Luiz Fernando Valente de Paiva is a partner at Pinheiro Neto Advogados and focuses his practice on corporate reorganisation, bankruptcy and extrajudicial reorganisation; debt recovery and renegotiation; and litigation in general. Mr Paiva was a member of the Joint Ministerial Committee that helped draft the final wording of the Brazilian Bankruptcy Law. He holds an LLB degree in Commercial Law from the São Paulo Catholic University (2009) and an LLM from Northwestern University (2016). He taught at Brazilian universities and co-coordinated courses on insolvency for members of the judiciary branch and of attorney-general’s offices. Mr Paiva is board member of TMA Brasil (founder and current chairman). Mr Paiva was awarded as the Best Insolvency & Restructuring Lawyer in Brazil by the Client Choice Awards 2018 held by Lexology. Mr Paiva is recommended by publications such as Chambers and Partners (Band 1), PLC Which Lawyer, The Legal 500 (Leading Lawyer), Best Lawyers (Lawyer of the Year 2018) and was referred as ‘one of the world’s leading practitioners’ by Who’s Who Legal (2011) and recommended by Expert Guides.
Bruno Ferreira Carriço is a senior associate at Pinheiro Neto Advogados and focuses his practice on corporate reorganisation, bankruptcy and extrajudicial reorganisation; debt recovery and renegotiation; and litigation in general. Bruno has a MBA degree from Insper and a LLB degree from the University of São Paulo. Bruno has worked in several high-profile and cross-border cases including the judicial reorganisation of OAS Group, OGX Group, PDG, and the out-of-court reorganisation of Isolux Group.
GTDT: In the last year, have you seen any developments or trends in the nature and volume of insolvency filings?
Luiz Fernando Valente de Paiva and Bruno Ferreira Carriço: Although the official data has not been released as of the time of writing, our experience was that the number of insolvency filings in 2018 was similar to the 2017 number. After setting successive records from 2012–2016, the market seems to be more stable now.
Notably, 2018 saw businessmen refraining from making investments or restructurings decisions due to the uncertainty over the outcome of the Brazilian elections. The two best-positioned candidates during the campaign were from totally opposed directions. Thus, 2018 was perceived as a year of transition in which people decided not to take further risks.
It is worth mentioning, however, that some sectors such as publishing and retail are seeing a rise in the number of distressed circumstances. Very traditional companies such as Editora Abril, Livraria Saraiva, Livraria Cultura/FNAC resorted to judicial reorganisation filings in 2018. This seems to be a result of the cultural change in the way that our society buys and reads books and magazines. Also, this should be a warning sign to other traditional markets that may need to adapt to the change of culture heralded by new technologies and the new lifestyle of our society.
GTDT: Describe the one or two most notable insolvency filings in your jurisdiction in the past year.
LFVP & BFC: Although filed in June 2016, the judicial reorganisation of the Oi Group is still ongoing and confirmation of the approval of its reorganisation plan in 2018 was probably the most notable insolvency related event in Brazil’s insolvency history (including 2018).
Oi is one of the biggest telecom services providers of Brazil. Among others, Oi provides mobile and landline telephone services, broadband, cable TV, data transmission and internet services. According to its website, Oi has more than 60 million clients, including individuals and legal entities.
At the time of the filing, the Oi Group had approximately 65 billion reais pre-petition debt owed to more than 55,000 creditors located in Brazil and abroad. The Oi Group also filed for Chapter 15 before the Bankruptcy Court of the Southern District of New York, in addition to other insolvency proceedings in the United Kingdom and the Netherlands. It is the largest judicial reorganisation ever filed in Brazil and one of the largest restructuring proceedings currently ongoing globally. The vast majority of the debt was due to international bondholders (more than US$10 billion).
Our firm advised the Ad Hoc Group of Bondholders and Backstoppers of a certain capital increase through the entire restructuring process. The Ad Hoc Committee of Bondholders represented by our firm was the largest organised group of creditors and played a prominently role in ensuring a consensual, fully funded plan of reorganisation in a heavily litigated and contested case in Brazil, the United States and the Netherlands. There were several innovations in the transaction, including:
- the successful use of litigation led by the Ad Hoc Committee of Bondholders represented by our firm to:
- ensure the independence of Oi’s management; and
- remove certain conflicted controlling shareholders and board members from the process of formulation and negotiation of the plan or reorganisation, ultimately approved by creditors and confirmed by the reorganisation court;
- the timely conversion of a portion of the debt into new equity representing approximately 75 per cent of the post-restructuring capital of Oi; and
- the timely realisation of a new capital increase of 4 billion reais, fully backstopped by a group of investors led by the Ad Hoc Committee of Bondholders represented by our firm.
The reorganisation plan is currently being implemented with the active involvement of our team.
GTDT: Have there been any recent legislative reforms? Is there a perceived need for reform?
LFVP & BFC: The crisis faced by the Brazilian economy in the past few years has tested several aspects of the Brazilian insolvency market and the Brazilian insolvency law for the first time since the law was enacted in 2005. On the one hand, it demonstrated that the Brazilian insolvency system now has more and better tools to be channelled into debtors’ restructuring, such as the possibility of selling certain assets free and clear. On the other hand, it also showed that there is still significant room for improvement, especially when it relates to debtor-in-possession financing.
The former government (that took office in 2016, after the impeachment of Ms Rousseff), set some goals to be achieved prior to the 2018 elections. Among these goals were the approval of the pension reform, labour reform and the amendment of the insolvency law. The labour reform was approved in 2017, but the pension reform and the amendment of the insolvency law, however, have not yet been voted on by the Brazilian Congress.
In 2016, the former Ministry of Finance formed a working group with the purpose of presenting a draft bill to amend the insolvency law. We were invited to give suggestions to improve the first draft bill and contribute some ideas that could increase the use of the out-of-court reorganisation, which tends to be faster, less costly and more efficient than a full judicial reorganisation.
Among others, we proposed including labour claims in the out-of-court reorganisation, which would have to be paid in full in one year from the filing date. Labour claims are currently not impaired by the out-of-court reorganisation, thus preventing companies that need to restructure labour claims from filing for this reorganisation type and obliging them to resort to the full judicial reorganisation, which is more complex and expensive.
In addition, we suggested eliminating the two- year lock-up period in which a company having an approved judicial or out-of-court plan may not:
- resort to a new reorganisation proceeding;
- authorise the sale of certain assets also under the out-of-court reorganisation and not only under the judicial reorganisation;
- include a stay period that could be enjoyed by the debtor upon filing of the out-of-court reorganisation; and
- create the possibility of converting the out-of-court reorganisation into a full judicial reorganisation if the debtor does not gather sufficient approval to confirm its out-of-court reorganisation plan.
Moreover, we suggested that the debtor be given an automatic stay period by the court upon prior acceptance of creditors holding at least 40 per cent of debts, thus the debtor would be provided with a period to seek to obtain the adhesion of the remaining 20 per cent of the claims that will allow confirmation of the plan and appointment of a mediator to facilitate the negotiation of the plan under certain conditions.
These changes would address the main issues faced by a debtor that seeks the filing of an out-of-court reorganisation. In our view, the law should encourage the out-of-court reorganisation as much as possible.
The working group finalised a draft bill and presented it to the former Ministry of Finance. However, the draft bill was substantially changed by the former government and the version bill that was subject to the Brazilian Congress (but is pending review) does include other modifications that will make the current scenario (if the law is approved) worse for debtors and creditors in general, except for tax creditors, by the working group.
Also, it is important to mention that, in addition to the proposed bill that would substantially change the Bankruptcy Law, there are other proposals for punctual amendments to the Bankruptcy Law pending before the Brazilian Congress. One of the most important pending bills is the amendment to the Brazilian Commercial Code. Among others, the current version of the proposed amendment to Brazilian Commercial Code deals with bankruptcy matters, changing some of the existing rules. From a purely procedural point of view, the amendment to the Brazilian Commercial Code is more likely to be voted through by the Brazilian Congress than the amendment to the Brazilian Bankruptcy Law.
GTDT: In the international insolvency field, have there been any legislative or case law developments in terms of coordination of cross-border cases? What jurisdictions are you most likely to have contact with?
LFVP & BFC: The current Brazilian insolvency law does not deal with cross-border issues. The proposed bill presented to the Brazilian Congress (still pending review) has an entire chapter dedicated to cross-border insolvency as the bill of the new Commercial Code also has. It is still unclear if the proposed bill will be approved as proposed. The suggested language has the purposes of incorporating, with certain specific adaptations to conform it to the Brazilian legal system, the UNCITRAL Model Law on cross-border insolvency into the Brazilian legal system. The draft proposed by the working group is appropriate and consistent with the UNCITRAL Model Law and with the international experience on cross-border insolvency.
Note that in addition to the proposed amendment to the Bankruptcy Law, the current version of the proposed amendment to the Brazilian Commercial Code also deals with international cross-border cases. In the draft subject for deliberation of the Brazilian Congress, the proposed new Commercial Code has an entire section dedicated to international cross-border issues. The rules set forth in the proposed Commercial Code are different from the ones described in the bill dealing with the Bankruptcy Law. It is unclear at this stage, which (if any) amendment will prevail.
In our experience, transnational debtors with a centre of main interest in Brazil usually file for a judicial reorganisation in Brazil and ancillary proceedings abroad (where such a feature is available). It is quite common in larger cases for the filing of a judicial reorganisation in Brazil and a Chapter 15 proceeding (of the US Bankruptcy Code) in the United States, or an additional insolvency filing in another country. In view of the lack of specific provisions regarding cross-border proceedings in the current law, the coordination of cross-border cases depends on the ability and the interest of the judge in charge of the case in Brazil.
From a formal standpoint, enforcement in Brazil of a judicial award granted abroad would require confirmation by the Superior Court of Justice (STJ) through an exequatur proceeding. According to Brazilian Law, the exequatur shall not be granted and the foreign decision will not be recognised if it violates the national sovereignty or Brazilian public policy or good morals. The exequatur could, however, be a time-consuming proceeding that certainly does not fit into the dynamics and urgency of an insolvency proceeding.
“The Court of Appeals of the State of São Paulo pioneered the creation of a specialised chamber to hear appeals related to bankruptcy matters.”
GTDT: In your country, is there a particular court or jurisdiction that sees a higher concentration of insolvency filings? What is the attraction of that forum?
LFVP & BFC: The current law establishes that insolvency matters shall be filed in the court where the main place of business of the debtor is located (or in the location of the branch of the debtor, in case the debtor has its main place of business abroad). Our Bankruptcy Law, however, does not contain a clear definition of the term ‘main place of business’, which creates legal uncertainty.
Such uncertainty authorises the debtor to file its insolvency proceeding in the location that best suits its own interests. In practice, the debtor usually files the insolvency proceeding in a small and unspecialised court where it has a factory or some business, which are generally more sensitive to the social pressure to keep the company going, even if it is not feasible, under the threat of firing workers and leaving the city.
In addition to the absence of a clear definition of the place of filing, another deficiency of our system is that Brazil has a very limited number of specialised bankruptcy courts. The judicial district of the city of São Paulo is one of the first districts that created courts specialised in bankruptcy issues (in Brazil bankruptcy issues are reviewed by state courts). The district of São Paulo now has three courts specialised in bankruptcy-related matters. The Court of Appeals of the State of São Paulo also pioneered the creation of a specialised chamber to hear appeals related to bankruptcy matters. Nowadays, São Paulo State Court has two specialised chambers to hear not only appeals related to bankruptcy issues, but also appeals related to corporate law in general. São Paulo’s successful experience has been followed only by a few other states throughout Brazil.
Thus, the fact that São Paulo is the most important business city in Brazil (the city alone accounts for almost 10 per cent of Brazil’s total GDP) and is the pioneer in the creation of specialised courts, makes the São Paulo bankruptcy court the one with the highest concentration of bankruptcy filings.
In our view, the new bill should address issues related to the absence of a clear definition of ‘main place of business’ and stimulate the creation of specialised courts. One of the ideas we shared by the time we were invited to assist with the drafting of the proposed amendment to the current bankruptcy law was the authorisation for companies to indicate in their respective by-laws the location they consider to be their main place of business for the purpose of any bankruptcy-related filing. We believe this might encourage companies to choose to subject their insolvency proceedings to specialised bankruptcy courts in consideration of more favourable contractual conditions with their creditors. Such measures may allow third parties to analyse the precedents issued by that specific bankruptcy court indicated by the debtor in its by-laws, making it possible to better assess the risks involved in the contemplated legal relationship.
GTDT: Is it fair to describe your jurisdiction as either ‘debtor-friendly’ or ‘creditor-friendly’ in terms of how insolvency filings proceed?
LFVP & BFC: Although the legislator tried to achieve a balance of power between the debtor and creditors subject to the judicial reorganisation plan, practice shows that the current Brazilian insolvency law is more shareholder- and debtor-friendly than it is creditor-friendly.
As a matter of fact, the Brazilian insolvency law does not envisage an involuntary filing for judicial reorganisation. The judicial reorganisation can be filed only at the debtor’s voluntary initiative. Thus, even though creditors have the ability to vote and potentially reject the judicial reorganisation plan presented by the debtor, the consequence of such a rejection would be the debtor’s declaration of bankruptcy liquidation. From a practical perspective, however, the debtor knows that the bankruptcy liquidation’s consequences are also detrimental to the creditors. As a result, creditors feel reluctant to reject the reorganisation plan and end up giving debtors and their controlling shareholders substantial power for rejecting creditors’ proposed amendments to the plan.
Therefore, in practice, creditors tend to approve a questionable and sub-optimal judicial reorganisation plan rather than voting to reject it as that would entail them coping with the downsides of the bankruptcy liquidation.
Another point of concern that shifts the Brazilian system to a shareholder- and debtor-friendly jurisdiction is the fact that there is no such concept as the US ‘absolute priority rule’ in the Brazilian judicial reorganisation. Although the credits held by the shareholder shall be considered ‘subordinated’ to other claims in the event of a bankruptcy liquidation, there is no such rule in the judicial reorganisation scenario. This means that the debtor may present a judicial reorganisation plan to substantially reduce its indebtedness, with aggressive hair-cuts or extensions of payments with no change in its corporate control. Upon plan approval, the shareholders can enjoy a fresh start, with the company’s debts reinstated without losing any portion of their stake. This is also perceived by the market and may help to explain why the Oi SA stock price has tripled during the judicial reorganisation proceeding.
The proposed bill addresses this issue and authorises the creditors to present a judicial reorganisation plan under certain specific circumstances (purporting to change the current exclusivity of the debtor). We believe that this potential amendment to the insolvency law may assist the Brazilian system in achieving the desired balance and become a more isonomic jurisdiction.
“The sale of assets has been the main source of new cash for the companies under judicial reorganisation.”
GTDT: What opportunities exist for businesses wanting to purchase assets out of an insolvency, and how efficient is the process? What are the best ways to take advantage of opportunities in this area?
LFVP & BFC: The Brazilian insolvency law provides that the sale of assets of the estate in bankruptcy liquidation, or the debtor’s business units during judicial reorganisation are free and clear of any of the debtor’s liabilities, provided the sale is conducted through a competitive process (seeking maximisation of value) and meets certain other formal requirements.
In general, the sale of assets in judicial reorganisations should be established in the judicial reorganisation plan, though there are cases where significant assets were sold prior to the voting and approval of the plan (but subject to the ratification by means of approval of the plan).
This legal framework, which has been consistently confirmed by court precedents, has fostered numerous successful transactions during the past decade under judicial reorganisation cases. The sale of assets has been the main source of new cash for the companies under judicial reorganisation.
Notwithstanding the success of the past years, experience has shown that a few improvements are still needed to make the process even more efficient and effective. One of the biggest issues of the current Brazilian insolvency law is that although it sets forth that sale of an isolated business unit is free and clear of liabilities, there is no clear definition of an ‘isolated business unit’. This has led to discussions on whether a business unit should (or should not) encompass all or a substantial part of debtor’s assets and whether remaining in operation with a residual business would be crucial to qualifying a unit as an isolated business unit. Naturally, this brings a certain degree of uncertainty when considering that, if assets are found not to comprise an isolated business unit, the acquirer may be accountable for the debtor’s existing obligations.
We believe these amendments would modernise Brazilian insolvency law and make it more appropriate to the current scenario and environment, thus providing distressed debtors, creditors and investors with effective business restructuring tools to be used in the most complex and sophisticated cases.
The Inside Track
What two things should a client consider when choosing counsel for a complex insolvency filing in this jurisdiction?
The counsel for a complex insolvency filing must first be able to navigate through different areas of the law. A complex restructuring may deal not only with insolvency matters per se, but surely will touch upon other areas of law such as tax, labour, corporate (M&A) and banking (finance). Also, counsel must understand the business and goals of the client and what counterparties would like to accomplish in order to build up a negotiation strategy. Negotiation is the key word. In a system where the reorganisation plan is approved by the vote of a requisite majority of creditors, full understanding of clients’ goal and how to achieve it through negotiations with the debtor and the other relevant stakeholders is the key.
What are the most important factors for a client to consider and address to successfully implement a complex insolvency filing in your jurisdiction?
When the client is involved in an insolvency situation either as a debtor or creditor, counsel should assist the client in quickly assessing what are the main goals in that scenario, how to achieve them and all feasible alternatives available. The insolvency filing could be a great opportunity to sell or acquire assets, convert debt into equity, credit bid and invest new resources with a higher interest rate, among others. Once the goal is set, the client shall drive the process and negotiations in that direction. Denying the situation or ignoring opportunities created by the insolvency filing could jeopardise the implementation of a complex insolvency filing in an irreparable way.
What was the most noteworthy filing that you have worked on recently?
We have been involved in pretty much all high-profile cases filed since the insolvency law was enacted in 2005, such as Oi SA, OGX, OAS, Odebrecht Óleo e Gás, Parmalat and Varig, among many others. Despite not being one of the biggest cases, the filing of Zamin Amapá Mineração (Zamin) set an important precedent. Zamin commenced litigation against our clients (a syndicate of foreign banks) seeking to annul the collateral (fiduciary lien) granted to our clients. Zamin claimed the fiduciary lien provided under the Brazilian Capital Markets Law would apply only to local banks or banks authorised to operate in Brazil by the Brazilian Central Bank. Recently, the São Paulo State Court confirmed the fiduciary lien granted to foreign entities or individuals can be valid and enforceable. This is the very first decision issued in this direction.
Luiz Fernando Valente de Paiva and Bruno Ferreira Carriço
Pinheiro Neto Advogados