For fourteen years, President Hugo Chavez said and boasted that despite everything, his Government had always paid its bonds on time and honored all international debts. And he was right, even after the 2002-2003 strike, when oil production went down and when oil prices dropped, Venezuela continued paying its bond obligations.
This is no longer the case, as of July 20th. Sidetur, a company whose assets were expropriated by the Venezuelan Government last year, failed to make payment for both interest and capital on its 2016 bond, which has a 10% coupon. Remarkably, the amount owed is peanuts in the context of the country’s debt, as the amount owed today is only US$ 73.75 million plus one quarter of interest payments.
The Venezuelan Government expropriated all of Sidetur’s assets, including its offices and bank accounts, as well as absorbing all of the liabilities of the company, except for the bond. This was all transferred into the Complejo Siderurgico Nacional, in fact, the website under use is nothing more than the old Sidetur website “refurbished” for the Complejo Nacional Siderurgico, but even the documents in pictures, tags on products and the Sidetur “S” in the search function, are derived from the Sidetur website that the Government took over when it forcefully expropriated the Sidetur’s offices, as can be seen below:
While the formal default of the Sidetur bonds took place on July 20th., the reality is that the problem started last January, when the Venezuelan Government failed to make payment into a trust in Deutsche Bank, which is supposed to have two quarterly payments accumulated at all times. Investors sort of assumed that payment would be made before July 20th., as it makes no sense for Venezuela to default on such a small amount of debt, given what is outstanding and that apparently Venezuela and PDVSA plan to issue debt in the future.
What the Government argues is that there is a legal opinion that says that the bonds are the responsibility of the shareholders of Sidetur, or at least that is what was said by the Minister of Industry when the Government first suggested that it had no plans to pay Sidetur’s debt. This is a surprising argument, even if I have not seen the opinion. First of all, shareholders do not issue debt, nor are they responsible for debt issued by the company they own. Second, when company’s fail to pay their debts, bondholders go after the assets, the cash or the cash flow of the company, all of which, in Sidetur’s case, are in the hands of the Venezuelan Government, so that it would be impossible for the shareholders to use them to pay. Third, the Government has not compensated Sidetur’s shareholders for the expropriation. If it had, it would have to take the debt into account and either pay it directly to the bond holders or pay to the the Sidetur shareholders who would the be able to honor the company’s debt. (Technically, the Government expropriated all of Sidetur, but not the company)
But the most surprising thing is that this case is no different than those of Cerro Negro, Petrozuata or Fertinitro, where it was the Government or PDVSA who paid the bondholders, even though it had not compensated the shareholders. Thus, it seems difficult to justify legally in the case of Sidetur that there is any difference.
What is most surprising is the somewhat nonchalant attitude that the Government has assumed on this problem. In the other three cases mentioned above, the Government met with bondholders and a solution was worked out in all cases. In fact, Cerro Negro and Petrozuata never even reached the point of default. However, in the case of Sidetur, there has been no response by the Government to any of the letters of the Steering Committee of the bondholders, nor any answer to their calls.
The only reaction so far by Minister Merentes is that he said that there is a technical opinion that the Government is not responsible for this debt and that he had created a trust to guarantee payment, which in itself seems to be a contradiction. But to the mostly institutional investors in Sidetur bonds, the creation of this trust is mostly irrelevant, as they have clients who will only benefit if the Government actually made payment, not if it makes some vague promise of guaranteeing what it says can not pay.
Investors believed that Minister Merentes would find a more practical solution, given the fact that he is ideologically less rigid and has always looked for not only practical solutions, but also to protect that same image that Venezuela will honor its debts. The simplest such practical solution would be to either pay the bond in full, as the indenture of the bond says should be done if any part of Sidetur changes hands or is sold, or simply pay the quarterly interest and capital payments until the problem can be resolved in full from a practical and legal point of view. Any amount paid to the bondholders could be later subtracted from the compensation given to Sidetur’s shareholders.
It may be that Merentes and his team feel that the default has had no impact on the country’s debt. But they are wrong. Most of the institutional investors that own Sidetur, have much larger positions in Venezuela and PDVSA bonds and are unlikely to buy any more bonds until the matter is resolved. In fact, if they perceive that the Government will not find a solution with Sidetur, they are likely to become sellers of their current Venezuelan positions. This is the last thing the Government wants if it plans to sell new international debt, more so when the existing long term debt has yield to maturity between 10.5% and 12%. The fewer buyers, the higher the cost will be. In fact, some of these investors have begun granting public interviews to express their frustrations with the situation and this is likely to occur more and more in the future. As Ray Zucaro of SW Management says in that interview, there are lots of doubts about the will to pay of the Venezuelan Government.
The bondholders have so far tried to reach out to the Government to find a solution, but they have received no answers. They have done that in the belief in the promise that Venezuela will honor its debts. But as time goes by without anything happening, the bondholders may decide to resort to legal means to obtain payment. And that process can be extremely noisy and negative for the Government, as Argentina has seen with its default and restructuring, which is still creating problems for that country eleven years later. The size of the problem may be smaller, but the legal means would not be too different, which only would be an unnecessary hassle for the Venezuelan Government and PDVSA.
Whatever the future may bring, one thing is for sure, for the first time since Hugo Chavez took over the Government, there has been a default of the Venezuelan Government’s debt, that in itself is a blemish in the country’s record which can not be erased and will have a cost in the future.
Disclaimer: The author of this post has owned Sidetur’s debt since it was first issued in 2006 and thus has an interest in the resolution of the problem :-).
I guess on the eleventh anniversary of the blog, I can write a post out of sheer self interest.