Restructuring

Contributed by Maurice Horwitz
On July 13, 2015, the Bankruptcy Court for the Southern District of New York issued its decision in In re OAS S.A. et al. that recognized, as foreign main proceedings, three Brazilian bankruptcy proceedings currently pending for The OAS Group (“OAS”) – a Brazilian construction and engineering enterprise.  The bankruptcy court granted recognition over the objections of two major noteholders, Aurelius Capital Management, L.P. (“Aurelius”) and Alden Global Capital LLC (“Alden” and, together with Aurelius, the “Noteholders”), who argued that:

1. OAS’s proposed foreign representative, Renato Fermiano Tavares, did not satisfy the Bankruptcy Code’s definition of “foreign representative”;
2. with respect to one of the OAS entities seeking recognition – an Austrian financing subsidiary – its “center of main interests” (“COMI”) was not Brazil, and thus, its proceeding could not be recognized as a foreign main proceeding; and
3. recognition should be denied on the grounds that it would be “manifestly contrary to public policy.”

The bankruptcy court disagreed with the Noteholders on all three points.  In Part I of this series, we will review the facts of the case and how the bankruptcy court determined that Tavares satisfied the Bankruptcy Code’s definition of “foreign representative.”  In Part II, we will focus on the bankruptcy court’s COMI discussion and consider its implications in future cases involving so-called “financing companies” or “fincos,” whose sole purpose is to issue debt that is on-lent to its affiliates.  Finally, in Part III, we will review the bankruptcy court’s analysis of the public policy exception and consider how it adds to the case-law that has developed on this issue.
The OAS Group
OAS is an infrastructure enterprise headquartered in Brazil and engaged in engineering and construction projects across Latin-America, the Caribbean, and Africa.  OAS has become better known in restructuring circles as one of the enterprises implicated in “operation car wash” (lava-jato) – a government anti-corruption investigation in Brazil involving the state-owned oil company Petrobras and certain of its contract counterparties.
In October 2012, OAS Investments GmbH (“Investments”), an Austria-based financing subsidiary, issued $500 million of 8.25% senior notes due 2019 (the “2019-1 Notes”).  The 2019-1 notes were guaranteed by (i) OAS S.A., the parent company, (ii) Construtora OAS S.A. (“Construtora”), the holding company of OAS’s engineering division, and (iii) OAS Investimentos, S.A (“Investimentos”) (not to be confused with Investments, a separate entity).  In October 2014, Investments issued another $375 million of 8.25% notes due 2019 (the “2019-2 Notes” and, together with the 2019-1 Notes, the “2019 Notes”) with guarantees from OAS S.A., Constructora, and Investimentos.  Both series of notes were governed by New York law.  The proceeds of the 2019 Notes were to be used for refinancing and general corporate purposes of OAS.
On November 21, 2014, after the commencement of “operation car wash,” Petrobras announced that it was temporarily blocking certain companies from competing for new contracts with it.  OAS was one of 23 of such firms.  Together with a general slowdown in the Brazilian economy, these events created a cash crunch for OAS and made it increasingly difficult for it to obtain credit.
The December 2014 Transactions and Subsequent Litigation
In December 2014, OAS engaged in three transactions that the Noteholders have objected to both in the Brazilian and various U.S. proceedings:

1. Constructora, a guarantor of the 2019 Notes, transferred R$301 million of assets to another OAS affiliate, OAS Engenharia e Construção S.A., which is not a guarantor of the 2019 Notes;
2. Investimentos, a guarantor of the 2019 Notes, merged with OAS, another guarantor of the 2019 Notes, pursuant to an agreement that contemplated the subsequent dissolution of Investimentos (thus, according to Aurelius and Alden, eliminating their structural seniority in the separate assets of Investimentos); and
3. Investimentos also transferred its ownership in Investimentos e Participações em Infraestrutura S.A. (“Invepar”) to its subsidiary OAS Infraestrutura, also not a guarantor of the 2019 Notes.

In response to these transactions and the subsequent default under the 2019 Notes, Aurelius and Alden commenced actions on February 4, 2015 and February 18, 2015, respectively, in New York state court, seeking to recover an aggregate of $140 million due to them under the 2019 Notes.  An affiliate of Aurelius, Huxley Capital Corporation, also commenced an action in the District Court for the Southern District of New York seeking to unwind the three December transactions as fraudulent transfers.
The Brazilian Bankruptcies and Chapter 15 Petitions
On March 31, 2015, OAS S.A., Construtora, and Investments (the “OAS Debtors”), together with certain other OAS affiliates, filed for bankruptcy protection in Brazil.  On April 2, 2015, the board of directors of the OAS Debtors granted Renato Fermiano Tavares with power of attorney for one year to represent the entities in their Brazilian reorganization proceedings.  The Boards of Directors also specifically appointed Tavares as the OAS Debtors’ attorney and agent-in-fact for purpose of seeking relief under chapter 15 of the U.S. Bankruptcy Code.  On April 15, 2015, the OAS Debtors filed chapter 15 petitions for recognition and sought an injunction against the New York litigation described above.
The Noteholders opposed recognition.  In their objection, they relied upon on three subsections of Bankruptcy Code section 1517 (emphasized in bold below), which state that:

(a) Subject to section 1506, after notice and a hearing, an order recognizing a foreign proceeding shall be entered if—

(1) such foreign proceeding for which recognition is sought is a foreign main proceeding or foreign nonmain proceeding within the meaning of section 1502;

(2) the foreign representative applying for recognition is a person or body; and

(3) the petition meets the requirements of section 1515.

The Noteholders’ objection focused on (i) the public policy exception, provided for in section 1506 (permitting a court to refuse to take action “manifestly contrary to public policy”), (ii) the qualification of Investments’s foreign proceeding as a foreign main proceeding, and (iii) Tavares’s qualification as a foreign representative.  We will cover Tavares’s qualification as a foreign representative here, and delve into the other two elements of section 1517 in Parts II and III of this series.
Tavares’s Qualification as Foreign Representative
The Noteholders challenged Tavares’s application for recognition on the grounds that he was not qualified to be a “foreign representative,” as that term is defined in the Bankruptcy Code.  Section 101(24) provides that

The term “foreign representative” means a person or body, including a person or body appointed on an interim basis, authorized in a foreign proceeding to administer the reorganization or the liquidation of the debtor’s assets or affairs or to act as a representative of such foreign proceeding.

Specifically, the Noteholders argued that:

1. Tavares needed to be authorized by a Brazilian Court, not just a board of directors, to act as a foreign representative;
2. even if a board of directors can appoint a foreign representative, the OAS Debtors are not debtors in possession and thus lacked authority to appoint Tavares and their foreign representative; and
3. Tavares himself is personally not qualified to be a foreign representative.

With respect to judicial authorization, the court noted that the very same argument had been raised by the objecting noteholders in In re Vitro SAB de CV and rejected by the Fifth Circuit Court of Appeals.  Although the Bankruptcy Code’s definition of “foreign representative” includes a requirement that the representative be “authorized in a foreign proceeding,” the court was persuaded by the Fifth Circuit’s holding in Vitro that the phrase “authorized in a foreign proceeding” is ambiguous, and could be read to mean “authorized in the context of a foreign proceeding.  The court also noted that the District Court for the Southern District of New York had affirmed at least one prior New York decision in which the bankruptcy court held that a debtor in possession in a Mexican bankruptcy proceeding could authorize a person to act as its foreign representative in a chapter 15 case.
The bankruptcy court found further support for this argument in sources outside of the Bankruptcy Code and U.S. case law.  As readers of the blog know from prior articles, chapter 15 incorporates the Model Law on Cross-Border Insolvency (the “Model Law”) promulgated by the United Nations Commission on International Trade Law (“UNCITRAL”).  Because it is based on a model law promulgated by the United Nations, section 1508 of the Bankruptcy Code provides:

In interpreting this chapter, the court shall consider its international origin, and the need to promote an application of this chapter that is consistent with the application of similar statutes adopted by foreign jurisdictions.

11 U.S.C. § 1508.  The bankruptcy court noted, as other courts have held, that “[a]s each section of Chapter 15 is based on a corresponding article in the Model Law, if a textual provision of Chapter 15 is unclear or ambiguous, the Court may then consider the Model Law and foreign interpretations of it as part of its ‘interpretive task.’”  Furthermore, the court added that “[w]hen interpreting Chapter 15, the Court should also consult the Guide To Enactment Of The Uncitral Model Law Of Cross-Border Insolvency (the “Guide”) promulgated by UNCITRAL.
With this in mind, the bankruptcy court (following the Fifth Circuit in Vitro) found additional support for its interpretation of Bankruptcy Code section 101(24) in the Model Law and the reports of the Working Group on Insolvency Law (the “Working Group”).  Observing that “[t]he definition of foreign representatives in § 101(24) is essentially identical to the corresponding definition in Model Law Article 2(d).1,” the court cited the Vitro court:  “In drafting this definition, the Working Group expressly rejected the requirement that a foreign representative be specifically authorized by statute or other order of court (administrative body) to act in connection with a foreign proceeding.”  Relying upon these Working Group texts, the bankruptcy court rejected the Noteholders’ interpretation of “authorized in a foreign proceeding” and, in line with the Fifth Circuit, held that judicial authorization was not required.
Even if judicial authorization was not required, the Noteholders argued that the OAS Debtors’ could not appoint their own foreign representative because they are not debtors in possession.  Here again, the court relied primarily on the Model Law and its ancillary texts, stating that “the Model Law does not define the characteristics of a debtor in possession” but “the Guide suggests that it includes a debtor that retains ‘some measure of control over its assets’ although under court supervision.”  Accordingly, the court found that the OAS Debtors are debtors in possession within the meaning of the Model Law because the OAS Debtors retain full control of their business and assets, subject to the oversight of a judicial administrator.  The Noteholders endeavored to argue that the OAS Debtors are not debtors in possession because they do not have the same exact duties and responsibilities as a U.S. bankruptcy trustee, but the bankruptcy court rejected this argument (as did the Fifth Circuit in Vitro) and noted, citing Vitro, that such an argument

proceeds from the incorrect assumption that only those who meet the criteria of a debtor-in-possession under U.S. law can be deemed a debtor-in-possession in a foreign proceeding with the power to appoint a foreign representative. The drafters of the Model Law did not base their concept of “debtor in possession” on how United States law defined the term, and “under Chapter 15 the correct analogy is not to whether a debtor meets Chapter 11’s definition of a ‘debtor in possession,’ but whether it meets that definition originally envisioned by the drafters of the Model Law and incorporated into § 101(24).”

Finally, the Noteholders argued (among other more technical arguments that the bankruptcy court rejected) that Tavares himself does not fit the definition of a “foreign representative” because, among other things, he has not assumed the duties of administering the assets and affairs of the OAS Debtors, is not neutral and accountable (here, the Noteholders were focused specifically on Tavares’s role in the December transactions), and is not a representative of the Brazilian Court.  Finding no guidance in the Bankruptcy Code, the bankruptcy court turned, again, to the Guide, which states that “the foreign representative may be a person authorized in the foreign proceeding to administer those proceedings, which would include seeking recognition, relief and cooperation in another jurisdiction….”  Tavares was expressly authorized to do just that – administer the Brazilian bankruptcy proceedings and seek chapter 15 recognition and relief – and thus could satisfy the definition of “foreign representative.”
Conclusion
The bankruptcy court has added to the growing body of case law in New York and elsewhere that grounds its application of chapter 15 firmly in the Model Law and its ancillary texts, none of which were drafted by elected legislators or courts of the United States.  In Parts II and III, we will consider how the bankruptcy court’s rulings on COMI and the public policy exception have added further clarity for foreign debtors whose restructuring efforts include the need to seek the assistance of the United States courts through chapter 15 of the Bankruptcy Code.