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The Good, Bad and the Ugly

Mar 1, 2012

Vitro appears to have won a shootout with creditors over its restructuring plans, but longer-term questions remain over Mexico’s Concurso Mercantil system.

by Mariana Santibáñez

Mexico’s Vitro appears to have won a protracted and bitter war with holdout creditors after a local court ruled earlier this year in favor of the troubled glassmaker’s unpopular restructuring plans. The results not only have the buyside up in arms, but could carry broad implications for other Mexican high-yield names seeking to raise money abroad.

Fixed-income investors are now vowing to take a closer look at the country’s junk names and threatening to charge a "Vitro" premium going forward while also keeping a close eye on other companies that have recently struggled under the weight of heavy debt loads such as cement maker Cemex.

"What Vitro is doing really puts Mexican companies in a very negative light and as a buyer I’m going to be much more careful and demand a premium given the many loopholes in the Concurso Mercantil framework," says Jack Deino, senior portfolio manager at Invesco, which manages $1.6 billion in EM assets.

At issue was whether Vitro broke Concurso rules by using $1.9 billion of inter-company debt incurred subsequent to its 2009 default to achieve a majority vote in restructuring negotiations. In this sense it looks like Vitro has been vindicated.

But perhaps more importantly Vitro’s court victory leaves many experts saying that Mexico’s insolvency law, Ley de Concurso Mercantil (LCM), needs to be rethought just 12 years after its creation and five years since it was last updated.

"The Mexican insolvency regime has been put to the test by the creditor-unfriendly precedent that Vitro S.A.B. is trying to set," says Arturo Porzecanski, economist-in-residence at the School of International Service at American University in Washington and expert in Latin American economics.

Porzecanski adds the precedent would weigh more heavily on the minds of Cemex bondholders and other risky Mexican corporations. He adds Cemex has a similar debt structure at the holding level backed by guarantees from its foreign subsidiaries. Cemex declined to comment.

The treatment of inter-company claims has been a lingering issue in bankruptcy cases in Mexico, but few if any of the country’s recent restructurings have created such a vitriolic backlash.

By itself, the glassmaker’s perspective seems straight forward enough. It used local laws to defend itself from what it sees as predatory vulture funds at a time when it was struggling to survive in the wake of its $1.2 billion debt default in 2009.

Using inter-company debt at the subsidiary level to push through a restructuring plan may not be popular, but it is legal under Mexican law, the company says. "We use inter-company debt as done in any other types of restructurings and we did not do anything the law did not want us to do," Vitro’s chief restructuring officer Claudio Del Valle tells LatinFinance.

However, this hasn’t sat well with the broader investor base, which thinks Vitro is setting the wrong precedent and could harm attitudes toward Mexico’s credit markets. "What is legal and what is right is not the same thing. They crammed down [legitimate] bondholders with their restructuring plan and managed to get away with it," says Carlos Legaspy, president at San Diego-based Precise Investment Management.

Vitro supporters say that the glassmaker’s methods are not unusual, and that companies could in theory have made a similar case under Australian and Italian law, for example.

"The law in Mexico is perfectly clear about inter-company debt," says Luis Manuel Méjan, bankruptcy and business restructuring counsel at Haynes Boone, and former head at Mexico’s Federal Institute of Bankruptcy Specialists (IFECOM).

"Mexican law, like restructuring law in other jurisdictions, does not give specific or special treatment between types of credits and treats them like any creditor as long as it was done in good faith, and the law includes strong protection to ensure creditors are treated fairly," he adds.

In reality such issues are highly complex and interpretations of the law in each country vary. What is clear to some, though, is that Vitro outmaneuvered its opponents at every turn and won the war of attrition against holdouts, some of which are highly skilled themselves at finding legal loopholes to work in their favor.

According to EM distressed debt specialist Gramercy, Vitro was the first large Mexican company to use inter-company claims to approve a restructuring plan over the objections of legitimate creditors, in this case holding some $1.45 billion in debt.

Vitro isn’t the first Mexican company to have used inter-company debt to leverage its position during restructuring negotiations, say experts. Paper company Grupo Durango, later renamed Bio Pappel, did the same but reached a consensual deal instead.

Durango’s ability to strike an agreement with creditors may have reflected the types of creditors involved, say some legal sources. Depending on which side of the Vitro fight experts take, holdouts are either aggressive vulture funds with a winner-take-all attitude or legitimate creditors bringing to light loopholes that the glass company unfairly exploited to the detriment of its bondholders.

Either way, bondholders were less compliant with Vitro. Elliott International, one of the creditors involved in the legal battle, has shown in the past a willingness to fight long court battles and stand its ground to make substantial gains. In one of its more high profile cases, it reportedly sued the Peruvian government to make a $47 million profit on debt it bought for $11 million.

"Some of the vulture funds purchased bonds after the restructuring began," says Alejandro Sánchez Mújica, Vitro’s vice president and legal counsel.

The Vitro case stands out for several reasons, Gramercy argues, including the fact that the $1.9 billion in inter-company claims were incurred after its default and that an outside party provided financing that some creditors alleged were fraudulent transfers.

In a ruling by the US Bankruptcy Court Northern District of Texas, it says that in December 2009, Vitro and Fintech Investments "entered into several simultaneous transactions which caused Fintech to invest $75 million and generated $1.5 billion in inter-company debt, payable to Vitro SAB’s subsidiaries by Vitro SAB. It is alleged that these transactions amount to fraudulent transfers on the part of Vitro SAB and are an attempt by Vitro SAB’s equity holders to control any attempts at reorganization."

At the same time, the ruling states that an appellate court reversed a prior voluntary Mexican proceeding through the Concurso Mercantil system that found inter-company claims should not be considered. This ultimately helped Vitro claim victory earlier this year. Either way, some creditors allege that Fintech’s involvement as an investor, creditor and advisor to Vitro constituted a conflict of interest.

Ultimately, Vitro’s position passed muster under Mexican insolvency law, and according to the company resulted in the largest payment to debtholders in any Mexican debt restructuring.

The plan that was ultimately approved involved exchanging defaulted debt – which included 8.625% 2012s, 11.75% 2013s and 9.125% 2017s – for $814.6 million of new 8% 2019s, $95.8 million of 12% mandatory convertible debt due 2015, and the pledge that holders will get a 20% equity stake if the convertible debt is not paid. There was also a cash restructuring fee in an amount equal to an 8% annualized return on $814.65 million.

The bondholder proposal that had been rejected earlier involved the issuance of $1.1 billion in new bonds, a cash payment of 10% on outstanding principal of the existing notes and 61% in Vitro’s common shares. Recovery values under the agreed upon plan are hard to come by, but a JPMorgan note put them at anywhere between 45%-50%.

An ad-hoc group of bondholders, largely comprising hedge funds and distressed debt specialist, say their terms were never considered but the conciliator on Vitro’s restructuring, Javier Navarro-Velasco, tells LatinFinance that this is untrue and that the company hired an independent third party, KPMG, to analyze the fairness of the restructuring plan for all parties involved.

Each side has battled from its own corner, but the issue of using inter-company claims to push through debt plans is likely to require a clearer resolution.

Whether Mexican junk credits will be punished with higher premiums remains to be seen given the market’s grab for yield. Vitro itself shed its reputation as a troubled borrower in early 2007 when it re-profiled its debt maturities thanks to strong demand for its paper. All may soon be forgiven. LF

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