Argentina faces the perfect storm, again
The covid-19 pandemic has paralysed the world economy. Companies are in survival mode, but also need to make plans for the day after. Marval O'Farrell Mairal M&A partner Ricardo Beller recalls the different paths companies followed to overcome Argentina’s prior crises and considers their value today.
You would imagine a perfect storm is a once-in-a-lifetime event. Not in Argentina. In recent decades companies in Argentina have struggled through recurrent emergencies, which have occasionally been interrupted by periods of growth and stability. The adversities have included high inflation, prolonged recessions, devaluations, “pesifications”, sovereign defaults, debt restructurings, foreign exchange restrictions, excessive taxation and government interventionism, among other problems. The good news is that many companies have learned how to overcome these situations, and several of them even managed to grow.
The perfect storm this time includes most of the same problems, now exacerbated by a global pandemic. Since 2018 Argentina has been facing an escalating devaluation of the peso, an increase in inflation, a recession and a capital flight alongside a rapid decrease of Central Bank reserves. These conditions were aggravated after the primary elections in August 2019, which among other effects forced then-President Mauricio Macri’s administration to declare a “reprofiling” of the maturities of certain treasury bills. President Alberto Fernandez took office in December 2019. His administration initiated the restructuring of sovereign debt, which has not yet closed. Then in March 2020 the coronavirus arrived, which required health and social-distancing measures to control its spreading. All these unsolved problems make the post-pandemic political, social and economic outlook very unclear in Argentina.
In survival mode
One of the most damaging elements of this very fluid situation is uncertainty. The nature of the pandemic makes it impossible to know when the economy might return to normal, or to a “new normal,” whatever that will be, putting the financial health of companies at serious risk.
Argentine courts are closed due to the quarantine, with few exceptions that do not include those that oversee bankruptcy filings. Emergency decrees and resolutions have been passed to give debtors’ time to deal with the crisis, including temporary suspensions of precautionary measures and enforcement proceedings. Once courts reopen, an avalanche of bankruptcy filings is expected.
To protect workers’ jobs, in December 2019 the government ordered double severance payments to be made, a measure that has been extended until December 2020. Upon the appearance of covid-19 in March 2020 the government completely prohibited dismissals, including in the case of companies that were forced to stop activities, until the end of July 2020 (which will probably be extended). The government offered some support in the form of loans, subsidies of up to 50% of employees’ salaries, and partial exemptions of social security contributions, among others. Several tough labour unions became more flexible and accepted the suspension or lowering of salaries, but payroll is still a heavy load for companies that have very reduced or no income at all.
Planning the post-pandemic strategy
Debtors and their creditors cannot effectively analyse available solutions if they do not know the extent of the problem, including how long social distancing measures will continue, when business activities will resume and what future cash flows and debt they will have.
After Argentina’s 2001 crisis companies in the same industry generally restructured their debt in similar terms. This made it possible to eventually predict restructuring outcomes according to the industry of the debtor. This will probably occur this time too, as companies in the same industry will be similarly affected by the pandemic.
A positive feature of this crisis is that the pandemic has not led to a destruction of assets, as would occur in natural disasters or in a war. Once activities restart, the facilities and equipment required to produce goods and services will be available and ready to go.
What might be a problem, however, is if productive assets become tangled in legal claims. Uncertainty as to ownership of assets resulting from attachments or bankruptcy filings, or the creditworthiness of a business due to potential liabilities caused by legal claims, would be a burden that could slow down recovery.
Once there is light at the end of the tunnel and the debtor can assess the situation, it will need to determine if: (a) it will undergo an M&A or corporate reorganisation transaction, or (b) it should restructure its debt, which could include a court filing of a restructuring proceeding; or (c) it should file for bankruptcy.
M&A or corporate reorganisation
There are many reasons for which a company may decide to implement an M&A or corporate reorganisation transaction. Companies may need to sell certain business units to finance debt and restructure their core business, issue stock to inject capital, or reposition themselves through a strategic alliance or purchase. Many companies may need to adapt not only to their post-pandemic financial situation, but also to a new way of operating and doing business in the future.
There will probably be multiple distressed M&A transactions in Argentina. Purchasing a company at a fire-sale price is a powerful incentive for buyers, but it may also be attractive to a seller if that allows it to avoid the closure of the business, firing employees, negotiating with creditors or facing judicial claims that may have unwelcome outcomes.
A “debt-for-equity” swap is another alternative to overcome an insolvency crisis. However, it is unlikely to succeed without the support of the debtor’s controlling shareholders. At the time of the 2001 crisis restructurings, many creditors argued that since they were required by the debtors to “share the pain”, they should also be allowed to “share the gain” if the debtor successfully overcame its insolvency. Creditors requested to receive equity or convertible bonds in exchange for their credits. Their attempts were generally unsuccessful as controlling shareholders were reluctant to lose or even share control. They successfully pushed back, relying on the fact that their continued cooperation in management was a key element to allow the restructuring to be successful. Foreign creditors also found they lacked the leverage that the “absolute priority” rule grants them in other jurisdictions.
An interesting feature that unlocked negotiations on this issue and allowed creditors to “share the gain” without the debtor’s shareholders losing control were the “equity kicker” coupons. These consisted of additional interest that would be paid to holders of restructured bonds in the event the debtor company’s listed stock increased in value during a certain period after the restructuring was completed.
Debt restructuring alternatives will depend on the types of debt. If the debtor has a significant portion of privileged creditors, such as labour and fiscal debt, or productive assets that are encumbered by mortgages, pledges or other liens for the benefit of preferred creditors, it will need to prioritise restructuring those debts. Employees and fiscal authorities may be willing to make concessions to allow the company to continue to operate and pay salaries and taxes. Preferred creditors may also find value in collecting their credit under restructured terms, as opposed to eventually collecting the proceeds of a foreclosure of the encumbered assets.
If the debt to be restructured is unsecured, there are several alternatives available. In order of preference, these generally are: an out-of-court restructuring agreement or exchange offer; an out-of-court agreement approved under an Acuerdo Preventivo Extrajudicial (APE) procedure; or a concurso preventivo (equivalent to Chapter 11 of the US Bankruptcy Act).
The above would not apply to debt restructurings of companies in activities that are governed by special insolvency proceedings, such as financial institutions and insurance companies.
Finally, when determining a course of action companies should consider whether they may be subject to government intervention or expropriation. The most recent example of a company in this situation is Vicentin, an agricultural company that filed for concurso in December 2019 and is being considered for government intervention or expropriation, which would override in the authority of the judge of the concurso proceedings. The Vicentin case would be in line with policies of past Kirchner administrations that intervened in certain insolvent companies (eg, Transportadora de Gas del Norte, Metrogas and Autopistas del Sol), as well as expropriated others (eg, YPF, Aerolíneas Argentinas, Aguas y Saneamientos, and Correo Argentino).
(i) Out-of-court restructuring
In this case, the debt restructuring is implemented solely by an out-of-court debt restructuring agreement entered into by the debtor and its creditors. If the restructured debt consists of publicly offered bonds, the debtor would need to conduct a tender offer to exchange these for new bonds, complying with applicable securities regulations.
The holdouts will preserve their rights to bring legal action against the debtor, including the right to petition for involuntary bankruptcy. Therefore, for this alternative to be effective, the portion of debt that is restructured needs to be substantial enough to allow the debtor to finance payment to, or continue litigating against, holdout creditors.
(ii) Acuerdo Preventivo Extrajudicial (APE).
If the debtor company is not able to reach the critical mass required for a successful out-of-court restructuring, the next option would be for it to resort to an APE.
The APE is a procedure by which an out-of-court debt restructuring agreement becomes enforceable against all unsecured creditors, including those who did not consent to, or voted against, the agreement. Two basic requirements need to be complied with in an APE: the restructuring agreement must obtain the consent of a double majority of unsecured creditors, which consist of (i) more than 50% of all unsecured creditors, determined on a “per capita” basis, plus (ii) at least two-thirds of the aggregate principal amount of such unsecured creditors; and (b) a court must validate the agreement.
Once the APE majorities are obtained, the executed debt-restructuring agreement is filed with the court together with a dossier of documentation that mainly refers to the financial situation of the debtor. The court will confirm compliance of the APE majorities and other formal requirements and conduct a limited review of the substantive terms of the restructuring agreement, including any contest filed by non-consenting creditors, which may be made on very limited grounds. Upon court validation, the debt restructuring agreement becomes enforceable against all unsecured creditors.
It is worth noting that in the 2001 crisis restructurings, the APE’s validity was confirmed not only by Argentine courts, but also by foreign courts. The New York courts ruled in several cases that the debt restructuring agreements approved under an APE proceeding were enforceable in the US under the terms of section 304 (currently Chapter 15) of the US Bankruptcy Law (In re: Telecom, Multicanal, and Cablevisión, among others).
(iii) Concurso preventivo
The debtor may be forced to file a concurso to convert an involuntary bankruptcy petition filed by creditors, or if it needs a stay to facilitate the restructuring of debt of privileged creditors or to protect it from judicial claims or if it is unable to timely obtain consent for a restructuring plan that allow it to file an APE.
The concurso is like the APE in that it requires the same majorities to approve a restructuring plan, which once approved will become enforceable against all unsecured creditors. However, it is more complicated, costly and time-consuming than an APE. It is an in-court restructuring that will require greater judicial intervention and the appointment of a receiver to verify credits that will be admitted. Therefore, in general, both from the creditors’ and debtor’s point of view, it would be last in the order of preference compared to a direct exchange and an APE.
Bankruptcy is an outcome that generally neither the debtor nor its creditors prefer.
However, if the debtor has a significant amount of debt that would take it many years to pay even under restructuring terms, and especially if it does not have valuable assets it would prefer to preserve, such as a plant, production facilities, equipment or a valuable brand, then it might as well file for bankruptcy and start a new company with a clean slate.
We cannot think of a better example of "force majeure" than that of a company unable to pay its debts due to prolonged inactivity. Neither the directors of corporations, nor the shareholders or owners of any business may be held liable for the loss of revenues caused by the pandemic, nor should they suffer the stigma associated with a bankruptcy filing. However, a cautionary “red flag” should be raised related to directors’ liability in the case of companies that have informal employees not registered to make social security payments, as several labour courts have admitted actions of these employees against directors and held them jointly liable for severance payments, including fines.
This could be one of the most perfect storms so far. It may be an opportunity for leaders to find pragmatic solutions that allow Argentina to set a more stable and prosperous long-term course. Or it may just be another crisis that tests the resilience of companies and provides war stories to their lawyers.