Exit Consents in Sovereign Bond Exchanges

Abstract

The external debt of emerging market sovereign borrowers is now mainly in the form of bonds held by thousands of institutional and individual bondholders. Many of these bonds are governed by the law of the State of New York. As a matter of drafting convention, New York law-governed bonds for sovereign issuers prohibit amendments to the payment terms of the instruments (the amount and due dates of payments) without the consent of each affected bondholder. If a sovereign issuer finds it necessary to seek a restructuring of its bond indebtedness, it must therefore implement the restructuring by offering to exchange its old bonds for new debt instruments that reflect the new financial terms; a technique that inevitably risks leaving behind "holdout" creditors who may refuse to accept the proposed restructuring. Holdouts pose a litigation threat to the sovereign and may even jeopardize the sovereign's ability to service the new bonds it has issued to the other creditors participating in the exchange. A number of ideas - ranging from international bankruptcy codes to IMF-administered stays of creditor legal remedies - have been suggested as a means of dealing with the holdout creditor threat. This article suggests a less radical alternative: allowing the majority creditors to use the amendment clauses in their existing bonds to change certain non-payment terms contained in those bonds (such as financial covenants or waivers of sovereign immunity) as a means of encouraging prospective holdouts to participate in the exchange. Because the sovereign issuer solicits the consent of its creditors to amend the old bonds just as those lenders exchange their bonds for the sovereign's new debt instruments, this technique is referred to as an "exit" consent.