Third-party releases, particularly releases of non-debtor affiliated guarantors, are commonly a critical feature of a successful cross-border restructuring. In U.S. restructurings, where New York law typically governs the arrangements among a borrower, its lenders/noteholders and its guarantors, the restructuring or release of the primary obligor does not, without more, result in the restructuring or release of the guarantors’ obligations in respect of the guarantees. For this reason, in U.S. Chapter 11 cases, the debtor entities that file may include both the primary obligors and a plethora of affiliated guarantors.
Treatment of third-party releases outside the U.S.
Outside the U.S., by contrast, the rules may be (and indeed often are) very different. Under English law, for example, when the English court orders the release of the primary obligor that has filed a scheme of arrangement, the court will typically order as part of the scheme that the creditors also release the guarantees, even though the guarantor companies have not filed. The rationale underlying the English approach is that the failure to release the guarantors would, if creditors claim under the guarantees, result in ‘ricochet’ subrogation claims by the guarantors against the primary obligor, thus undermining the restructuring of the primary obligor.
In cross-border restructurings, the debtor’s ability to obtain recognition and enforcement in the U.S. of the third-party releases incorporated in its non-U.S. restructuring plan, and approved by the non-U.S. court having primary jurisdiction over the restructuring, will often be critical to the success of the cross-border restructuring. To facilitate such recognition and enforcement in the U.S., the debtor will typically file a case under Chapter 15 of the U.S. Bankruptcy Code (concerning ancillary and cross border restructurings) for the express purpose of obtaining recognition and enforcement by the U.S. bankruptcy court of the non-U.S. restructuring proceeding, the restructuring plan and the third-party releases incorporated in the restructuring plan.
New York bankruptcy court has customarily approved third-party releases in restructurings that enjoy very substantial creditor support
As a preliminary matter, it is worth mentioning that, even in Chapter 11 cases, the bankruptcy courts throughout the U.S. take varying approaches when considering whether to approve third-party releases. Under appropriate circumstances, such releases may be approved within the Second, Third and Sixth Circuits, whereas the Fifth, Ninth and Tenth Circuits generally do not permit third-party releases in Chapter 11 cases.
For the past several years, the U.S. Bankruptcy Court for the Southern District of New York (the “Bankruptcy Court”) has permitted third-party releases in the context of Chapter 15 cases where it has been shown that the non-U.S. restructuring has very substantial creditor support (excluding votes cast by insiders). See In re Agrokor, 591 B.R. 163 (Bankr. S.D.N.Y. 2018) (78.52% support); In re Avanti Commc'ns Grp. PLC, 582 B.R. 603 (Bankr. S.D.N.Y. 2018) (98% support); In re Metcalfe & Mansfield Alternative Invs., 421 B.R. 685 (Bankr. S.D.N.Y. 2010) (96% support).
What if there is not overwhelming creditor support? Will the Bankruptcy Court approve the third-party release?
In In re PT Bakrie Telecom TBK, Apr. 15, 2021 (Case No. 18-10200) (SHL) (Bankr. S.D.N.Y.), concerning an Indonesian restructuring, the Bankruptcy Court set forth the ground rules for the approval of third-party releases in a Chapter 15 case where such releases are contested and the non-U.S. restructuring did not enjoy overwhelming creditor support. In Bakrie Telecom, the foreign representative sought Chapter 15 recognition of Bakrie’s Jakarta PKPU insolvency proceeding (the “Indonesian Proceeding”) before the court in Indonesia (the “Indonesian Court”) as well as enforcement of the Indonesian Court-approved debt restructuring plan (the “Indonesian Plan”), which included third-party releases. The dispute in Bakrie related to $380 million in New York law governed notes that had been issued by a wholly-owned subsidiary of the debtor (the “Issuer”), and guaranteed by the debtor and certain of its subsidiaries. Certain noteholders (the “Objecting Noteholders”) had brought litigation (the “New York Litigation”) in New York state court against the Issuer and the subsidiary guarantors with respect to the notes. The Indonesian Plan was approved with 94.6% of total unsecured claims voting in favor. However, 56% of the total unsecured claims had been voted in favor of the Indonesian Plan by the Issuer -- over the objections of the indenture trustee for the notes and the Objecting Noteholders, who contended that the indenture trustee had the exclusive right to vote those claims and who would have opposed the plan. Other creditors holding 38.6% of total unsecured claims approved the Indonesian Plan. See Bakrie at 10. The third-party releases at issue in Bakrie were controversial because, if enforceable in the U.S., they would effectively end the New York Litigation against the Issuer and the subsidiary guarantors.
While the Bankruptcy Court granted recognition of the Indonesian Proceeding as a foreign main proceeding with little trouble, the third-party releases were more problematic. The Bankruptcy Court held that in deciding whether to extend comity to enforce the Indonesian Plan, it had to consider whether the Indonesian Proceeding abided by “fundamental standards of procedural fairness as demonstrated by a clear and formal record.” Bakrie at 28 (emphasis added). The Bankruptcy Court found that the record did not adequately speak to the following:
- whether or how the Indonesian Court in the Indonesian Proceeding considered the rights of creditors when considering the third-party releases;
- how the third-party releases were presented to the Indonesian Court for consideration;
- whether any creditors were heard or had the ability to be heard as to the third-party releases; and
- an explanation as to the justification for the third-party releases.
See Bakrie at 37.
The Bankruptcy Court in Bakrie was careful to explicitly state that “the releases in a foreign proceeding subject to Chapter 15 need not be identical to those that a U.S. court would endorse in a Chapter 11 case.” Bakrie at 40. Nevertheless, the Bankruptcy Court expressly held that “to grant comity to the [Indonesian] Plan and its third-party release, there must be at least a rudimentary record in the foreign proceeding as to the basis for such releases and procedural fairness of the underlying process.” Bakrie at 41. Although the Bankruptcy Court refused to recognize and enforce the Indonesian Plan based on the record before it, the Bankruptcy Court stated that the parties were free to return to the Indonesian Court to further develop the record on these issues.
Bakrie should not be viewed as a departure from the line of cases in which third-party releases were recognized and enforced in Chapter 15 cases, but rather as an instruction manual for foreign representatives seeking approval of third-party releases and what they should make certain to include and develop in the record of the non-U.S. restructuring proceeding. Such instruction manual takes on even greater significance in circumstances where the non-U.S. restructuring does not enjoy overwhelming creditor support.