The Emperor's Old Bonds

Andres Paciuc, Mike Chen & Charlie Fendrych, have just published their delightful paper on Chinese Imperial Debt in the Duke Journal of Comparative and International Law. This is a version of a paper that they did for my sovereign debt class with Mark Weidemaier a few years ago. Bravo! The paper is available here.

Here is the abstract:

Recent news articles have suggested that Trump’s trade war may finally provide relief to American holders of defaulted, pre-1950s Chinese bonds. Here, we examine the hurdles set before these bondholders, namely establishing jurisdiction over the People’s Republic of China as a sovereign and the long-lapsed statute of limitations. We also evaluate the Chinese government’s possible recourse.

Our investigation yielded key takeaways. First, to establish jurisdiction in the U.S., the bond must be denominated in U.S. Dollars or state a place of performance within the country. Second, to overcome the long-expired statute of limitations and win an equitable remedy, it must be shown that the PRC violated an absolute priority or pari passu clause and is a “uniquely recalcitrant” debtor. Finally, despite China’s commitment to the odious debt doctrine, the doctrine is unlikely to provide meaningful legal protection in an otherwise successful suit. Overall, it is a difficult suit to bring. However, through our investigations, we have discovered one issue in particular which holds the greatest danger—or perhaps the greatest promise: the Chinese Government 2-Year 6% Treasury Notes of 1919.

Cheeky Cruise Company Lawyering

This past week’s episode of Andrew Jennings’ Business Scholarship Podcast tells a wonderful story of sneaky cruise ship lawyering. Andrew’s guest was John Coyle, contracts/choice-of-law guru. The discussion focused on the 11^th Circuit’s recent decision in Myhra v. Royal Caribbean Cruises, Ltd., and John’s new article about that case, “Cruise Contracts, Public Policy, and Foreign Forum Selection Clauses”  

The backdrop to this story is US federal law that constrains cruise companies from contracting to limit liability in the small print of their contracts with customers; contract provisions that few read and fewer still pay attention to.  John explains:

46 U.S.C. § 30509 . . . prohibits cruise companies from writing provisions into their passenger contracts that limit the company’s liability for personal injury or death incurred on cruises that stop at a U.S. port.  The policy goal underlying this statute is simple.  A cruise contract is the prototypical contract of adhesion.  Absent the constraints imposed by the statute, a cruise company could write language into its passenger contracts that would absolve the company from liability for passenger injuries even when the company was at fault.  The statute clearly states that such provisions are void as against U.S. public policy and directs courts not to give them any effect.

That strikes me as a pretty clear dictate to the courts.  And if I were a cruise company contract lawyer, I’d be worried about trying to draft around such a clear dictate.  (Wouldn’t courts, customers, and just about everyone else look with disfavor upon such sneakiness?). Cruise company lawyers though, at least in the 11^th Circuit (which is the key circuit for such matters, since it covers Florida) have figured out a back door way around the explicit prohibition by using a combination of forum selection and governing law clauses.  This enables them to limit liability to foreign customers, even though they are taking the same cruise as their US counterparts.  John’s article explains:

Notwithstanding this clear statement of U.S. policy, cruise companies have worked diligently to develop a workaround to Section 30509 for passengers who reside outside the United States. First, the companies write choice-of-law clauses into their passenger contracts selecting the law of the passenger’s home country.  In many cases, the enforcement of such clauses will result in the application of the Athens Convention, a multilateral treaty which caps the liability of cruise ship companies.  When the Athens Convention applies, an injured cruise ship passenger generally cannot recover more than $66,000 in a tort suit against the cruise ship company.  In this way, the cruise company seeks to accomplish indirectly through a choice-of-law clause what it could not achieve directly via a contract provision limiting their liability.

I’m astonished.  Surely a US federal court would not permit such a sneaky workaround.  And John’s article explains, after canvasing a large set of cases across a range of subject areas, that that is the case. Except, maybe, if you are a cruise company litigating in the 11^th Circuit against a foreign customer.

Antique Chinese Debt - The Latest

Mark Weidemaier and I have talked about antique Chinese (mostly Imperial) debt often on this site.  And we've also discussed these debts on our podcast with sovereign debt gurus Tracy Alloway and Lee Buchheit (here).  Yes, we are a bit obsessed. Part of our fascination with this topic is that the Chinese government asserted a defense of odiousness to paying these debts.  The lenders (backed by western powers, seeking influence in China) and the Imperial borrowers (seeking to sell access to their country in exchange for self preservation) had, in essence, sold out the people of China.  End result: Revolution and refusal of successor communist governments to pay these debts, no matter what - even today, when China is a financial behemoth.  

Below is the abstract for a wonderful new paper, "Confirming the Obvious: Why Antique Chinese Bonds Should Remain Antique" in the U Penn Asian L. Rev. by two of our former Duke students, Alex Xiao and Brenda Luo.  Bravo! We are so proud.

As the Sino-U.S. relationship goes on a downward spiral, points of conflict have sparked at places one might not expect: antique sovereign bonds. In recent years, the idea of making China pay for the sovereign bonds issued by its predecessor regimes a century ago have received increasing attention in the U.S. This note takes this seeming strange idea seriously and maps out the possible legal issues surrounding a revival of these century-old bonds. Although two particular bonds show some potential for revival—the Hukuang Railways 5% Sinking Fund Gold Bonds of 1911 and the Pacific Development Loan of 1937—the private bondholders would unlikely be able to toll the statute of limitations on the repayment claims based on these bonds. Even in the unlikely scenario that they succeed, the Chinese government would have an arsenal of contract law arguments against the enforcement of these bonds, most notably defenses based on duress, impracticality, and public policy. By going into the details of the legal arguments and history behind these bonds, we seek to confirm the obvious, that is, the idea of making China pay for these bonds is as far-fetched as it sounds and would not be taken seriously by courts.

Elliott, Apollo, Caesar's Palace and a Bunch of Bankruptcy Law Professors

One of the most dramatic stories in corporate finance and bankruptcy over the past decade has been the Caesar's Palace battle between a bunch of hard nosed distressed debt hedge funds and big bad private equity shops.  A bunch of masters of the universe types fighting it out to the death. (For my part: I'm interested in this because some of the big players from the Argentine pari passu battle are involved and there was a battle over the aggressive use of Exit Consents).

Turns out that this Caesar's story is going to be front and center at an upcoming bankruptcy conference that three good friends, Bob Rasmussen, Mike Simkovic and Samir Parikh are running, where one of the authors of "The Caesar's Palace Coup", the FT's Sujeet Indap, is going to be on a panel with the heavy hitters, Ken Liang, Bruce Bennett and Richard Davis. I always find it fascinating to hear how financial journalists and law professors, both of whom have dug deep into a set of events, tell the same story. 

The formal announcement, courtesy of Samir Parikh, is here:

The $900 Million Back Office Error

I love this story -- a bank erroneously sends money to a bunch of lenders who are angry with the bank and the debtor for other reasons. The bank discovers the computer error and asks for its money back. The angry lenders refuse to give back what was clearly an erroneous deposit. There is litigation. And the court says to the lenders who received the erroneous deposit: You can keep the money.  

I remember telling my students in Contracts about it when the news was first reported, and the matter had not been to court yet. I told them that this was an easy case and that the lenders would have to give the money back.  If memory serves, I told them something along the lines of: "If a bank erroneously deposits money in your account, you don't get to keep it. You have to give back what is not yours. Finders are not automatically keepers." I was wrong, to put it mildly.

Elisabeth de Fontenay has a delightful piece on this that is coming out soon in the Capital Markets Law Journal (here). Among other things, Elisabeth asks the deeper question of why it is that lenders and borrowers these days seem to be asserting what look to be highly opportunistic claims on a much more frequent basis than in the past. It used to be -- or so the veteran lawyers in this business tell me --  that reputation and norms constrained these repeat players from misbehaving. Not these days.

Of course, there is more to the story, like why the judge (Jesse Furman) ruled the way he did. Turns out that there was a wormy precedent directing him and he was not willing to turn the usual judicial cartwheels to produce the "fair" outcome. Or maybe, in terms of weighing bad behavior on the two sides, he found shenanigans on both sides and decided to just follow precedent? Or maybe Judge Furman hates the big banks? I'm kidding (I think very highly of Judge Furman), but he has decided a number of big commercial cases recently that have caused drama (e.g., here (Windstream) and here (Cash America)).

The abstract for Elisabeth's paper is here:

The Citibank case dealt with a $900 million payment sent in error to the lenders of Revlon, Inc., in the midst of a fraught dispute over the loan restructuring. Surprising most market participants, the court ruled that the lenders who refused to return the funds to the administrative agent were entitled to keep the money. The case (currently on appeal) attracted commentary primarily due to the sheer size of the payment error, and the corresponding risks posed by “back-office” functions at financial institutions. But Citibank also highlights the widening gap in leveraged finance between the wishes and expectations of market participants and the actual outcomes they achieve under either (1) common-law default rules or (2) heavily negotiated contracts. In particular, the case raises questions such as (1) whether New York law remains an appropriate default choice for financing transactions; (2) whether the common-law of contracts does or should continue to have relevance for financing transactions among sophisticated parties; and (3) whether parties truly can contract for their desired outcomes when opportunistic behavior is prevalent in the market.

For more, Matt Levine of Bloomberg has a hilarious piece, here. It talks about the back office disaster in India and how this goof actually happened (as an aside, the firm involved on the Indian side is a highly respected one -- this was no fly by night operation).  Matt also talks about the wonderfully named Banque Worms case.  One could not make this stuff up even if one wanted to.

I'm hoping that my favorite business law podcaster, Andrew Jennings (here), will do an episode on this soon.

The Argentine 2020 Restructuring Drama: An Insider's Perspective

There has been much discussion of the recent (2020) Argentine restructuring on creditslips, including by Anna Gelpern (here) and Mark Weidemaier (here), two people who know more about these matters than pretty much anyone else anywhere.  And significant portions of that discussion have been critical (or at least questioning) of the wisdom of two of the strategies that Argentina attempted to utilize during its recent restructuring: Pac Man and Re-designation.  These criticisms also showed up in the financial press, in articles by Anna Szymanski (here) and Colby Smith (here), among others.

Yesterday, two of the key players on the Argentine restructuring team, Andres de la Cruz and Ignacio Lagos (both of Cleary Gottlieb) put out on ssrn a spirited defense of the Pac Man and Re-designation strategies.  The article, “CACs at Work: What Next?” is available here (and should be forthcoming in the Capital Markets Law Journal soon).  To cut to the chase, Andres and Ignacio argue that their strategies were misunderstood by commentators and, in the end, were actually embraced by investors.

The New Thing in Contract Research - The Contract Production Process

Cathy Hwang and Matt Jennejohn, two of the brightest young stars of the contract world, just put up a paper summarizing their view of one of the exciting new directions that contract research is taking. They describe it as the study of contractual complexity ("The New Research on Contractual Complexity", is their title). But I don't like the term "contractual complexity" at all, since I simply cannot take seriously the idea that anything that lawyers do is all that complex.  Convoluted, confused and obscure, yes.  But complex? Hell no.  What I see their wonderful paper as being about is the new research on the production of contracts.  As they point out, it all starts from the foundations laid in a set of important papers by the brilliant Barak Richman.  Barak has long been puzzled as to why contract scholars have generally had little interest in how contracts are produced -- even though key assumptions about the production process form the backbone for theories and doctrines of contract interpretation (something that contract scholars, old and new, do care deeply about).

And now we have an entire cool new set of papers by folks like Rob Anderson, Jeff Manns, Dave Hoffman, Tess-Wilkinson Ryan, Michelle Boardman, Julian Nyarko, John Coyle, Mark Weidemaier, Adam Badawi, Elisabeth de Fontenay, Anna Gelpern and, of course, Cathy and Matt (and more).  Some using fancy empirical techniques well beyond my capacity (yes, those are complex), others use cool experiments (again, complex and beyond my skill level) and still others use interviews (yup, complex).

Three cheers for the study of how contracts are produced -- complex ones, confused ones and all the rest.

The ssrn link to Cathy and Matt's paper from the Capital Markets Law Journal is here: 

Their abstract reads:

In the last few years, the academic literature has begun catching up with private practice. In this essay, we review the growing literature on contractual complexity and outline its key insights for contract design and enforcement. Our purview is broad, capturing new theories and new empirical tools that have recently been developed to understand contractual complexity. We also propose avenues for future research, which we extend as an invitation to academics and practitioners as an opportunity to further the collective knowledge in this field. 

Argentina-Inspired Reforms to Sovereign Debt Contract Terms (Yes, Again)

In terms of innovations in the boilerplate of sovereign debt contract terms, Argentina is the gift that keeps on giving (and giving and giving).  At least within my lifetime, its behavior has inspired more contract innovation than any other country (even Ecuador, that probably comes a close second).

Here is the abstract of a wonderful new paper by two sovereign debt legal experts from White & Case (London), Ian Clark and Dimitrios Lyratzakis (White & Case has a long history of innovation in sovereign debt contracts; it was one of the firms at the forefront of Collective Action Clause innovations way back in the 1980s):

The Collective Action Clauses published by the International Capital Markets Association in 2014/2015 aim to facilitate orderly and consensual sovereign debt restructurings. The clauses were designed to give sovereigns flexibility in structuring and consummating a transaction that would be capable of attracting broad creditor support, while safeguarding the integrity of the process and the rights of creditor minorities. The recent restructurings of Argentina and Ecuador presented the first opportunities for the ICMA CACs to be tested in practice, but the “re-designation” and “PAC-man” strategies first seen in the Argentine restructuring revealed shortcomings in the ICMA contractual architecture.

Argentina’s and Ecuador’s creditors responded by negotiating tailored refinements to the standard CACs that would mitigate the risk that a sovereign could compel a restructuring that is not supported by the requisite creditor supermajorities. The qualified restrictions on “re-designation” and “PAC-man” adopted by Ecuador and Argentina enhance the ICMA architecture and provide strong incentives for a sovereign to engage constructively with its private creditors in a consensus-building process that results in a restructuring proposal capable of achieving supermajority support.

The paper, "Toward a More Robust Sovereign Debt Architecture: Innovations from Ecuador and Argentina" (forthcoming in Capital Markets Law Journal) is particularly interesting because Ian and Dimitrios are two of the creditor-side lawyers who were involved in creating the innovations that they discuss. (Much of the writing in this area has tended to be from the debtor side). Now, it remains to be seen how the market responds to these innovations. In particular, will other deals embrace the changes that have been made in the Ecuador and Argentine restructuring documents or will there be yet more experimentation?

I'm particularly intrigued by some rather crucial differences in deal documents that seem to correlate to the governing laws (NY v. England).  Informally, there has been much chatter about whether those differences were the product of drafting goofs in the model clauses on one or the other sides of the Atlantic or intentional (Each side asserts that the other has goofed -- albeit in a very polite and passive aggressive fashion). Given that debate, and the unwillingness of anyone to openly talk about the issues, I wonder whether those differences will continue out of a sheer unwillingness to admit error. (Of course, this is a topic that Dimitrios and Ian diplomatically and cleverly avoid).

J. Screwed - A Paper

A number of months ago now, I listened to a fun podcast episode on Planet Money titled "J. Screwed" about contract shenanigans by J.Crew, as it was making its way into deep financial distress.  I'm fascinated by the exploitation of contract loopholes in debt contracts. So, of course, I wanted to know more. I went digging into the world of Google.  But I couldn't find anything good in the literature that explained to me the details of what was going on (the contract term in question, how widespread this problem was, how the market had reacted, etc., etc.). The best I found was a blog post that fellow slipster, Adam Levitin, kindly pointed to me.

But now there is a wonderful article up on ssrn by the author of that post (a former student of Adam at Georgetown Law, I believe).  The appropriately titled article, "The Development of Collateral Stripping By Distressed Borrowers" by Mitchell Mengden, is here.

The abstract reads as follows:

In the past decade, private equity sponsors have taken a more aggressive stance against creditors of their portfolio companies, the most recent iteration of which has come in the form of collateral stripping. Sponsors have been using creative lawyering to transfer valuable collateral out of the reach of creditors. This Article delves deeper into the issue by examining the contract terms and litigation claims raised by these transactions.

The lack of protective covenants and ease of manipulating EBITDA and asset valuations are key conditions that permit collateral stripping. Each of these conditions were present in the past decade, primarily due to the protracted expansionary stage of the credit cycle. Lenders, however, can protect themselves from collateral stripping by negotiating stricter covenants and tighter EBITDA definitions, as well as pursuing ex post litigation for fraudulent transfers, illegal distributions, and claims for breach of fiduciary duty.

Contractual opportunism and creative lawyering will almost certainly continue to pervade credit markets. This Article provides a roadmap of ways that lenders can protect themselves from opportunism during contracting and throughout the course of the loan. As this Article concludes, ex post litigation claims are often an inadequate remedy, so lenders should seek to tighten EBITDA definitions and broaden protective covenants—even if to do so requires other concessions—to avoid litigation.

Brilliant Contracts Podcast From Hoffman & Wilkinson-Ryan

I suspect that slipsters already know about this podcast.  But, just in case any of you have not, I wanted to flag Promises, Promises by Dave Hoffman and Tess Wilkinson-Ryan.  This is especially wonderful if you are teaching contract law via zoom this term and need additional content to add to what you are doing already. The podcast has been my savior in that it brightens my mood so much to hear these two brilliant scholars have fun talking through the classic cases while I'm on long walks. (Indeed, today I discussed their discussion of Hamer v. Sidway with Anna Gelpern for over an hour while I was walking).

Listening to the conversations between Tess and Dave makes me remember why I wanted to be an academic in the first place -- and it was not to write boring law review articles with ridiculous numbers of footnotes. It was at least in part to have conversations like the ones Tess and Dave have on their podcast (ideally, with some good scotch at hand).  I imagine that it is a special treat to be a student in their classes (or to be their colleague).

Bravo, my friends. Bravo.

The podcast is available on iTunes, Spotify and a bunch of other places.  

p.s. I wonder whether I might be able to persuade them to do an episode on the Gold Clause cases.  Hmmm.

Back to the Future (Again): Horatio Gadfly and Those Imperial Chinese Bonds

FT Alphaville has had a long line of quirky and brilliant reporters over the years, something that I've always enjoyed (Joseph Cotterill, Tracy Alloway, Colby Smith, Cardiff Garcia and more). And I've especially liked the pieces that do deep dives into obscure and arcane sovereign debt matters.

The latest such piece is from Izabella Kaminska, on the the topic of antique imperial Chinese bonds and the possibilities for recovery (from about ten hours ago, here).  The likelihood of using purely legal methods and recovering on these today is near zero.  But near zero is not zero and periodically, as a means to get students engaged on the thorny questions of statutes of limitations and sovereign immunity, Mark Weidemaier and I will assign them the task of figuring out which of the defaulted imperial sovereign bonds have the best chance of recovery. The assignment is usually framed in terms of a set of bonds that Mr. Horatio Gadfly inherited (here) (Joseph Cotterill's hilarious piece on Mr. Gadfly's adventures is here)).

This past semester, a group of our students -- Michael Chen, Charlie Fendrych, and Andres Paciuc, dug deep and found a small subset of bonds that maybe, just maybe, had a long shot. Their fun paper, "The Emperor's Old Bonds" (soon to appear in print in the Duke Journal of Comparative and International Law) is here.

Izabella's article today makes a deeper point, which is that these legal claims -- while implausible if viewed in purely legal terms -- can acquire muscle as a function of political context.  Is this such a time?  Maybe.  Coronavirus, trade talks, election rhetoric, Taiwan, and given that some of Trump's supporters have lots of these old Chinese bonds and Trump is . . . well, Trump may have changed the equation from what it has been for the past century.  Steve Bannon, of all people, has talked about imperial Chinese bonds on his War Room show multiple times (e.g., this War Room episode at about 40:50. . . Aiyiyiyi . . . here).  

If you are intrigued and want to go down the rabbit hole, this question of politics and antique Chinese bonds has come up before -- see Tracy Alloway's piece on Bloomberg (here), Cardiff Garcia on NPR (here) and Mark Weidemaier on creditslips (here and here). 

Izabella is (I hope) not done with her writing on this topic and there might be more on Alphaville soon (today's teaser was in the main paper).  This topic connects to so many other fun topics relating to historic wrongs too -- like the fact that the British museum holds the Elgin Marbles and the British crown holds the Koh-i-Noor diamond (US museums undoubtedly have lots of these sorts of items as well). If Chinese imperial bonds need to get paid, maybe it is time to give the Elgin Marbles and the Koh-i-Noor back? Come to think of it, maybe it is time to give them back regardless of the bonds? Sovereigns are infinitely lived, which means that their obligations are too -- if someone can figure out a way to get around the statutes of limitations.