Imagine a debt exchange. The issuer-likely distressed-wants to restructure its balance sheet to push out maturities or preserve liquidity. This might be a good deal to some bond series, but not others. Or it could divide bondholders in the same series.
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When some bondholders refuse a "voluntary" transaction like this, they end up in court. One side will ask the court for a preliminary injunction to block the transaction or force it through. Winning such a court battle can bring huge benefits, but there are risks. Recent cases teach lessons, summarized here, that can inform bondholders and issuers in similar situations.
Most of the time, the court does not step in.
It does happen. In 2016, for example, a court ruled for iHeartMedia, Inc., and blocked dissenting bondholders from pursuing notices of default. More often, though, courts do not grant injunctions. They have ruled against bondholders opposing transactions in four recent cases, involving Education Management Corp. (Marblegate v. Education Mgmt. Corp., 75 F. Supp. 3d 592 (S.D.N.Y. 2014)), Hovnanian Enterprises, Inc. (Solus v. GSO, No. 18 CV 232 (S.D.N.Y. Jan. 29, 2018)), J. Crew Inc. (Eaton Vance v. Wilmington Sav. Fund Soc’y, No. 654397/2017 (N.Y. Sup. Ct. June 29, 2017)), and Norske Skogindustrier ASA (Citibank v. Norske Skogindustrier ASA, No. 16 CV 850 (S.D.N.Y. Mar. 8, 2016)). A court also ruled against bondholders supporting a transaction, in a case involving Arch Coal, Inc. (GSO v. Wilmington Trust, No. 653110/2015 (N.Y. Sup. Ct. Oct. 16, 2015)). In the related context of an early redemption, the court in Chesapeake Energy v. Bank of New York Mellon, No. 13 CV 1582 (S.D.N.Y. Mar. 14, 2013), refused to grant an injunction requested by the issuer.
The key is “irreparable harm.”
These courts have denied injunctions mainly because, without the injunction, there would be no “irreparable harm.” (The iHeart court, which granted an injunction, did not record its reasoning.) Courts are in the business of “repairing” harms by making the defendant pay for something it has already done. Thus, a request for an injunction—to prevent harm before it happens—is unusual. Courts expect parties requesting injunctions (plaintiffs) to suffer the harm first and sue later. The exception is for harms that are “irreparable” by money after the fact, like dredging of a coral reef. In bond cases, courts often believe that only money is at issue. Thus, the logic goes, if a transaction (or lack thereof) makes a bondholder worse off, courts can force the transaction’s proponents (or opponents) to compensate the bondholder after the fact. Applying this logic, courts have ruled that there is no need for an injunction to block (or authorize) the transaction.
The cost and complexity of future litigation may not matter.
Often, the reason to seek a preliminary injunction is that suing for money after the fact would be more costly and complicated. The plaintiffs in the J. Crew case, for example, argued that unwinding the proposed transaction would require stripping new secured bonds of collateral. And remedying the feared harm in the Chesapeake Energy case would have required suing all of the bondholders that had received a redemption premium. Such costs and complexity, however, have not persuaded courts that the harm in these cases was “irreparable.” As the Arch Coal court stated, it is “not sufficient” that “any claim for money damages . . . would be more complex to prove.”
The issuer’s impending insolvency may not matter.
Courts recognize that suing for money after the fact is generally not an option if the defendant is bankrupt. And, in many bond cases, the issuer is on the brink of insolvency. But even this fact may not prompt courts to enter injunctions. Courts in the Education Management and Norske Skog cases assessed how the issuers’ bankruptcies would likely play out and concluded that the plaintiff bondholders could recover despite bankruptcy.
Being right may not matter.
To support their injunction requests, plaintiffs argue that the governing laws or contracts are on their side. Sometimes, the court agrees. In the Norske Skog case, for example, the court ruled that the exchange offer the plaintiff opposed “is explicitly prohibited by the Indenture.” Similarly, in the Education Management case, the court ruled that the Trust Indenture Act protected the plaintiffs from the proposed restructuring. Even so, these courts denied the injunctions sought, because there was no irreparable harm. The courts expected the plaintiffs to come back and sue for money after the transactions went through.
Although these cases are instructive, future cases may turn out differently. For one thing, most of these cases arose in New York; the law in other jurisdictions may differ. For another, courts pay careful attention to the unique facts of each case. Parties facing potential litigation should consult a lawyer about these issues and others that can arise in bond litigation, such as “no-action” clauses in indentures.
About The Author
Joshua S. Bolian is an attorney at Robbins, Russell, Englert, Orseck, Untereiner & Sauber LLP. Disclosure: The author was counsel to the plaintiff in the Arch Coal case. The author’s law firm was counsel to the plaintiffs in the Education Management Corp. case.
