In Citibank, N.A., London Branch v Oceanwood Opportunities Master Fund and others, the English High Court recently addressed what constitutes “control” for purposes of the disenfranchisement clause ubiquitous in New York law indentures. While the Court determined that “control” is necessarily a fact-based question to be viewed in light of the particular circumstances, the judgment offers several helpful conclusions which will be good news to any lenders having or seeking control positions in note tranches.
Facts of the case
In 2015, Norske Skog AS, a high-level holding company in a Norway-based international manufacturing group, issued senior secured notes governed by a New York law indenture. The notes were secured by a pledge of the shares of the issuer. Citibank acted as trustee and security trustee. The indenture included a provision, typical for New York law indentures, disenfranchising controlling noteholders. Specifically, Section 2.09 of the indenture read in pertinent part (emphasis added):
In determining whether the Holders of the required principal amount of Notes have concurred in any direction, waiver or consent, Notes owned by the Issuer or any Guarantor, or by any Person directly or indirectly controlling or controlled by or under direct or indirect common control with the Issuer or any Guarantor, will be considered as though not outstanding
By June 2017, the Norske group had been in financial trouble for some time and launched restructuring negotiations with an ad hoc committee of noteholders. The group also missed an interest payment, starting the clock on a 30-day grace period, after which acceleration of the notes (as well as other credit facilities outstanding within the group) and enforcement of the share pledge would become possible.
Oceanwood Opportunities Master Fund (“Oceanwood”) was an active participant in the ad hoc committee and ongoing restructuring negotiations. Importantly, the ad hoc committee members, together with one additional ally (who we will subsume in the references to the “committee” for these purposes), collectively owned 51% of the outstanding notes, which empowered them to declare a default and to instruct Citibank to accelerate the notes and enforce the security.
Negotiations between the committee and the group continued through the summer and autumn and resulted in several key events:
- In August, the committee agreed terms with a Mr. Ombudtsvedt, the former CEO of the group, to act as their advisor and potentially to join the board as part of a successful restructuring.
- On the same day, an EGM of the issuer’s parent company was convened, and a director viewed as adverse by the committee was appointed to the parent’s board. In response, the committee instructed Citibank to accelerate the notes.
- On 1 September, the committee granted a liquidity facility (similar to a U.S.-style DIP facility) to the issuer which was secured pari passu with the outstanding notes.
- On 12 September, Citibank accelerated the notes and, on the further instructions of the committee, used the voting and other powers conferred on it by the share pledge to convene an EGM of the issuer and replace its board with a slate proposed by the committee, including Mr. Ombudtsvedt.
- On 22 November, Oceanwood bought out the other committee members so as to assume direct ownership of approximately 51% of both the outstanding notes and the liquidity facility.
- The restructuring negotiations ultimately failed, and the issuer put forth a press release in December announcing the start of a public sales process. Oceanwood concurrently announced its intention to submit a bid in that process, an intention on which it subsequently followed through.
Foxhill Capital Partners (“Foxhill”), a minority noteholder who held 4.6% of the outstanding notes and who had not been involved in the restructuring negotiations, objected to the sale plans and to Oceanwood’s participation as a potential purchaser. Citibank desired to act on Oceanwood’s instructions and initiated the case seeking the Court’s direction as to how it should proceed in light of Foxhill’s grievances.
The key argument
Foxhill argued that Oceanwood “controlled” the Norske group and, as a result, Citibank should disregard its vote in any action by the secured creditors (in this case, the noteholders and the lenders under the liquidity facility, both of which were majority held by Oceanwood). Foxhill’s assertions of “control” by Oceanwood were twofold:
- First, by virtue of its majority lender position, Oceanwood had the power to grant or withhold consent to various actions by the group, including the incurrence of additional debt, the approval of certain trade agreements and other actions which would not otherwise be permitted under the covenants set forth in the indenture and other loan documents. Foxhill argued that the ability to exercise single-handedly these majority lender rights put Oceanwood in control of the group so as to bar its vote from being counted under Section 2.09 of the indenture.
- Second, Foxhill argued that various other facts at play in the case rendered Oceanwood in “de facto” control of the Norske group. In particular, Foxhill argued that Oceanwood’s participation in the restructuring negotiations gave it access to information and the ability to negotiate or influence the negotiation of a forbearance agreement and related agreements which was not shared by creditors who were not part of the committee.
The Court rejected Foxhill’s arguments wholesale and ruled that Oceanwood was not in “control” of the group for purposes of Section 2.09 of the indenture. Hence, the sale of the group by Citibank on Oceanwood’s instructions could proceed.
The Court’s decision does not provide a bright-line test for what constitutes “control” for purposes of an indenture disenfranchisement clause, concluding that it is inherently a fact-based analysis. However, the Court did set forth several conclusions which are helpful in guiding investors who are or seek to become majority noteholders in a distress situation:
- First, the Court declined to adopt a narrow “voting control” interpretation of Section 2.09 which would have hinged on equity ownership and instead accepted the argument that de facto control could exist. While it ruled that Oceanwood’s actions did not rise to a level sufficient to result in de facto control, it foresaw the possibility of finding otherwise based on different facts. Thus, courts must consider the entirety of the circumstances and the nature and extent of a noteholder’s influence over an issuer in determining whether the noteholder has de facto control.
- Second, the Court made clear that the control necessary to trigger the disenfranchisement clause must derive from sources outside the loan documents themselves. In a rather caustic summary of Foxhill’s argument, the Court concluded that the assertion that a noteholder should be precluded automatically from voting its interests merely because it had become the majority noteholder was patently absurd. This is a helpful result for many investment funds, particularly in the distressed investment arena, as it makes clear that obtaining a control position in a fulcrum debt security, by itself, will not result in disenfranchisement.
- Third, the Court concluded that negative controlling power (such as the veto power provided by a blocking position in the relevant security) alone will not amount to control for disenfranchisement purposes; some positive ability to direct action of the issuer is required.
- Finally, the Court offers two indicia as to what level of de facto control is necessary to disenfranchise a noteholder. Specifically, the control (A) must come from the “issuer side of the line”—that is, the noteholder must be exercising powers with an equity hat on and not merely pursuing its interest as a creditor—and (B) should be pervasive—that is, it cannot be limited to veto power or limited control over certain transactions.
As aforementioned, while providing no strict test, this case provides a very useful insight into the Court’s future approach towards “control” provisions in New York indentures. It should prove especially instructive for investors who may seek to drive the course of restructuring negotiations or to obtain leverage through blocking positions. For those investors—and their advisors—the Court outlines a helpful roadmap as to the nature and extent of activities which might result in a future disenfranchisement and for how to ensure that the investor remains short of that line.
As a parting comment, we note that Citibank v. Oceanwood was a case brought in an English court to address what is ultimately a question of New York law. It therefore remains to be seen whether a New York court would reach the same conclusion or for the same reasons.