability to control the Federal Reserve’s monetary policy decisions raises significant constitutional concerns. The Federal Reserve’s Federal Open Market Committee executes critical statutory mandates when it buys or sells U.S. securities in order to expand or contract the money supply, and yet the Committee’s twelve voting members check one another instead of answering directly to the President. The President cannot remove Committee members who refuse to carry out his monetary policy directives. Seven of the Committee’s twelve voting members are Federal Reserve governors who enjoy for-cause protections from removal by the President. Congress delegated power to supervise and remove the remaining five voting members, who are presidents of regional Federal Reserve banks, to the governors rather than the President. Further, the President has no say in the appointment of regional bank presidents to the Committee. While the Committee’s independence and appointments process would likely pass muster under current precedent, a growing chorus of originalists have argued that the Constitution requires greater executive control and a more expansive application of Article II’s Appointments Clause requirements.

This paper demonstrates that existing originalist accounts are incomplete. They do not account for the structural independence of an obscure agency known as the Sinking Fund Commission. This Commission was proposed by Alexander Hamilton, passed into law by the First Congress, and signed into law by President George Washington. One would expect all of these actors to have a clear grasp on the original public meaning of the Constitution, as well as a strong dedication to the structural commitments established therein. Their decisions to form a Sinking Fund Commission with multiple members to check one another — and to include the Vice President and Chief Justice as Commissioners who cannot be replaced or removed by the President — belie the notion that an independent agency structure violates the newly minted Constitution. The Sinking Fund Commission directed open market purchases of U.S. securities pursuant to a statutory mandate. It provides a direct historical analogue to the Federal Open Market Committee’s independent purchases of U.S. securities pursuant to a statutory mandate. This analysis shows that the structure of the Open Market Committee is not a novel invention of the twentieth century. Rather, the independence stemming from the Committee’s multi-headed structure and protections from removal has an impeccable originalist provenance which dates all the way back to Alexander Hamilton and the First Congress.

How to Deal with a $3 Trillion Bully

I don't like bullies.  And I just ran into a $3 trillion one.  JPMorgan Chase Bank, armed with six partners at two AmLaw 100 firms (Wilmer Hale and McGuire Woods) took the truly unusual step of filing an objection to an amicus curiae brief I filed in a 9th Circuit case called McShannock v. JPMorgan Chase Bank N.A. in support of neither party. Chase objects because the brief is late (which it is) and supposedly irrelevant to the disposition of the case. So why is Chase spending thousands of dollars on attorneys fees to object to an irrelevant brief, particularly when it claims no prejudice from the late filing?

$5 to forgive public servant student loans

Five dollars is the contract payment the US Education Department makes to its servicer FedLoan for a borrower's first approved Public Service Loan Forgiveness (PSLF) employment certification. FedLoan is supposed to review employer certifications, track PSLF borrower payments for ten years, and then process a loan forgiveness application, all for five dollars (plus the servicing fee paid for all loan accounts.) FedLoan must verify that the borrower made each payment on time, in the right payment plan, for the right loan(s), while working for the right employer full time. US Ed. has made FedLoan's task far more difficult than the statute requires, with its 15-day on-time payment regulation and various employer exclusions. The Department needs to seriously rethink its contract design before renewing its 10-year servicing contracts early next year.

The process of matching each payment with a qualifying employment period appears to account for more than half of the astounding 99% denial rate. The Congressional proposals to fix PSLF have largely missed this point, although the House bill calls for one obvious fix by requiring US Ed. to give FedLoan a list or database of qualifying employers. FedLoan's task would be far easier if the on-time payment rule were scrapped, and replaced with a rule that any borrower who made a total of 120 payments in any payment plan without going into default qualifies, so long as they can submit employment verification for the relevant 10 years. Because borrowers submit IRS information to the servicer each year to set an income-based payment amount, another tech fix would have the servicer store the IRS employer identification number (EIN) and match it with a list of approved public service employers, rather than having the student and employer fill out a 10-page employment certification form every year.

US Ed.'s public stance (apart from Secretary DeVos' desire to kill PSLF) is to blame Congress for bad program design, while Congressional overseers can't seem to recognize that PSLF can only work with a comprehensive set of legislative, regulatory, and contractual fixes. Meanwhile the count of student loan borrowers with at least one approved ECF, i.e. future PSLF applicants, is 1.1 million.

 

It makes a fine Halloween gift!

On sale now, my latest book:  American Business Bankruptcy, A Primer. Suitable for use as supplemental reading in all sorts of bankruptcy classes, and even some corporate finance classes that cover financial distress (especially those using a certain textbook).

I also think it would be a good read for junior attorneys who (shockingly) neglected to take bankruptcy in law school. And don't forget the international attorneys who want a quick way to learn about American law. It also stabilizes wobbly tables and kills flies.

In short, it makes a great gift for everyone on your shopping list! Buy several copies today. And tomorrow too.

Aurelius v. Puerto Rican Control Board (or "Do Activist Hedgies Add Value?")

This post draws considerably from research on Puerto Rico and its current constitutional status with Joseph Blocher (see here).

Tuesday was oral argument day at the Supreme Court in the battle between the Puerto Rican Control Board and a big bad hedge fund, Aurelius.  Aurelius, zealous defender of the constitution that it is, had brought a challenge to the constitutionality of the Control Board. The claim being that the failure of President Obama and the then Congress to follow the strictures of the Constitution for the appointment of principal officers of the federal government (nomination by the President, followed by Senate confirmation) made the Board and all its actions invalid.

I am not a constitutional scholar and don’t have any desire to be one.  Still, the basic issue here seems fairly simple:  Are the members of the Control Board principal federal officers?

Congratulations to Pamela Foohey!

Congratulations to Pamela Foohey on being named to the American Bankruptcy Institute's 40 Under 40 list for 2019!  Pamela joins Credit Slips own Dalié Jiménez (class of 2018) as an honoree. 

And it's been a great news day for our former co-blogger Katie Porter, who was not only the subject of an American Banker article, but was put on a SCOTUS short list. 

A Mini Q&A on Venezuela’s Possible Defense to Foreclosure on the PDVSA 2020

Mark Weidemaier & Mitu Gulati

Along with Ugo Panizza of the Graduate Institute in Geneva, we’ve put up a couple of posts in recent days asking whether Venezuela might have a legal basis for challenging its obligations on the PDVSA 2020 bond (here and here). A large payment of close to a billion dollars is due in a few weeks and there is no money to pay it.  Most important, the bond is collateralized by a pledge of a majority stake in CITGO Holding.

The possible basis for the legal defense is that the bonds, and especially the pledge of collateral, were not properly authorized under Article 150 of the Venezuelan constitution. (This matter has also received press attention over the past few days—e.g., here and here).

As background, provisions in the Venezuelan constitution (Art. 312) and related Venezuelan laws require the passage of a “special law” (our translation) to authorize public indebtedness, but exempt PDVSA from the requirement. However, a separate constitutional provision, Article 150, requires “approval” from the National Assembly for contracts of national interest. We don’t know of situations in which the provision has been invoked. With apologies for possible mistranslations here and elsewhere in this post, here is the text:

Article 150. The entering into of national public interest contracts will require the approval of the National Assembly in the cases determined by law. 

No municipal, state, or national public interest contract can be entered into with States or foreign official entities or with companies not domiciled in Venezuela, not being assigned to them without the approval of the National Assembly.

The law may require in public interest contracts certain conditions of nationality, domicile or any other kind, or require special guarantees

For a Caracas Chronicles piece on this, see here.

We have gotten numerous questions in response to our two pieces, one at Project Syndicate and one here. There were many excellent questions. And since we find this topic fascinating (we are working on an empirical paper on governing law provisions in sovereign debt contracts), we decided to go down the rabbit hole of trying to answer them. 

The caveat here is that while we know a good bit about sovereign bond contracts, we have no expertise in Venezuelan constitutional law. Here goes:

Can Creditors Seize CITGO? Enforcing the PDVSA 2020 Bond Collateral

Mark Weidemaier & Mitu Gulati

Writing with Ugo Panizza, we have a piece out today on Project Syndicate (Should Creditors Pay the Price for Dubious Bonds?) discussing the collateralized bond issued by Venezuelan state oil company PDVSA (the PDVSA 2020 bond). We have written here previously about the bond as well. In 2016, when PDVSA was near default, it conducted a debt swap in which investors exchanged short-maturity bonds for the longer-maturity PDVSA 2020. To sweeten the deal, the PDVSA 2020 bond was backed by collateral in the form of a 50.1% interest in CITGO Holding, the immediate parent company of U.S. oil refiner CITGO Petroleum.

A payment of nearly $1 billion is coming due in the next few weeks on the PDVSA 2020 bond. The Maduro regime—no longer recognized as the legitimate government of Venezuela—can’t pay it. And the government-in-exile led by Juan Guaidó—though it desperately wants to retain control of CITGO—presumably can’t afford to pay. If there is a default, and bondholders seize the collateral, the loss of CITGO may significantly disrupt Venezuela’s ability to recover from its current economic and humanitarian catastrophe. To be sure, the prospects of recovery are dim while Mr. Maduro remains in power, but if he leaves, the loss of CITGO will be a major blow.

The Project Syndicate article describes how, under Venezuelan law, the National Assembly must approve contracts of national interest. That didn’t happen here. Venezuela might therefore challenge the issuance of the PDVSA 2020 bond, and the grant of collateral, as lacking proper authorization under Venezuelan law. Ugo and we examine the potential justification for such a challenge at Project Syndicate.

Here, we focus on a more wonky question: Is the validity of the PDVSA 2020 bond and the pledge of collateral to be judged under Venezuelan law or New York law? And would the outcome change depending on which law governs? The answers turn out to be more complicated than one might think. But, given the court battle that we expect, rather important.