Implications for International Investors of certain Legal Aspects of the Ongoing Restructuring of Argentine Public Debt

The Argentine Government has launched an aggressive plan to restructure on a voluntary basis most of the external and domestic public debt of the country. The principal aim of the plan is to lower the interest rates on Argentina’s debt, thus facilitating the Government’s attempts to eliminate the Federal budget deficit in 2002. By erasing the deficit, the Government hopes to promote a general reduction of the interest rates charged to the Argentine private sector, which would bring the country out of a protracted recession that has entered its fourth consecutive year. This last plan comes in the heels of several prior attempts that have failed to achieve the same end, including a smaller voluntary debt exchange arranged with the cooperation of international investment banks in the first semester of this year and a special financing package put together by the International Monetary Fund with the backing of the United States Treasury. The current plan is generally perceived as the last chance for Argentina to avoid an involuntary and disorderly restructuring of its debt.
The restructuring is to proceed in two stages: a first stage, currently ongoing, which is aimed primarily at local investors, and a second stage, to be carried out in the next few months on a yet unspecified date, aimed at international investors. Simultaneously with the first stage, the Government is assisting Provincial Governments to arrange a similar exchange of their public debt, which would essentially turn it into Federal debt.

The Government has emphasized the voluntary nature of the exchange, indicating repeatedly that it will continue to service payments under bonds that are not exchanged, in accordance with their original terms. That characterization has been the subject of a spirited debate on the part of market participants, including rating agencies that have downgraded the rating of Argentine sovereign debt to selective default on the basis of the known details of the proposed exchange. Moreover, creditors of both public and private Argentine debt are obviously considering the implications of the exchange on sovereign cross-default provisions under outstanding debt (particularly the interest rate and security features of the new instruments discussed below).

This article summarizes the terms of the local tranche of the exchange and highlights certain legal aspects that may have an impact on international holders of Argentine sovereign bonds.

The Legal Framework

On November 2, 2001, the Government issued Decree 1387/2001 (the “Decree”), which set forth the general guidelines of the local and international tranches of the proposed public debt exchange. The authority of the Decree derives from the delegation of powers made last March by Congress to the Executive Branch.

Under the Decree, the Government instructs the Ministry of Economy to design and offer to investors the specific terms and conditions of the exchange. On November 29, 2001, the Ministry issued Resolution 767/2001 (the “Resolution”), formally implementing the exchange. The Resolution includes as appendixes the relevant agreements and ancillary documentation to be used in the local tranche (the “Local Exchange”). That documentation may be consulted in the website of the Ministry (www.mecon.gov.ar). In order to become fully effective, certain provisions of the Resolution (particularly those concerning the security described below) require the issuance of an additional decree by the Executive Branch ratifying its contents. This article summarizes certain relevant details of the Local Exchange included in the Resolution and related documentation.

As noted in the timetable below, the period to submit offers to participate in the Local Exchange expires on Friday, November 30, 2001, except in the case of individual investors with holdings of eligible securities with an aggregate nominal value of up to $100,000, for whom that deadline has been extended until Friday, December 7, 2001.

The details of the international tranche are unlikely to be announced before the Government concludes consultations with international investment banks, large institutional investors and multilateral credit organizations, which are expected to take weeks, if not months.

Eligible Debt Securities

The Government has designated most of the outstanding debt securities of Argentina (a total of 79 different classes) as eligible for the Local Exchange. The list includes both securities denominated in Argentine pesos and in foreign currency, securities that are subject to Argentine law and jurisdiction and to foreign law and jurisdiction. Some of the Argentine debt securities that are most heavily traded in the international markets, such as the Global Bonds and the Floating Rate Bonds, are deemed eligible.

Eligible Investors

Only licensed Argentine financial institutions with an open account at the Central Bank of Argentina (the “Banks”) may participate directly in the Local Exchange. However, all other holders of eligible securities, including non-Argentine residents, may participate indirectly through an appropriate arrangement with one of the Banks.

On Friday, November 23rd, the Association of Banks of Argentina announced the intention of its members of participating in the exchange with an aggregate of approximately $12.5 billion, equivalent to approximately 96% of their holdings of eligible securities. Other local institutional investors, including pension funds, insurance companies, investment funds and smaller banks that are not members of the Association, are also expected to participate heavily, thus seemingly ensuring the success of the Local Exchange.

New Instruments

Those Banks who choose to participate will receive in exchange for their eligible securities a pro-rata portion of the credit rights under secured loans (one loan for each type of eligible security), to be documented by a loan agreement executed among Argentina, the Banks, the Central Bank, as paying agent, Caja de Valores S.A. (the “Caja”), as registrar, and state-owned Banco de la Nacion Argentina (the “Secured Loans”). Investors who are not Banks will have to enter into a special arrangement with one of the Banks in order to participate, which would entitle them to receive an amount of the funds received by that Bank under the applicable Secured Loan proportional to the investor’s participation, and to be deemed parties to the secured loan agreement. It remains unclear to what extent participating investors who are not Banks will be able to enforce by themselves the rights of a creditor under the Secured Loans.

Conversion Rate

The Local Exchange will be effected at a one-to-one conversion rate on the basis of the nominal value of the eligible securities (or the residual nominal value in the case of eligible securities that have received partial principal repayments). For this purpose, the nominal value of the eligible securities will be adjusted by adding any interest accrued but unpaid until, but excluding, November 6, 2001, and deducting any payments of principal and/or interest made between and including November 6 and November 30, 2001.

Maturity and Principal

Each Secured Loan will have the same maturity and principal repayment schedule of the corresponding eligible security for which it was exchanged, except that the maturity of the Secured Loan corresponding to any eligible security that has at least one payment of principal scheduled to occur before December 31, 2010 will be extended three years.

Interest

For the most part, investors who choose to participate in the Local Exchange will be entitled to a significantly lower interest rate under the Secured Loans than under the eligible securities. Although the interest will vary depending on the specific eligible security exchanged, in general, unpaid principal under the Secured Loans will accrue interest at the following rates:

(a) In the case of a Secured Loan with fixed interest, the rate will be 70% of the contractual rate of the exchanged eligible security up to a maximum of 7% until the original maturity date of such eligible security, and 7% thereafter.

(b) In the case of a Secured Loan with floating interest, the rate will be 70% of the contractual rate of the exchanged eligible security up to a maximum of LIBOR plus 3% until the original maturity date of such eligible security, and LIBOR plus 3% thereafter.

Interest accrued from, and including, November 6, 2001 to, and excluding, March 31, 2002 will be capitalized. Thereafter, in general, interest will be paid monthly.

Those investors interested in learning the interest rate alternatives available for the exchange of each specific eligible security, should consult the table of terms applicable to each eligible security published in the website of the Ministry of Economy.

Security

Under the secured loan agreement, Argentina shall assign as security of the principal and as security and in payment of the interest due under the Secured Loans the revenues of the Tax on Bank Transfers and, to the extent necessary up to the total amount due, the tax revenues corresponding to the Federal Government under the Federal System of Tax Co-participation. Therefore, payment of interest will be effected through a mechanism of direct allocation of the required tax revenues, while repayment of principal will be effected through special deposits of the Federal Government (with direct payments from tax revenues available for principal repayment only through enforcement of the security). In order to perfect this security, the Government must issue a decree ratifying the Resolution. The Central Bank will act as paying agent.

Because the outstanding debt of Argentina, including in general all the eligible securities, lack this special guarantee, the Secured Loans will enjoy a practical preference over the rest of the Argentine sovereign debt. However, under the secured loan agreement, the Banks (and their participating clients) agree that the Government may assign the same tax revenues on a pari passu basis as security of the international tranche and/or the exchange of Provincial debt.

Lack of Liquidity

The Secured Loans will not be listed on any exchange and will be highly illiquid. A transfer will require a written agreement (with the identity and capacity of the signatories certified by an Argentine public notary) and delivery of notice to Argentina and to the Caja, as registrar.

Cross-default

Because the secured loan agreement will not include a cross-default provision, there will be no default of the Secured Loans if Argentina defaults under any eligible securities after the Local Exchange is completed.

Subsistence of the Exchanged Eligible Securities

Exchanged Eligible Securities will not be canceled when the Local Exchange is completed. Instead, simultaneously with the execution of the secured loan agreement, the Caja, as trustee (in that capacity, the “Trustee”), the Banks and Argentina will enter into a trust agreement, under which the Banks will assign in trust to the Trustee the ownership of the eligible securities that they have chosen to exchange. By entering into the trust agreement, the Banks (and, indirectly, other participating investors), will irrevocably waive their rights to claim a default of the eligible securities placed in the trust.

Subject to the terms of the trust agreement, the Trustee will be entitled to exercise the economic and political rights of the eligible securities exchanged. Argentina, as original beneficiary of the trust, will receive all the certificates of participation in the trust. While the eligible securities remain in the trust, all payments due under those eligible securities will be offset against the equivalent payments due to Argentina under the trust certificates.

The subsistence of the voting rights under the exchanged eligible securities, and their continuing indirect control by the investors who have exchanged them, will be critical in the international tranche if the Government decides to combine the exchange with the use of exit consents to modify certain terms of the eligible securities to make them less attractive.

Special Effect of Default under the Secured Loans

If there is a default under a Secured Loan, any Bank or investor who is a creditor under such Secured Loan will have the right to ask the Trustee to return the corresponding eligible securities held in the trust. The Trustee will be responsible for determining whether a default exists that justifies the request of the Bank. If the Trustee returns any eligible securities to a Bank or investor pursuant to such a default, it will simultaneously cancel an equivalent amount of the trust certificates and, in its capacity as registrar, of the Secured Loan owned by such Bank.

Participation in the International Tranche

If any Bank desires to participate in the international tranche of the exchange, it will be able to instruct the Trustee to cancel its Secured Loan and exchange an equivalent amount of the eligible securities held in the trust for the new securities offered in the International Tranche. Subject to their special arrangements with an intermediary Bank, other investors could do so as well.

Governing Law and Jurisdiction

Regardless of the applicable law and jurisdiction of each eligible security, all Secured Loans will be governed by Argentine law and subject to the jurisdiction of the Courts of the City of Buenos Aires.

Timetable
November 19 through November 30   Banks submit offers to exchange eligible securities for their own accounts and the accounts of their clients. 
December 3   Argentina announces the overall result of the Local Exchange through Reuters and Bloomberg and informs to the Banks which specific offers it has accepted. 
December 7   Banks deposit with Caja de Valores S.A., as Trustee, the eligible securities to be exchanged.
December 12   Settlement of the Local Exchange through delivery of executed Secured Loan Agreement.

Conclusion

Non-Argentine holders of eligible securities should know that they are entitled to participate in the ongoing Local Exchange through special arrangement with an Argentine Bank. The main commercial incentive to participate is the implicit preference granted to the new Secured Loans by the allocation of certain Federal tax revenues as security. However, that advantage may be offset with certain less attractive features of the Secured Loans, including lower interest, longer maturity (in the case of Secured Loans exchanged for eligible securities scheduled to mature before the end of 2010), lack of liquidity and exposure to the laws and jurisdiction of the borrower.