Emerging Markets Investing: When Domicile, Choice of Law Are Vulnerable

A recent decision by a New York bankruptcy court, In re OAS S.A., 533 B.R. 83, granting recognition of foreign proceedings pursuant to Chapter 15 of the Bankruptcy Code, established precedent for an emerging debtor that seeks insolvency relief locally to impose the local insolvency framework upon its financing affiliate, despite reliance upon a different jurisdiction for domicile and choice of law to enable such affiliate to raise capital from U.S.-based investors. While financing affiliates have a function that is distinct from the business of the enterprise operating in the emerging market, one could argue that financing is a business, particularly when the affiliate raises hundreds of millions of dollars. Moreover, it may be likely that the financing business could not function in many emerging markets due to the perceived failure of the legal regime in such jurisdictions to protect investors adequately. Yet, in OAS, the recognition decision may prefer local creditors through relying upon Chapter 15 to impose the rules of the local regime on the financing affiliate and its noteholders, although that entity and its noteholders intentionally relied upon a different issuer domicile and choice of law to facilitate raising capital The recognition decision occurs early in the proceedings. Indeed the decision to recognize the emerging markets jurisdiction occurs before a plan or proposed treatment of such noteholders is known, but will nevertheless enable enforcement of the emerging market court’s determination upon noteholders that invested in notes governed by New York law. It remains to be seen whether the local insolvency proceeding will injure the financing affiliate and its noteholders.

Background

In OAS, the foreign representative sought recognition pursuant to Chapter 15 of the Bankruptcy Code of the pending Brazilian foreign proceedings of three affiliated debtors—OAS S.A., the holding company, OAS Investments GmbH, the financing affiliate, and Construtora OAS S.A., one of the operating companies. Each of OAS and Construtora are guarantors of notes issued by Investments.