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Home , Pari passu, Restructuring

Capital Markets Law Journal, 2017 1

Solving the puzzle: the market still knows best Sergio J. Galvis*

Key Points As a result of the Argentine sovereign crisis and ensuing holdout litigation saga, the pari passu (or ranking) clause became a source of great consternation in the international sovereign market. Specifically, Judge Griesa’s holding that Argentina had violated the pari passu clause by refusing to pay who had not participated in the nation’s earlier debt exchanges, and accompanying requirement that Argentina had to pay those holdout bondholders, led to uncertainty in the market regarding the leverage holdouts could exercise in sovereign debt going forward. Concern was expressed over the ability of sovereigns to succeed with voluntary exchange offers premised on the threat that the sovereign would on payments due to non- participating bondholders. This article evaluates the impact of the court’s decision in the Argentine litigation to date and discusses the adoption of improved ranking clauses and collective action voting clauses in recent issuances of sovereign debt in the effort to bring greater certainty to market participants and facilitate efficient restructurings in the future without the need for extra-contractual restructuring mechanisms and remedies.

Concerns about mechanisms for orderly sovereign debt restructurings have long been the subject of debate among the International Monetary Fund (IMF), the US Treasury and the finance ministries of other G-10 countries, as well as the private sector.1 When the protracted and contentious legal battle between the Republic of Argentina (‘Argentina’ or the ‘Republic’) and the holdout creditors, led by NML Capital Ltd, surrounding the sovereign debt instruments’ pari passu (ie ranking) clause reached its pinnacle in June 2014 with the US Supreme Court’s refusal to hear Argentina’s appeal, the outcome was seen by some as a harbinger of catastrophe in the international capital markets. Judge Griesa’s holding that Argentina had violated the pari passu clause by refusing to pay creditors who had not participated in its debt exchanges, and thus had to make ‘ratable payments’ of the amounts due to such holdout creditors at the same time as any payments were made to the exchange-participating bondholders,2 gave rise to uncertainty

* Sergio J Galvis is a partner in the firm of Sullivan & Cromwell LLP, where he leads the American practice. The author is grateful for the assistance of Megan R O’Flynn in the preparation of this article. The views and opinions expressed in this article are those of the author and do not necessarily represent those of Sullivan & Cromwell LLP or its clients. 1 For a historical overview of the debate over sovereign leading up to recent developments at the policy level, see Kenneth Rogoff and Jeromin Zettelmeyer, ‘ Procedures for Sovereigns: A History of Ideas 1976–2001’ Int’l Monetary Fund, Working Paper No 02/133, 2002 5http://www.imf.org/external/pubs/ft/wp/2002/wp02133.pdf4 accessed 26 May 2017. 2 See NML Capital Ltd v Republic of Argentina, Nos 08-cv-6978 (TPG), 09-cv-1707 (TPG), 09-cv-1708 (TPG) (SDNY 21 November 2012), aff’d by NML Capital, Ltd v Republic of Argentina, 699 F.3d 246, 251 (2d Cir 2012).

ß The Author(s) (2017). Published by Oxford University Press. This is an Open Access article distributed under the terms of the Creative Commons Attribution-NonCommercial-NoDerivs licence (http://creativecommons. org/licenses/by-nc-nd/4.0/), which permits non-commercial reproduction and distribution of the work, in any medium, provided the original work is not altered or transformed in any way, and that the work properly cited. For commercial re-use, please contact [email protected] doi:10.1093/cmlj/kmx019 Accepted 13 February 2017 2 Capital Markets Law Journal, 2017 as to how it would be applied in practice in the Argentine situation.3 More broadly, the ruling generated doubts around the effect of these pari passu clauses, which are found in virtually all external bond borrowings by sovereigns under New York law, in other potential sovereign debt restructurings, since one ‘stick’ that may be used by sovereign issuers in trying to achieve restructurings through voluntary exchange offers is threatening to default on payments that are due to non-participating bondholders. On the one hand, developments in the courts (to some extent reflecting changes in Argentine politics and policies4) and the markets since Judge Griesa’s initial pari passu ruling suggest that the risk of catastrophic outcomes for sovereign borrowers may have been overstated. On the other hand, the new Argentine ’s decision to settle with the non-participating bondholders may exacerbate the holdout issue in future defaults because it signalled to investors that, with enough stamina and resources, they can stymie a restructuring process. On balance, notwithstanding the continuing relevance of these issues with respect to the outstanding international debt of sovereign , subsequent legal outcomes and market responses to ‘correct’ for the concerns surrounding pari passu and the related collective action clauses have substantially reduced the uncertainties in this area. This article reviews certain aspects of Argentina’s sovereign debt litigation relating to the interpretation of the pari passu clause, as well as subsequent legal developments, ultimately concluding that the holdings in the Argentina litigation are unlikely to be applied more broadly. It then examines recent developments in contractual bond documentation that have further addressed the holdout problem, and argues that these contractual revisions to future documentation, as well as liability exercises to deal with outstanding debt stock, go a long way to reducing concerns about minority holder holdout litigation in sovereign debt restructurings. 1. The Argentina problem: NML v Argentina and judicial interpretation of the pari passu clause In 2001, Argentina defaulted on over $80 billion of its bonds issued pursuant to its Fiscal Agency Agreement (FAA) and offered new exchange bonds (‘Exchange Bonds’) to the bondholders in both 2005 and 2010,5 with considerably less attractive economics.6 Predictably, less than 100 per cent of the bonds were tendered for

3 See eg Citibank, NA’s Motion for Clarification of 21 November 2012 by Citibank, NA, NML Capital Ltd v Republic of Argentina, Nos 08-cv-6978(TPG), 09-cv-1707 (TPG), 09-cv-1708 (TPG) (SDNY 23 February 2012), Dkt 276; Clearstream Banking SA’s motion to Amend/Correct, NML Capital Ltd v Republic of Argentina, Nos 08-cv-6978 (TPG), 09-cv-1707 (TPG), 09-cv-1708 (TPG) (SDNY 23 February 2012), Dkt 352; and Bank of New York Mellon’s Motion of Non-Party for Clarification of the Amended 23 February 2012 Orders, NML Capital Ltd v Republic of Argentina, Nos 08-cv-6978 (TPG), 09-cv-1707 (TPG), 09-cv-1708 (TPG) (SDNY 23 February 2012), Dkt 361. 4 See Benedict Mander, ‘How Argentina Pulled off a Deal in Creditor Impasse’ Financial Times (5 December 2016)5https://www. ft.com/content/88a56580-a2c5-11e6-aa83-bcb58d1d21934 accessed 26 May 2017; ‘At Last—A Deal with Holdout Bondholders is Expensive, but Worth it’ The Economist (5 March 2016)5http://www.economist.com/news/americas/21693786-agreement-victory- countrys-new-president-argentina-reaches-deal-its4 accessed 26 May 2017. 5 NML Capital Ltd v Republic of Argentina, 699 F.3d 246, 251 (2012). 6 See Federico Sturzenegger and Jeromin Zettelmeyer, ‘Haircuts: Estimating Investor Losses in Sovereign Debt Restructurings, 1998-2005’, IMF Working Paper, 5https://www.imf.org/external/pubs/ft/wp/2005/wp05137.pdf4 accessed 26 May 2017, at 58 Sergio J Galvis Solving the pari passu puzzle 3 exchange.7 At the end of the day, Argentina ‘succeeded’ in restructuring approximately 93 per cent of its external debt through the 2005 and 2010 exchange offers.8 Following each exchange offer, Argentina made payments to holders of Exchange Bonds while continuing to withhold payments to the holdout creditors who did not tender bonds in default.9 In addition, to encourage participation in the exchange offer (or, as characterized by a plaintiff in the ensuing litigation, to ‘coerce creditors to accept the offer’10) before its closing date in June 2005, on 10 February 2005, Argentina enacted the ‘Lock Law’, prohibiting the government from reopening the exchange process or making any kind of settlement with respect to the bonds that were subject to the exchange offer.11 Six years later the Lock Law would loom large in Judge Griesa’s and the Second Circuit’s views on the application of Argentina’s pari passu clause. In 2011, a group of holdout creditors who did not participate in the exchanges, led by NML Capital Ltd, filed an amended complaint in the US District Court for the Southern District of New York against Argentina for their principal and past-due interest claims,12 alleging that the Republic had violated the ranking clause in its 1994 FAA and debt securities and seeking specific performance (ie payment on their never-exchanged 1994 FAA-governed bonds).13 In December 2011, US District Judge Griesa held that Argentina had violated the ranking clause in the Argentina FAA by failing to make payments due to holdout creditors when it made payments to holders of the Exchange Bonds and by enacting the Lock Law,14 and had effectively ‘relegat[ed] NML’s bonds to a non-paying class’.15 In a subsequent decision issued in February 2012, Judge Griesa further ordered Argentina to make a ‘ratable payment’ to holdout creditors prior to or at the same time as it made its payment on the Exchange Bonds, and prohibited the fiscal agent and third-party financial intermediaries, including Euroclear and Clearstream, from servicing

(noting that Argentina’s 2005 exchange resulted in an average haircut of about 74%); JF Hornbeck, ‘Argentina’s Defaulted Sovereign Debt: Dealing with the ‘‘Holdouts,’’’ Congressional Research Service (6 February 2013) 5https://fas.org/sgp/crs/row/ R41029.pdf4 accessed 26 May 2017, at 17 (indicating that the value of the 2010 exchange at between 48 and 51 cents per dollar value of the bond compared unfavourably with the 60 cents on the dollar of the 2005 exchange). 7 See, eg Adam Thomson, ‘Private Creditor to Reject Argentina’s Offer on Debt’ Financial Times (20 January 2005); Kelly Hearn, ‘Investors Hurt; Public Hopeful Swap will Revive Shaky Economy’ The Washington Times (15 March 2005). 8 Yan Liu and others, ‘Strengthening the Contractual Framework to Address Collective Action Problems in Sovereign Debt Restructuring’ (2014) 17 International Monetary Fund at 8. 9 See NML Capital (n 5). 10 See Memorandum of Law in Support of the Motion by NML Capital, Ltd for Specific Performance, 1:14-cv-08601-TPG (SDNY), Dkt 26, at 5. 11 Rodrigo Olivares-Caminal, ‘The Pari Passu Clause in Sovereign Debt Instruments: Developments in Recent Litigation’ BIS Papers, 121, 125 (2013). 12 See NML Capital Ltd v Republic of Argentina, 2011 WL 9522565 (SDNY 2011). 13 The pari passu clause included in Argentina’s 1994 Fiscal Agency Agreement (Clause 1(c)) reads as follows: ‘The Securities will constitute ...direct, unconditional, unsecured and unsubordinated obligations of the Republic and shall at all times rank pari passu and without any preference among themselves. The payment obligations of the Republic under the Securities shall at all times rank at least equally with all its other present and future unsecured and unsubordinated External Indebtedness (as defined in this Agreement).’ 14 See NML Capital (n 12) at 2. 15 See ibid. 4 Capital Markets Law Journal, 2017 any prohibited payments on the Exchange Bonds.16 This order and subsequent ancillary holdings by Judge Griesa effectively closed off any viable method for Argentina to pay the Exchange Bonds without also paying the holdouts. On appeal, the Second Circuit affirmed the District Court’s decision and remanded the case to the District Court to define the ratable payment formula.17 Judge Griesa further elaborated that ratable payment meant that Argentina had to pay the holdout creditors in full whenever it made coupon payments on the Exchange Bonds, because the holdout creditors had accelerated the maturity of the bonds that they held, so that the entire principal amount on each such bond was due, along with accrued and unpaid principal.18 In June 2014, the Supreme Court denied Argentina’s certiorari petition, and the lower court decisions became final.19 The New York courts interpreted the pari passu clause applicable to the Argentine bonds to include two prohibitions: a bar on ‘ranking’ other bonds higher in right of repayment than the defaulted bonds and a prohibition on actually paying other bondholders before paying the defaulted bondholders. Following the rulings, some observed that the outcome of the litigation could substantially exacerbate the collective action problem inherent in sovereign bonds: by increasing the negotiating leverage of holdout creditors, who would have solid expectations of obtaining preferential settlements, these rulings would make it harder for sovereigns to generate adequate incentives for their bondholders to participate in future exchanges in other restructuring contexts.20 Some even called for a revival of the so-called ‘sovereign debt restructuring mechanism’ or another supranational or multinational solution to protect against future protracted sovereign debt crises and related litigation.21

16 See NML Capital Ltd v Republic of Argentina, Nos 08-cv-6978(TPG), 09-cv-1707 (TPG), 09-cv-1708 (TPG) (SDNY 23 February 2012). 17 See NML Capital (n 5). 18 See NML Capital Ltd v Republic of Argentina, No 08 Civ 6978 (TPG) (SDNY 21 November 2012), aff’d, 727 F.3d 230 (2d Cir 2013). These orders amended and clarified previous injunctions dated February 2012 (referred to collectively and as amended as the ‘Injunction Order’). The Second Circuit decision affirming the Injunction Order is NML Capital Ltd v Republic of Argentina, 727 F.3d 230 (2d Cir 2013), cert denied, 134 S Ct 2819 (2014). 19 See Republic of Argentina v NML Capital Ltd, 134 S Ct 2819 (2014). 20 Liu and others (n 8) at 11. 21 See, eg Brett House, ‘Argentina’s Debt Saga Shows Why We Need a Better Way to Deal with Bankrupt Countries’ Quartz (24 March 2014) 5http://qz.com/191388/argentinas-debt-saga-shows-why-we-need-a-better-way-to-deal-with-bankruptcountries/4 accessed 26 May 2017; Robin Wigglesworth and Alan Beattie, ‘Bankruptcy Regime for Nations Urged’ Financial Times (6 January 2013) 5http://www.ft.com/cms/s/0/ad3068d6-4613-11e2-ae8d-00144feabdc0.html#axzz3BqXlOAOf4 accessed 26 May 2017; Lee C Buchheit and others, ‘Revisiting Sovereign Bankruptcy’ (2013) 31–33 Brookings Inst Comm Int’l Econ Pol’y & Reform, 5https://www.brookings.edu/research/revisiting-sovereign-bankruptcy/4 accessed 26 May 2017 (proposing some measures of ‘statutory reform’ in response to the holdout creditor issue). Based on creation of a Chapter 11-like bankruptcy process, the ‘sovereign debt restructuring mechanism’ (or SDRM) would be imposed on existing and future external sovereign debt alike, and implemented through a combination of international treaty and statutory changes. Proponents of SDRM also argue it would protect sovereigns from suits from holdout creditors as well as certain other litigation. See Sergio J Galvis, ‘Sovereign Debt Restructurings—The Market Knows Best’ (2003) 6(1) International Finance 145–55, for a critique of SDRM as initially proposed by the IMF and certain commentators. Citing the work of N Roubini, who suggests that the so-called ‘vulture’ or ‘rogue’ creditors have a trade mentality that would incline them to accept an exchange rather than litigate, the author notes that ‘the key point is that liquid bond markets affect investors’ choices in ways that facilitate successful exchange offers’. Sergio J Galvis Solving the pari passu puzzle 5

2. Persistent ambiguity and a unique and limited outcome for the Argentine pari passu clause There are strong arguments that Judge Griesa’s construction of Argentina’s pari passu clause, as upheld by the Second Circuit, is problematic as a matter of contractual interpretation and, in any case, leaves ambiguity about the meaning of the pari passu clause in New York law sovereign bond covenants. The term ‘pari passu’ roughly translates to ‘on equal footing’, and, in the case of corporate bonds, is generally interpreted to mean that in the event of and —a concept not available in the sovereign debt context—all holders of equally ranked debt will receive an equal share of the proceeds.22 In the case of Argentina, interpreting the pari passu clause to prohibit a from choosing to pay some unsecured creditors without simultaneously paying others, or, if a debtor attempts to make such payments, permitting an unpaid to enlist the aid of a court to interfere with payments to other creditors, arguably is contrary to the purpose of the clause, particularly when it is read in the context of other applicable provisions of Argentina’s FAA and in light of common market terms that were not included in that instrument. When parties intend for the outcome of their credit agreement to be that if any one of the creditors receives a payment from a debtor that is disproportionate to any amounts received by all of the creditors who are party to the agreement, the excess payment will be shared with the others, they include a ‘sharing clause’ to memorialize that intent and to obligate the creditor that has received a disproportionately large amount to share it with the other creditors.23 The bond instrument in the Argentine litigation included no such clause. Nor is it market practice to include a sharing clause in New York law-governed sovereign debt instruments.24 Furthermore, within the four corners of the contract, a separate provision of Argentina’s bond instruments strongly suggests that it was not the intent of the parties to the Argentina bond covenants to turn the pari passu clause into a ‘sharing clause’. Section 9(c) of Argentina’s FAA provides that the issuer may purchase bonds at any time, at any price, in the open market or through private sale, subject to certain conditions that are not relevant for purposes of this analysis. Nothing in this provision or others in the FAA requires that Argentina make ratable purchases at equal prices among holders of the securities or make payments to any bondholders upon cancellation of other outstanding bonds. Because issuer repurchases such as those that would take place pursuant to this provision are functionally equivalent to repayments, it would not be rational for

22 Mark LJ Wright, ‘Interpreting the Pari Passu Clause in Sovereign Bond Contracts: It’s all Hebrew (and Aramaic) to Me’ Federal Reserve Bank of Chicago (4 May 2014) 5https://papers.ssrn.com/sol3/papers.cfm?abstract_id¼24326714 accessed 26 May 2017, at 1. 23 See Lee C Buchheit, How to Negotiate Eurocurrency Agreements (2nd edn, Euromoney Institutional Investor PLC 2000) 76–81. 24 In addition, in its amicus brief to the Supreme Court in support of reversal of Judge Griesa’s holding, the USA asserted that longstanding market understanding was in support of a narrow reading of the pari passu clause: ‘[M]arket understanding has consistently reflected that a borrower does not violate (the pari passu) clause by electing as a matter of practice to pay certain indebtedness in preference to the obligations outstanding under the agreement in which the clause appears’ (US Amicus Br. at 12, NML (2d Cir 4 April 2012) (No 12-105-cv (L)). 6 Capital Markets Law Journal, 2017 bondholders to allow Argentina to make such repurchases if the intention of the pari passu clause were to prohibit non-pro rata payments to bondholders. The outcome in the Argentina litigation which interpreted the pari passu clauses to be akin to universal sharing clauses would thus appear to be inconsistent with the long-held understanding of the clause by participants in the credit markets, as well as with the other provisions of Argentina’s bond documentation.25 In the end, it appears that a primary driver of Judge Griesa’s ruling, and the Second Circuit’s affirmance, were the unique equitable factors at play in NML.26 Indeed, a number of commentators have argued that equitable considerations likely had a significant, if not determinant, role in the outcome of the Argentina litigation.27 The Second Circuit court noted that Argentina had been a ‘uniquely recalcitrant’ debtor, failing to abide by international norms governing sovereign restructuring negotiations and instead adopting a unilateral and coercive approach.28 Judge Griesa’s holding, affirmed by the Second Circuit, detailed that Argentina breached its contract with bondholders by its course of conduct and ‘extraordinary behavior’, stating that ‘[t]here is no adequate remedy at law [emphasis added] for the Republic’s ongoing violations ...of the FAA because the Republic has made clear—indeed, it has codified [the Lock Law]— its intention to defy any money judgment issued by this Court’. 29 Accordingly, Judge Griesa’s interpretation of the pari passu clause in the Argentina litigation was viewed widely as a novel way to provide a powerful injunctive remedy. This reading appears consistent with the view of the Second Circuit to affirm a limited, unique, injunctive remedy, holding that ‘[w]e simply affirm the district court’s conclusion that Argentina’s extraordinary behavior was a violation of the particular pari passu clause found in the FAA’.30 Said differently, if the rulings are about equitable remedies—which by definition are specific to the facts in front of the court—the general applicability of the Argentine case may be quite limited.

25 See Philip R Wood, ‘Pari Passu Clauses—What Do They Mean?’ (2003) 18 Butterworths J Int’l Bank & Fin Law 371; G Mitu Gulati and Kenneth N Klee, ‘Sovereign Piracy’ (2001) 56 Bus Law 635. See also Memorandum of Amicus Curiae of The New York Clearing House Association LLC in Support of Motion Pursuant to CPLR 5240 to Preclude Plaintiff Judgment Creditors From Interfering With Payments to Other Creditors, Nos 02-cv-5932 (TPG) and 03-cv-2507 (TPG), Dkt 38. 26 The particular language of the pari passu clause in the Argentina FAA (see above note 14) also lent itself to a holding that payment to other creditors could be a violation of the clause, because it separately referred to the ‘[t]he Securities’ as unconditional and unsubordinated obligations ranking pari passu among themselves and ‘[t]he payment obligations of the Republic under the Securities’ ranking equally with other external indebtedness of the Republic. The Second Circuit’s opinion seized on the distinction, concluding that ‘in pairing the two sentences of its Pari Passu Clause, the FAA manifested an intention to protect bondholders from more than just formal ’. See NML Capital (n 5) at 258–59. While this interpretation is itself open to serious question, other forms of the pari passu or ranking clause (including the revised clause discussed below) do not distinguish between the bonds and the payment obligations under the bonds. 27 See, eg Tomas Araya, ‘A Decade of Sovereign Debt Litigation: Lessons from the NML v Argentina Case and the Road Ahead’ 27 Int’l Bar Ass’n, 5https://www.ibanet.org/Publications/business_law_international_may_2016.aspx4 accessed 26 May 2017; Laura Alfaro, ‘Sovereign Debt Restructuring: Evaluating the Impact of the Argentina Ruling’ (2015) 5 Harv Bus L Rev 47, at 70. 28 See NML Capital Ltd, 727 F.3d. at 247. 29 See Order, NML Capital Ltd v Republic of Argentina, Nos 08-cv-6978 (TPG), 09-cv-1707 (TPG), 09-cv-1708 (TPG) (SDNY 23 February 2012), Dkt 220 at 2; see also NML Capital (n 5) at 264; see also NML Capital Ltd, 727 F.3d at 247. 30 See NML Capital Ltd, 727 F.3d at 247; see also Alfaro (n 27) 47, 70 (stating that ‘[g]iven this unprecedented set of facts, the Second Circuit affirmed the district court’s narrowly tailored, fact-specific equitable remedy’.) Sergio J Galvis Solving the pari passu puzzle 7

Judge Griesa’s decision has recently been put to the test in another case in the Southern District of New York, and the outcome suggests that it is indeed of limited precedential force. In Export-Import Bank of the Republic of China v Grenada, China’s export-import bank claimed that Grenada had violated the pari passu clause of its debt agreement by paying its other creditors while not paying on debt instruments held by plaintiff.31 The court refused to import the equitable relief set forth in the Argentine case to the Grenada case, highlighting the particular facts of Argentina’s conduct that Judge Griesa and the Second Circuit had cited that were not present in the case of Grenada—the Lock Law and various executive declarations.32 Specifically, the court observed that the Second Circuit had not passed upon the question of whether a sovereign’s payment to certain creditors while other debt instruments remained outstanding, absent any kind of invidious executive action such as that taken by Argentina, is sufficient on its own to constitute a breach of the pari passu clause.33 Evidently concluding that more than non-payment is needed to find a breach, the Grenada court concluded that China’s export–import bank failed to establish liability under NML Capital, Ltd. because it did not present facts demonstrating that Grenada undertook a course of conduct similar to Argentina’s. Most recently, in December of 2016, Judge Griesa had the opportunity to elaborate on the scope of his interpretation of the Argentina pari passu clause. After the announcement of settlements in 2016 involving most of the Argentine holdout creditors, certain institutional investors that chose not to participate in the 2005 and 2010 exchanges or the 2016 settlements filed suit seeking damages for non-payment of principal and interest, as well as injunctive relief and money damages for breach of the pari passu clauses.34 The pari passu claims were based on the payments to other creditors stemming from the 2005 and 2010 exchanges, as well as the issuance of bonds in 2014 (issued solely within Argentina in Argentine pesos) and 2016.35 To buttress their claims, plaintiffs identified statements from 2014 by Argentina’s former President, Cristina Kirchner, and Economy Minister Axel Kicillof that purportedly showed an intent to defy the New York court orders, among other steps.36 Judge Griesa held that Argentina’s payments to holdout creditors who participated in a 2016 settlement of claims did not violate the rights of the non-settling investors and that even if the pari passu clause had been breached monetary damages would be barred as duplicative of the damages arising from the failure of Argentina to pay and an injunction would be granted only in extraordinary circumstances.37

31 See Exp-Imp Bank of the Republic of China v Grenada, No 13 Civ 1450(HB), 2013 WL 4414875, at *1 (SDNY 19 August 2013). 32 See Exp.-Imp. Bank of the Republic of China v Grenada, 2013 WL 4414875, at *4 (quoting NML Capital (n 5) at 264). 33 ibid. 34 See White Hawthorne, LLC et al v Republic of Argentina, No 16-cv-1042 (SDNY 2016); Master Fund LP et al v Republic of Argentina, No 16-cv-1192 (SDNY 2016); and Trinity Invs Ltd v Republic of Argentina, No 16-cv-1436 (SDNY 2016); see, eg Amended Complaint, White Hawthorne LLC et al v Republic of Argentina, No 16-cv-1042, at 2–3 (SDNY 22 June 2016), Dkt No 26; Plaintiff’s Opposition to the Republic of Argentina’s Motion to Dismiss Pursuant to Rule 12(b)(6), White Hawthorne LLC et al v Republic of Argentina, No 16-cv-1042, at 4 (SDNY 25 August 2016), Dkt No 40. 35 See ibid. 36 See, eg Amended Complaint (n 34), at 8, 13, 15–16 (SDNY 22 June 2016), Dkt No 26. 37 See Sullivan & Cromwell LLP Client Memorandum, ‘District Court Opinion Limits the Applicability of Previous Pari Passu Decisions in the Argentine Debt Litigation’ (29 December 2016) 5https://www.sullcrom.com/sovereign-debt-litigation-district- court-opinion-limits-the-applicability-of-previous-pari-pasu-decisions-in-the-argentine-debt-litigation4 accessed 26 May 2017. 8 Capital Markets Law Journal, 2017

This ruling, like the holding in Grenada, also seems likely to limit the precedential value of the earlier pari passu decisions issued in the Argentine litigation. Judge Griesa’s opinion noted that ‘the Republic’s November 2015 election of Mauricio Macri ‘‘changed everything’’’ and ‘marked a turning point in the Republic’s attitude and actions’.38 The court also added that the Republic’s ‘extraordinary conduct during its prior administration led this court to find breach of the [pari passu] clause in December 2011.... The Republic’s failure to make scheduled payments on its was part of this conduct, but it was only one element in a complicated set of circumstances’.39 Likewise, Judge Griesa observed that the Second Circuit ‘held that it was the ‘‘combination of Argentina’s executive declarations and legislative enactments’’ and its entire ‘‘course of conduct’’ that constituted breach of the pari passu clause’.40 Judge Griesa clarified that the Republic ‘violated the pari passu clause not merely by being a sovereign nation in default, but by being ‘‘a uniquely recalcitrant’’ debtor’, and specifically denied the plaintiffs’ amended complaint because they ignored the ‘significantly changed circumstances’ of Argentina under the new Macri administration.41 Hence, the court’s own subsequent holding that breach of the pari passu clause alone does not itself give rise to a claim for money damages will likely serve to limit the long-term significance of the court’s and the Second Circuit’s decisions to situations where ‘extraordinary circumstances’ justify requests by creditors for injunctive or other equitable relief.42 In short, even where pari passu clauses in the old style become the subject of future litigation (a risk that remains with respect to a large stock of pre-existing debt), an outcome finding violation of the clause may be unlikely barring similar ‘extraordinary circumstances’, including continued obstinacy by the sovereign in the face of judicial orders. Nevertheless, against the backdrop of this protracted litigation, the market reacted to ‘correct’ the drafting issues that gave rise to the pari passu problems Argentina faced, as discussed below. 3. Revising the pari passu clause and collective action clauses in the sovereign bond context As the litigation in Judge Griesa’s court in New York City played out, market participants returned to the drafting table seeking to improve bond covenants, picking up on the first round of collective action clauses (CACs) developed in 2003, to address the issue of ‘aggregation’.43 Specifically, the 2003 collective action clauses were drafted to allow for changes to be made to bond instruments on a series-by-series basis, but did not eliminate

38 See Op, (n 34) at 5–6 (SDNY 22 December 2016), Dkt No 49. 39 ibid at 5. 40 ibid. 41 ibid at 6. 42 ibid at 7. 43 See Galvis (n 21) at 151–52 (stating ‘US Treasury and other G-10 officials have wisely emphasized that adherence to the status quo is not the only alternative to SDRM, and many of the investors ...have recognized that, through a market-based adoption of CACs, some inefficiencies may be eliminated without unduly impairing creditors’ rights .... The key elements of a workable CAC regime would include provisions allowing a supermajority of bondholders to agree to modification or waiver of essential payment terms or to acceptances of exchange offers, in each case that would be binding on all bondholders.’). Sergio J Galvis Solving the pari passu puzzle 9 the risk that a small number of bondholders could obstruct a whole-debt restructuring process by obtaining a substantial voting bloc in one or more series. Although the bonds at issue in the Argentine litigation did not contain any collective action clauses, market participants recognized that an effort to insulate further other sovereigns’ outstanding debt by revising the clauses then in place was warranted. The enhancements to the collective action clauses ensured that changes could be made to all the bonds if, in aggregate, certain thresholds of consent were achieved, essentially giving the issuer the ability to ‘’ a minority of objecting bondholders of any single series. Thus, in August 2014 the International Capital Market Association (ICMA) released a proposal for enhanced CACs for use in English-law governed bond documents, which would permit amendments to multiple series of debt securities by means of a single exchange offer.44 In addition, a movement developed to clarify at last what a pari passu or ranking clause means in the context of a sovereign borrower. Together with its August 2014 aggregated CACs proposal, ICMA also released proposed revisions to standard ranking clauses, which clarified that a sovereign issuer would have no obligation to effect ratable payments to outstanding holders of other debt upon paying sums due on a particular series of notes.45 The proposed revised standard ranking clause, as discussed below, endeavoured to clarify expressly the obligations of the issuer to parties in the context of ‘ratable’ payments being made to bondholders and other parties. The aggregated CACs and ranking clauses published by ICMA were subsequently revised with the assistance of various representatives from agencies and law firms for use in the New York market, and ultimately were utilized in an issuance of debt adopting such clauses by the United Mexican States (‘Mexico’) in November 2014.46 In both the English law and New York law models, the revised clause remains largely similar to the pre-existing ranking clauses, but the language concerning the payment ranking now contains explicit wording targeted to specifically address the obligations of the issuer to make simultaneous payments to the bondholders and holders of other external debt of the issuer, as follows: ICMA English Law Version: ‘The Notes are the direct, unconditional and unsecured obligations of the Issuer and rank and will rank pari passu, without preference among themselves, with all other unsecured External Indebtedness of the Issuer, from time to time outstanding, provided, further, that the Issuer shall have no obligation to effect equal or rateable payment(s) at any time with respect to any such other External Indebtedness and, in particular, shall have no obligation to pay other External Indebtedness at the same time or as a condition of paying sums due on the Notes and vice versa.’

44 See Standard Aggregated Collective Action Clauses (CACS) For the Terms and Conditions of Sovereign Notes, ICMA (August 2014)5http://www.icmagroup.org/resources/Sovereign-Debt-Information/4accessed 26 May 2017; see, eg International Monetary Fund, ‘IMF Survey: IMF Supports Reforms for More Orderly Sovereign Debt Restructurings’ (6 October 2014) 5http://www.imf. org/external/pubs/ft/survey/so/2014/NEW100614A.htm4 accessed 26 May 2017. 45 See Standard Pari Passu Provision for the Terms and Conditions of Sovereign Notes, ICMA, 5http://www.icmagroup.org/ resources/Sovereign-Debt-Information/4 accessed 26 May 2017. 46 United Mexican States, ‘Prospectus: Debt Securities and Warrants’ 10 November 2014) 5https://www.sec. gov/Archives/edgar/data/101368/000119312514405539/d816959d424b2.htm4 accessed 26 May 2017; see also Anthony Harrup, ‘Mexico Sells $2 Billion in 10-Year Bonds with New Clauses’ Wall St J, 18 November 2014,5http://online.wsj.com/articles/mexico- sells-2-billion-in-10-year-bonds-with-new-clauses-14163552004 accessed 26 May 2017. 10 Capital Markets Law Journal, 2017

New York Market Version (promulgated by Mexico and adopted by ICMA): ‘The Bonds constitute and will constitute direct, general, unconditional and unsubordinated External Indebtedness of the Issuer for which the full faith and credit of the Issuer is pledged. The Bonds rank and will rank without any preference among themselves and equally with all other unsubordinated External Indebtedness of the Issuer. It is understood that this provision shall not be construed so as to require the Issuer to make payments under the Bonds ratably with payments being made under any other External Indebtedness.’47 In the New York market version, the term ‘pari passu’ is no longer used in the provision, removing the spectre of uncertainty surrounding the phrase. Moreover, the drafters effectively addressed the ‘equal payment’ issue that arose in the Argentine litigation by revising the clause to state directly that although the bonds rank equally with other external indebtedness of the issuer, the issuer is not required to ‘make payments under the Bonds ratably with payments being made under any other External Indebtedness’. It remains that an issuer would be prohibited by the clause from issuing unsecured bonds that purport to be senior to the other bonds issued, so the ranking clause still constitutes a covenant of the issuer to not make any supersenior issuance. The incorporation of the revised ranking and collective action clauses into new issuances signals investor acceptance and represents an important long-term advance in providing sovereigns with significantly improved tools for mitigating collective action problems in debt restructuring situations. In particular, by clarifying the language of ranking clauses to be included prospectively in new debt issues, it is anticipated that the creditor holdout effects of the decision in the Argentine case and related contractual uncertainty will be greatly reduced in future debt issuances. The enhanced ranking clauses and collective action clauses have been endorsed by the IMF and other official sector organizations,48 and have proved popular among sovereigns engaging in new international sovereign bond issuances, especially those issuing bonds under English and New York law.49 According to the IMF, from the period of 1 October 2014 to 31 October 2016, there were 228 international sovereign bond issuances.50 Of those, 86% were new issuances issued on a stand-alone basis or under a new shelf registration statement or a new medium-term note programme established on or after 1 October 2014, and 85% of such new issuances included enhanced collective action clauses and most of those also include revised ranking clauses.51 Further, the IMF found no observable pricing impact on bonds that have included these enhanced clauses,

47 See Standard Aggregated Collective Action Clauses (n 44). Note that the original dissemination of the ICMA English law clauses were published in August 2014, then updated in May 2015 and published with the New York market model clauses. 48 See, eg International Monetary Fund (n 44); World Bank Treasury, ‘Sovereign Debt Management Forum 2014: Legal aspects of sovereign issuance in international capital markets’ 5http://treasury.worldbank.org/documents/BREAKOUTSESSION8final_1. pdf4 accessed 26 May 2017; US Department of the Treasury, ‘Statement by Treasury Secretary Jacob J. Lew on Argentina’s Debt Repayment and Return to Global Capital Markets’ (22 April 2016), 5https://www.treasury.gov/press-center/press-releases/Pages/ jl0438.aspx4 accessed 26 May 2017. 49 Euro area sovereigns are required to include a CAC that allows for either a series-by-series or a two-limb aggregated voting procedure. In addition, these sovereigns have generally not included modified pari passu clauses. See International Monetary Fund, ‘Second Progress Report on Inclusion of Enhanced Contractual Provisions in International Sovereign Bond Contracts’ at 4, 5 (January 2017) 5http://www.imf.org/external/np/pp/eng/2017/122716.pdf4 accessed 26 May 2017. 50 See ibid at 3; see also Sonke Haseler, ‘Collective Action Clauses in International Sovereign Bond Contracts—Whence the Opposition?’ (2009) 23 J Econ Surveys 882. 51 ibid at 3–4. Sergio J Galvis Solving the pari passu puzzle 11 indicating that the market has overwhelmingly accepted the enhanced terms in the new instruments.52 Despite this widespread adoption in the sovereign debt markets of the revised CACs since 2014, a significant amount of debt stock of sovereigns does remain outstanding that includes the old-style pari passu ranking clause, as well as single series collective action clauses, or, in some cases, no collective action clauses at all. The IMF notes that the amount of this outstanding stock is slowly declining, and that, overall, 70 per cent will mature within 10 years (although, in the case of New York-law-governed debt, only about 60 per cent will mature within that period). The IMF has also indicated that it is monitoring the market to determine whether liability management represents a viable solution to accelerate the turnover of this outstanding debt stock to one that includes the CACs, and has stated that Mexico had begun to evaluate such a liability management effort ‘to address the outstanding stock issue, which will act as an important indicator of the viability of this approach’.53 Furthermore, the result of the protracted negotiation between the holdouts and Argentina, which resulted in the holdouts receiving a substantially higher payment than the exchange bondholders, will certainly have a significant bearing on sovereigns’ decision to take action with respect to their outstanding stock. Although Judge Griesa’s initial pari passu ruling raised significant fears of a paralytic effect on the functioning of the sovereign debt market in the face of potential holdout creditor risks, subsequent court decisions have helped to reinforce the view that the equitable holding in favour of the holdouts in the Argentine saga is a narrowly prescribed outcome that is unlikely to be repeated absent extraordinary circumstances. These court developments, along with the market’s efficient responses to adopt changes to standard market language and, in the future, to engage in liability management transactions with respect to outstanding debt stock, have brought greater certainty to market participants and should serve to facilitate efficient restructurings in the future without the need for extra-contractual restructuring mechanisms and remedies.

52 ibid at 5–6. 53 International Monetary Fund, ‘Progress Report on the Inclusion of Enhanced Contractual Provisions in International Sovereign Bond Contracts’ at 14 (September 2015) 5http://www.imf.org/external/np/pp/eng/2015/091715.pdf4 accessed 26 May 2017.