Wringing Oil from a Stone: The Difficulties of Seizing State-Owned Assets to Satisfy Venezuela’s Debts

Thursday, November 30th, 2017 at 11:19 am, by Riley Hanrahan

Recently, I attended oral arguments for a case involving the alleged non-payment of Peruvian bonds issued in the 19th century. What proved to be more compelling than the actual arguments were the not infrequent slipups of the parties as they accidentally referred to the country in question as Argentina, rather than Peru. Certainly, this was an understandable mistake, given the prominence of the default-related litigation against Argentina over the past decade. With Argentina having settled with its creditors and returned to the bond market, the new focal point in Latin America is likely to be Venezuela, which has recently been declared to be in default, and, as of mid-September 2017, has liabilities of at least $196 billion.

Regardless of the outcome for the vulture funds that pursued Argentina, one of the clear takeaways from that episode was the difficulty a creditor is going to encounter in holding out from negotiations with a sovereign debtor and attempting to enforce the pre-default claim. Famously, NML Capital seized an Argentinian naval vessel while it was docked in Ghana, and bondholders attempted to seize the Argentinian presidential airplane. While the difficulty in satisfying any claim provides a major incentive for bondholders to participate in negotiations and accept restructured debt, such an outcome seems highly unlikely with respect to Venezuela. The meeting President Nicolas Maduro had called with creditors immediately preceding S&P’s declaration of default was entirely unproductive, lasting only 30 minutes and focused largely on speeches expressing the Maduro administration’s disdain for Donald Trump, and there is little reason to believe the current Venezuelan regime will strike a more conciliatory tone going forward. Furthermore, US sanctions against much of the Venezuelan leadership mean that many creditors are essentially precluded from meeting for restructuring negotiations. Consequently, it is likely that creditors will ultimately find themselves in the same position as Argentina’s creditors several years ago, looking to the possibility of seizing governmental assets in order to satisfy debts, or at least to force the sovereign into good faith negotiations.

In the Venezuelan instance, there have been suggestions that there may not be the same impetus to steer clear of the asset seizure route, given the scope of the state-owned assets, most notably the state-owned oil company Petróleos de Venezuela, S.A. (“PDVSA”), many of which are outside Venezuela. Though dramatically down from the years before, PDVSA’s revenues amounted to $48.0 billion in 2016. Citgo, the Houston-based subsidiary of PDVSA, is estimated to be worth several billion dollars. Yet for all of these apparent reasons for optimism on the part of creditors, it is far from clear that the seizing of Venezuelan state-owned assets will be any easier than that encountered in the case of Argentina, for two main reasons.

First, U.S. law presents a substantial barrier to creditors in this scenario. The Foreign Sovereign Immunities Act affords protection to the property of foreign states and their instrumentalities in the United States, granting them immunity from attachment and execution. PDVSA is directly owned by the Venezuelan government, and therefore likely qualifies as an instrumentality protected under FSIA. Consequently, creditors must focus on assets such as Citgo or other PDVSA holdings that are not protected by FSIA. This raises a separate challenge, however, as “Venezuela and PDVSA (and Citgo) are different entities, each with their own debts, and it’s not obvious that you can go after PDVSA for the debts of Venezuela.” In order to make out a claim, creditors must overcome the presumption that instrumentalities established as separate legal entities in fact operate as “alter egos” of the sovereign, and can therefore be held as responsible for the sovereign liabilities.  The Supreme Court has held that an alter ego relationship exists where the: “corporate entity is so extensively controlled by its owner that a relationship of principal and agent is created,” or the recognition of the entity as legally distinct “would work fraud or injustice.” Given the presumption that the entities are distinct, this is a substantial barrier to overcome.

Beyond these legal obstacles that must be overcome, there is a more practical barrier to satisfying debts by going after PDVSA, namely the ability of the Venezuelan government to effectively wipe out all of PDVSA’s assets, thus leaving holdout debtholders with “claim[s] on an empty box.” Venezuela could transfer the valuable assets PDVSA holds (its oil concessions, infrastructure, and operators) to a new entity, leaving PDVSA with few assets, but all of its liabilities. The assets transferred would be governed by Venezuelan law, and are generally located on Venezuelan territory, making any seizure next to impossible. A holdout creditor may argue that the government has then become the successor obligor of the PDVSA debt, but even if this argument is successful, it will still just leave the creditor with a claim against the Venezuelan government. Even if creditors pursue those PDVSA assets outside of Venezuela, they are estimated to be worth only a few billion dollars, given how much has been borrowed against them, amounting to a small fraction of the relative debt. On the topic of attempting to PDVSA’s overseas assets, Jay Newman, the hedge fund manager who oversaw Elliot Management’s battle against Argentina, has advised that “It’s a very expensive, time-consuming, and difficult process that’s fraught with pitfalls. It’s not for the faint of heart, and very few firms have the skills, long-term commitment — and the stomach — for that kind of activity.” Additionally, observers have noted that Venezuela could attempt to put PDVSA into Chapter 15 US bankruptcy protection in order to protect its most valuable assets, and then default on its obligations.

In light of these obstacles, it seems clear that the seizure of foreign assets is not the magic bullet some creditors have imagined. Nevertheless, there have been some moves towards doing just that. Most notably, Crystallex International Corporation, which received a $1.4 billion judgment from the District Court for the District of Columbia in relation to Venezuela’s expropriation of its mining operations, has initiated proceedings to collect on its judgment from the assets of PDVSA, particularly Citgo. Separately, Crystallex has obtained a writ of attachment against Venezuelan funds held in escrow at the Bank of New York Mellon.  In order to do so, Crystallex must meet the standard for demonstrating that the entities in question are alter egos of the Venezuelan Republic, and can therefore be attached to satisfy their judgment.  Regardless of the outcome of that proceeding (oral arguments are scheduled for December 5, 2017), and even though the total amount of foreign assets is far below the country’s total liabilities, it is highly probable that, absent a change in Venezuelan leadership, similar litigation to seize Venezuela’s overseas assets will take place. It is likely that, in 15 years, it will be Venezuela, rather than Argentina, that attorneys mistakenly refer to at oral arguments.