IN PRACTICE

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Authors Jamie Logie and Chris Howard natural resources projects in the emerging markets: features and challenges, part 2 KEY POINTS ––Maintaining a good relationship with host governments is crucial for project sponsors concerned that a project’s commitments operating in emerging markets. to local employment and procurement –– will often require the appointment of a chief restructuring officer (CRO) – (as well as to welfare, health, local these appointments are by no means straightforward for a natural resources project. business, education and other social and ––Potential third party buyers and new money funding options present challenges for environmental initiatives) are complied with. sponsors and lenders alike in this complex landscape. Although some of the expenses related to these initiatives may not at first appear to COUNTRY SPECIFIC ISSUES natural resources that may be considered to lenders to be vital operating costs, in reality A natural resources project in the be key to the national interest. Furthermore, compliance with commitments of this n emerging markets will be dependent, a change of government since the relevant kind may be important not only to ensure often to a great extent, on the sponsor’s/ concession was awarded may have resulted in compliance with lender environmental developer’s relationship with the host a government that is less sympathetic to the and social policies and related borrower government. Obtaining the licenses/ project than was the case at the time of the covenants in the debt documents, but concessions for exploitation of a natural initial award. An unsympathetic government could also be vital to the continued resource asset in the host country may have becoming aware of financial problems for validity of the relevant concession (either taken many years of careful negotiations. a project may be more inclined either to explicitly in undertakings set out in the As the value of the project will be consider expropriation, or perhaps to revisit concession terms, or implicitly through the dependent on the key licenses, and as the original award of the concession and maintenance of important goodwill with transfers are likely to require government look for reasons (allegations of incorrect national or regional government and the approval (specific or implicit, and possibly procedures, and worse) to review and local community more generally). even for transfer of ownership of the project at a level above the in-country project company/borrower), the lender bargaining ‘A change of government since the relevant power linked to potential enforcement concession was awarded may have resulted in a and sale of the business will lack teeth if the government is not supportive of government that is less sympathetic to the project’ their actions. Depending on the nature of the relationship of the sponsor with perhaps withdraw the original concession. Beyond the issue of the licenses/ the government, lenders may encounter a A government acting in this way may be concessions, local law issues will come under reluctance by the government to approve inclined to try to transfer the concession to scrutiny by lenders as they consider their enforcement of asset security or a transfer a developer more in favour with the regime options. An emerging market jurisdiction of ownership more generally. Of course, at this time and who might be able to pay may not have highly developed this issue may be overcome in time if a a higher tariff as it has not had to incur or security enforcement laws. As a result, strong alternative sponsor with a good historical capital expenditure. Both debt various usual lender options, for example relationship with the government steps up and equity will be exposed to enhanced an agreed pre‑insolvency restructuring and shows interest, or if the economics of political risk of this kind, and discretion and arrangement or pre‑pack, appointment the concession are renegotiated in a manner confidentiality in respect of the restructuring of receivers/administrators or similar acceptable to the government. process will therefore be key, particularly insolvency officers, enforcement of in- It would be naïve to assume that all when dealing with the government and country asset security and sale of the project natural resources projects are located government related agencies and companies. assets, may not be a viable or practical in jurisdictions with a benign and open As would be the case in any country, option. A complex and untested court approach to private sector investment in relevant government bodies will be process may be required (especially if there

Corporate Rescue and Insolvency April 2016 73 In Practice IN PRACTICE IN

is no clear legal mechanism for navigating company holds an individual out as being a generally result in vulnerability to negative junior or dissenting creditors through a director, whether the individual uses the title, perceptions from key offtakers/buyers, or a comparable whether an individual has access to board contractors, suppliers and employees. cram-down), and legal recognition of priority level information and whether the individual There may be enhanced risk in this regard of claims of different levels of creditors may makes major decisions). A potential CRO for a natural resources project, particularly be far from certain. Generally, bringing may have more concerns than usual in in a remote location, as it could have limited insolvency proceedings in‑country may lead accepting an appointment of this kind. scope to find alternative key contractual counterparties and employees (for example, skilled mining and or/and oil and gas ‘Generally, bringing insolvency proceedings professionals willing to work in emerging in‑country may lead to significant uncertainty as economies remain in short supply). Such an appointment may also create enough unease to outcome’ in the market to undermine any M&A ‘rescue’ process initiated by the sponsors, possibly at to significant uncertainty as to outcome. The prospective CRO appointment will the instigation of the lenders, and could also A well-structured project financing will be occurring in the context of a more limited compromise a potential equity raise. probably have ensured alternatives through pool of potential CROs than may be the case As a matter of English law, and in use of offshore security (for example charges for other businesses. Finding a candidate various other common law jurisdictions and pledges over shares in an offshore with suitable industry and regional (including Australia, New Zealand, holding company), but the palette of lender experience may not be straightforward, Singapore and Ireland), there is a risk contingency options may be much more and current sponsor senior management is that lenders to a distressed borrower may, limited than lenders would like or might likely to be uneasy about the introduction of directly or particularly through the use of a at first assume to be the case given the a new person to sensitive discussions with CRO operating to an extent on the basis of constraints of the concession agreements government officials, contractors, suppliers instructions from them, be acting as shadow and in particular the effects of a change of and buyers with whom they may have directors. To illustrate the point, under control. spent many years developing and nurturing English law, a shadow director is a person or relationships. body corporate ‘in accordance with whose CROS’ AND DIRECTORS’ DUTIES In the context of the appointment directions or instructions the directors of a There has been an increasing trend of a CRO, it is important not to understate company are accustomed to act’ (s 251 of the for creditors to insist that a specialist the key role of the project’s management Companies Act 2006 (CA 2006); turnaround professional (in the role team in the prospects for success or failure s 251 of the (IA usually known as chief restructuring of the troubled project. Lenders will need 1986); s 22(5) of the Company Directors officer or CRO) should be appointed by the to be careful that the scope of the CRO’s Disqualification Act 1986) – excluding distressed . This may, but will not appointment does not undermine the those advising in a professional capacity necessarily, be a board level appointment. existing management to the point where they only. Therefore, if the scope of the CRO’s The appointment of a CRO could well be choose to leave at a crucial juncture in the appointment provides the CRO with enough a requirement of continued support by life of the business, perhaps also bringing power to influence decisions of the board and lenders to the distressed project. a claim for constructive dismissal. The the lenders are granted too wide a power to The legal and practical implications of spectre of constructive dismissal of executive instruct the CRO, then whether or not the this are generally not unique to an emerging management has loomed large in number of CRO is actually appointed to the board, the market project restructuring. However, given recent high profile . lenders may be at an elevated risk of being the potentially enhanced risks to directors For a sponsor that is a listed company, the shadow directors. This risk may be further of a distressed natural resources company, appointment of a CRO will usually require enhanced in a natural resources restructuring as discussed below (additionally, whether or an announcement. For instance, under where the location and nature of the project, not the appointment is at board level), the Chapter 9 of the UK Listing Rules and under perhaps combined with the lack of specialist CRO may well become a de facto director or the NYSE Listed Company Manual, the restructuring experience in the lender group shadow director with attendant duties and appointment of a CRO to the board, or any as noted above, may result in a request for the responsibilities. Which category the CRO appointment that therefore alters the roles CRO to have considerably more influence falls into is fact dependent. For instance, of the board, must be announced. As will be and more direct and frequent lines of in Secretary of State v Tjolle [2010] UKSC the case with any disclosures or leakages that communication with creditors than is usual. 51, Jacob J stated that factors indicating a indicate financial difficulties, this may result Given that the duties of a shadow de facto directorship include whether the in concerns at host government level, or more director align to those of an ‘actual’ director

74 April 2016 Corporate Rescue and Insolvency IN PRACTICE Biog box Jamie Logie is head of Sullivan & Cromwell’s EMEA projects practice. He has 30 years’ In Practice experience of international legal practice, all focused on project, asset and other finance and development work. Email: [email protected]. Chris Howard heads Sullivan & Cromwell’s European restructuring practice. A leader in cross-border restructuring and finance, he advises across a multitude of jurisdictions in Europe, the Middle East and the Americas. Email: [email protected] under English law (s 170(5) of the CA fiduciary duty to protect creditors’ interests. above assumes that the relevant commodity/ 2006 providing that the director’s general If the directors cannot satisfy product prices are not in permanent decline, duties, as set out in ss 171-177 of the CA themselves that there is no reasonable and there may therefore be significant 2006, apply to shadow directors), lenders prospect of avoiding an insolvent winding upside value in the project in an improving potentially acting as shadow directors up, on the basis that this is the stage where commodity price environment. This will, like the sponsor’s directors, run the the directors’ duty to act in the best may result in shareholders (institutional, risk of undertaking wrongful trading by interests of the members of the company specialist funds or others) subscribing for the business. In an English law context, switches to a duty to act in the best a rights issue, either to fully deliver the personal liability for wrongful trading interests of the creditors (s 170(3) of the project, or at least to bring the debt structure carries risk under s 214 of the IA 1986 in CA 2006 provides that the duty to act in to a sustainable level. circumstances where: (i) a company has the best interests of the company is subject Shorter term funding to bridge the gone into insolvent or insolvent to any rules which require the directors to period before a sale or market pick-up may ; (ii) at some time before act in the interests of the creditors, such as be available through factoring/receivables the commencement of the winding up or s 214 of the IA 1986 wrongful trading discounting facilities, which are often insolvent administration of the company, provisions), then the implications for permitted under suitably flexible debt a director at the time (including a de facto all stakeholders (creditors, shareholders incurrence covenants in project finance director or shadow director) knew or and others) are likely to be particularly terms. ought to have concluded that there was no traumatic. It will not be straightforward for Other potential short and longer reasonable prospect that the company would a new operator to take over the operations term funding options may exist: avoid going into insolvent liquidation/ of a natural resources project, given specialist infrastructure funds, suppliers/ administration; and (iii) that director (after satisfying the condition in (ii)) failed to take every step with a view to minimising the ‘... lenders potentially acting as shadow directors potential loss to the company’s creditors. will, like the sponsor’s directors, run the risk of Similar rights exist under many potentially relevant jurisdictions, for undertaking wrongful trading by the business’ example, the Netherlands, Singapore, Brazil and Australia and others. This is a risk that location, technical, market, environmental buyers (perhaps by way of forward sale has to be carefully considered especially and other risks, at least without extensive arrangements for products) and other where the prolonged trading has eroded the diligence. strategic investors and offtakers may be liquidity of the project company and it finds considered. Ultimately, bearing in mind the itself unable to fund any safety or other de- POTENTIAL BUYERS, NEW EQUITY somewhat illiquid nature of a businesses commissioning costs. AND STRATEGIC INVESTORS of this kind and the imperative to keep Although these risks are obviously by If there is a prospect of sale of the project operations going to salvage value for investors no means unique to a natural resources to a third party buyer, particularly one and creditors and to avoid a total write-off of project, they may be increased by some of the that may commit to repay project debt or their indebtedness, certain existing project unique operational aspects of a business of ensure significant deleveraging, lenders are lenders may be willing to consider making this kind. In addition to the usual essential of course likely to put significant pressure new money funding available to the project, operating costs to keep the project going on the sponsor to pursue this option. probably at ‘super senior’ level of priority (fuel and other input costs, salaries, local This will introduce one or more third compared to existing debt and almost taxes and royalties and similar), others parties to the restructuring process, with certainly on more restrictive terms than may at first appear more discretionary. For implications both for timing and deal terms applied to the original project financing. example, some of the costs related to social (for example, introduction of conditions and environmental initiatives noted above, regarding deleveraging/debt repayment CONCLUSION and perhaps local security measures, may in that are deemed to be acceptable to Although the range of issues relevant reality be essential to maintain operations lenders). If the sponsor is a public company, to any restructuring may apply to a (perhaps by helping to keep the required this may require occasional consultation distressed natural resources project, our licenses or concessions in good standing). with the relevant takeover panel or other experience has repeatedly shown that the Policy lenders are also likely to insist that financial regulatory body, particularly if various features highlighted above make it expenses of this kind are met. Directors will restructuring terms could impact the terms a different proposition that presents certain therefore need to balance the need to meet of the proposed offer. unusual, and sometimes unique, challenges. crucial expenses as they fall due and their Of course, much of the process described n

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