In a decision that represents a triumph for bondholders, and should provide comfort to market participants, the Supreme Court of France (the “Supreme Court”) has recognized the trust structure and the parallel debt mechanism as part of security packages put in place for secured international financings granted to a French company.

On Sept. 13, 2011, the Supreme Court clarified certain key questions in the context of international financing by confirming that trust and parallel debt structures governed by New York law would be recognized in France, allowing a trustee under an indenture to file a proof of claim within French safeguard proceedings (“Procédure de Sauvegarde”). Safeguard proceedings are a French legal remedy allowing a company that is facing long-term financial distress to facilitate a restructuring. The restructuring proposals are set out in a safeguard plan. In order to benefit from the plan and any recovery, each creditor must file a formal proof of claim. Under French law, only a direct creditor or a specially appointed proxy can file a proof of claim.

In the Belvedere case,1 Belvedere SA (“Belvedere”), an alcoholic beverage company based in France, issued ¤375 million floating rate notes due in 2013. The bond documentation was entered into by Belvedere, seven of its Polish subsidiaries, a U.S. bank as trustee (Bank of New York Mellon) and two separate banks as principal and ancillary security agents (Natixis SA and Raiffeisen Bank Polska, respectively). The Belvedere entities also entered into a collateral sharing agreement in favor of each of the two security agents. The collateral sharing agreement created parallel debt in the same amount of debt owed to the trustee, but with the security attached to it. This structure is commonly used in cross-border transactions for jurisdictions where the trust concept is not recognized (such as France) and allows, when necessary, the security agents to foreclose over the secured assets of a company for the benefit of the bondholders. Both the bond documentation and collateral sharing agreement were governed by New York law.

On July 16, 2008, the Commercial Court of Beaune opened French safeguard proceedings for Belvedere SA and its Polish subsidiaries. Three proofs of claim were filed, one by the trustee and the remaining two by the security agents, and all claims were for the full amount of the notes. These claims were admitted by the Commercial Court. Belvedere and its Polish subsidiaries challenged the admission of the trustee claim, arguing that, in accordance with French law, the trustee was not the legal owner of the receivables, but only a proxy acting for the bondholders without having been specially appointed. Belvedere also challenged the claims filed by the security agents on the grounds that the parallel debt could lead to double payment in contradiction with French public policy.

On appeal, the three proofs of claim were upheld by the Dijon Court of Appeal in its decision dated Sept. 21, 2010, and on the grounds that the trustee was not acting as the bondholders’ specially appointed proxy but rather as the legal owner and therefore valid creditor of the receivables in accordance with New York trust law. The Court of Appeal also rejected the public policy argument raised by Belvedere SA in relation to the filing by the security agents.

Belvedere then filed a further challenge to the Commercial Chamber of the French Supreme Court. The French Supreme Court was asked to resolve a conflict of law issue and determine whether the legal capacity of the trustee to file a proof of claim in Belvedere’s safeguard proceedings was governed by contract law (New York law in this instance), or by French law governing the insolvency proceedings. Under French law, the trustee would have to be appointed as a special proxy by the bondholders to declare claims on their behalf. However, this had not been done since the trustee was deemed to be the legal owner of the receivables as a matter of New York trust law. If the Supreme Court recharacterized the trustee as a proxy, the filing of the proof of claim on behalf of the bondholders would have been inadmissible in the safeguard proceedings, and the bondholders would have been unable to benefit from the provisions of the safeguard plan including any distribution of dividends.

In its decision dated Sept. 13, 2011, the French Supreme Court approved the decision by the Court of Appeal, upholding the proof of claims filed by the trustee and both security agents. In respect of the filing by the trustee, the Supreme Court reconciled the conflicting legal positions by determining that the “lodging, verification and admission of claims” as set out in article 4.2(h) of EC Regulation 1346/2000 (codifying the manner in which a European Union member state determines whether it has jurisdiction to open insolvency proceedings) must be made pursuant to French insolvency law, but that the question as to whether the trustee was the owner of the receivables must be determined according to New York law, governing all the agreements. In reaching this decision, and by allowing the proofs of claim to be retained, the bondholders were able to participate in the distributions that came about from the safeguard plan.

As for the parallel debt argument, the Supreme Court also rejected the argument raised by Belvedere SA, according to which the filing of the parallel debt by the security agents could lead to double payment in contradiction with French public policy, on the ground that the contract specifically provided that any payment made to the security agents would reduce the main debt accordingly.