Might PBA Creditors Take a Lesson From the Black Widow?

Mark Weidemaier and Mitu Gulati

We’ve had lots of interesting responses to our earlier post on debt restructuring shenanigans engaged in by the Province of Buenos Aires. Many on the creditor side are miffed. Two issues raised by these responses seemed worth another post. So here we go.

Why not use the Black Widow Strategy?

At first, we didn’t understand the reference. But Google helped. Black Widow is the new Marvel movie starring Scarlett Johansson, who is suing Disney because it, and its subsidiary Marvel, did not do an exclusive release of the movie in theaters before selling it on the new Disney Plus streaming service (here). Instead of suing Marvel for breach of contract, she is suing Disney for tortious interference with contract. This is a standard move for parties bound, like Ms. Johansson, by an arbitration clause they would prefer to avoid. By suing a related third party, they get to proceed in court—unless the third party can argue that it is a third party beneficiary or otherwise entitled to invoke the arbitration agreement.

Why mention tortious interference in the context of the Province of Buenos Aires’ recent exchange offer? Tortious interference is an old common law tort action. It is typically brought against a non-party who induces one of the contracting parties to breach. Since it is a tort, one has to show causality and, in some circumstances, also that the non-party not only interfered but did so with some improper motive or by some improper method. (And defining what counts as improper has proven difficult). A senior lawyer who hated Ecuador’s original exit exchange in 2000 once commented that he was inclined to organize a tortious interference action and believed he would win. The logic then and now is that, by inducing participating creditors to vote to impair the rights under the contract they are exiting, the issuer is inducing a breach of that contract.

But we are less confident that tortious interference is a helpful way of thinking about behavior like PBA’s.

For one thing, PBA is a party to the contract. It either is exercising its rights by proposing a modification to the contract or it is not. Likewise, participating bondholders either are exercising their rights to vote in favor of a modification, or they are doing something the contract forbids. Basically, if the contract does not permit the modification, then presumably a dissenting creditor is not bound by the vote and can sue to enforce the original terms of its bond. In this case, it has no need for tort doctrines; contract law will do just fine. Meanwhile, if the contract permits the modification, then it is hard to see how the issuer has committed a tort by proposing it.

In some jurisdictions the tort of intentional interference extends to cases where a non-party induces a contracting party to terminate (without breaching) a contractual relationship. Maybe that is a better analogy for our context than the standard case in which the non-party induces a breach. Imagine a contract terminable at will that would, but for the non-party’s interference, have remained in effect. But in these cases, the interfering party must act with improper motive or use some improper means. Here again, if the modification somehow violates the contract, there is little work for the tort of intentional interference to do. But if the contract permits the modification, does anyone really think a court would interpret New York law to impose liability on the issuer for proposing it without the requisite purity of heart? Bottom line, we just don’t see what a claim for tortious interference adds here. In other contexts, the tort would open up the possibility of punitive damages, but foreign states are not liable for those except in certain terrorism-related cases. (Punitive damages can be imposed against a foreign state’s agencies and instrumentalities, but that term does not cover a province like the PBA.)

Anyway, as noted in our last post, we think the PBA’s restructuring is legally dodgy. But this tortious interference thing strikes us as an unhelpful diversion. It probably makes more sense as a claim against participating bondholders—at least they aren’t insulated from punitive damages. But we still don’t really see how this claim can succeed if contract-based claims fail.

Payment for Votes

We’ve noticed that debtors have offered payments for favorable creditor votes in a number of recent exchanges. These have typically been small amounts. But PBA offered something substantial—accrued interest. Some industry insiders reacted as if this was no big deal. Consent payments have been around for a while, and this is just an extension of that practice.

Supporting this view, there are some old cases where courts have wrestled with vote buying. One lesson we take from these cases is that courts tend to approve vote buying when fully disclosed and when it does not look like the practice impairs the freedom of creditors to vote as they wish. The U.S. case is Kass v. Eastern Airlines, where it was not clear there was any real loss to the creditors and maybe some gain (discussed here; for a discussion of a similar litigation in England, see here).

Still, the idea underlying collective action clauses is that these prevent opportunistic creditor minorities from impeding the will of the supermajority. But if some creditors are voting yes only because they are receiving a side payment, their vote hardly reflects a judgment that the modification is in the collective best interest. They are being bribed to undermine, not express, the best interest of the collective. Or so one might argue. This logic suggests that large payments are especially problematic. A large payment implies that, for a large subset of creditors, a vote in favor of the restructuring would clearly be welfare reducing, were it not for the side payment. 

An additional puzzle here—and also in the Belize deal announced a couple of days ago—is that the payment to participating creditors consists of the payment of past due interest. Investors are already entitled to these payments. We aren’t sure this matters, but it seems like a bitter pill to swallow for investors who are inclined to reject the deal.

Comments

[Mehyar Afkari]

Is the vote buying doctrine mentioned here (i.e., vote buying in the context of an exchange offer is permissible as long as it's fully disclosed and doesn't interfere with creditors to vote as they wish) applicable to Ch 11 plan voting? In the WPG case, SVP is crossover holder and it offered ‘gifts’ to pref & common holders to vote 'yes' on the plan, but Judge Isgur called it a 'death trap.' The structure of their offer reminded me of a prisoner's dilemma (one snitch who succumbs to pressure benefits the greatest, while if both cooperate they benefit moderately, while if none cooperate they get bupkis). You see these in a lot of plans. Judge Isgur warned of the proposed 'death trap' in WPG and took issue with the common equity's recovery despite the pref's liquidation preference, in violation of Bankruptcy Code section 1129(b)(2)(C)(i). Judge Isgur asked WPG to file a revised disclosure statement disclosing the possibility that the death trap violates the BK code. I believe that plan was ultimately modified and confirmed, but this scenario reminded me of some of the same themes and party incentives.

I can see how death traps save the expense and uncertainty of a cramdown fight in BK, which aligns with the BK Code’s overall policy of fostering consensual plans. They offer a choice to avoid the expense and the uncertainty of a contested cramdown. It also appears in some cases, at some point, they can be viewed as too aggressive or coercive, similar to some of the tactics employed by issuers in some of these exit exchanges. Maybe it's a stretch to relate the two, but I am a non-lawyer thinking out loud.