The Fall of OGX
Former billionaire Eike Batista’s oil firm OGX filed for bankruptcy protection in late October 2013 after OGX had defaulted on a $45 million bond payment earlier in the month.[1] On October 30th, 2013, OGX Petróleo e Gás Participações S.A. (“OGX Participações”)[2] and OGX Petróleo e Gás S.A. (“OGX Petróleo e Gás”), both Brazilian companies; OGX International GMBH (“OGX International”), an Austrian company; and OGX Austria GMBH (“OGX Austria”), also an Austrian company, filed for reorganization before the Fourth Business Court of Rio de Janeiro (RJ). The filing was the largest default in Latin American history, and outstanding debt equaled about $5.11 billion, with $3.6 billion owed to foreign investors, bondholders.[3] Within 20 months of its 2008 IPO, OGX engaged in the largest private sector exploratory campaign in the history of Brazil.[4] Investors began retreating from the firm when OGX failed to produce significant amounts of offshore oil despite reporting finds and after it lowered its projections from 1 billion barrels to just 285 million barrels.[5] By the second quarter of 2013, OGX reached an average output of only 8,500 barrels per day with losses of more than $2.5 billion.[6]
Affiliated Foreign Debtors
The debtors made a request to the business court to administer the bankruptcies of the Austrian subsidiaries, OGX Austria and OGX International. OGX Participações, which is a holding company, held 99.99 percent of the shares of OGX Petróleo e Gás. OGX Participações also held the direct and indirect control of OGX International and OGX Austria, respectively. The companies argued that OGX International and OGX Austria were mere financial vehicles of the Brazilian companies, created for the purpose of securing financing outside of Brazil, and that the Austrian companies had no assets, no operational activity and no autonomy vis-à-vis OGX Participações, which was responsible for all decisions regarding the business of the Austrian companies. As such, they requested that the Austrian subsidiaries be included as affiliated debtors in the Brazilian proceeding. OGX further argued that OGX Participações was a guarantor of the financing agreements entered into by the Austrian companies and that the operational activities of the group were developed in Brazil. The OGX lawyers argued that because of the relationship between the parent and its affiliates that the Austrian companies should be managed by the Brazilian insolvency proceeding.
Business Court Decision
The lower court allowed the OGX Participações and OGX Petróleo e Gás requests to be processed under Brazilian insolvency laws, but rejected the petitions filed by the Austrian companies under the argument that the court had no jurisdiction to deal with the reorganization of foreign companies. The court argued that if the reorganization of the Austrian companies was granted and they do not comply with the terms of the reorganization plan, the court could not enforce their findings by placing the foreign companies into bankruptcy, creating an unacceptable legal advantage to the Austrian affiliates. Additionally, the court said, reorganization in Brazil would create uncertainty because it would subject foreign creditors to payments in a different country and subject them to jurisdictional laws that are different from the ones agreed upon by the parties in their agreements.
The main rationale for the court’s decision, however, was that Brazilian law cannot be applied and its remedies used to protect foreign companies without violating the sovereignty of each country. The court explained that the request to administer the Austrian entities did not involve a simple harmonization of cross-border insolvency proceedings for which the parties could make use of chapter 15 (the Austrian companies and the bondholders chose the U.S. Bankruptcy Court of the Southern District of New York as the venue for any litigation). The court found that administering the Austrian companies would result in an impermissible extraterritorial action on behalf of the court.
The lower court also did not find that there were circumstances that warranted the abandonment of the corporate protections of the Austrian entities through piercing the corporate veil under Brazilian law. As in the U.S., the “piercing the corporate veil” doctrine has been developed in Brazil to curb misuse of the legal entity and shall be applied, as a general rule, in cases where the legal entity is used in a manner that deviates from the purpose of having a legal entity, which is to segregate the legal status, including liabilities, of the legal entity from that of its shareholders. Article 50 of the Brazilian Civil Code allows the court to disregard the legal entity in cases where there has been (1) a deviation from the purpose of the legal entity as it occurs, such as where shareholders use the company for the purpose of committing acts that are forbidden to them by law or contract or (2) the commingling of assets.[7] The lower court ruled that no abuse was present, and quoted from prior rulings by the Supreme Court to justify its ruling that there were no grounds to pierce the corporate veil of each of the companies, and thus pull the Austrian companies into the Brazilian proceedings. The debtors appealed this decision.
Court of Appeals
On Feb. 19, 2014, the Fourteenth Chamber of the Court of Appeals of the State of Rio de Janeiro ruled in favor of the debtors, reversing the decision of the lower court. The appeals court based its decision on the arguments that (1) the foreign companies only served as vehicles for the Brazilian companies to issue debt securities and raise money outside of Brazil with the purpose of exploring and producing oil and natural gas in Brazil; (2) the foreign and national companies formed a single economic group for the purpose of developing a single business activity; (3) the foreign companies do not have subsidiaries, branches or agencies in Brazil because they are subsidiaries of a Brazilian company that was ultimately responsible for the payment of the bonds issued outside Brazil; (4) creditors appeared not to be against the reorganization in Brazil, and OGPAR had already entered into an agreement with the biggest international creditors to recapitalize the company.
The appeals court found that the synergy between the Brazilian and foreign entities, and the fact that Brazil was the main center of the business, were controlling facts in its decision. The synergy manifested itself in the fact that the Austrian companies were subordinated to the parent, and the court agreed with the argument that the Austrian entities were simply financing mechanisms, with no other purpose, that served the operations in Brazil. The court explained that because the relationship was clearly one of subordination and not coordination, the main business establishment under Brazilian law for all the entities was in Brazil.
The appeals court referenced the current debate on the need to amend Brazilian bankruptcy law in order to include provisions dealing with cross-border insolvencies, and found that the reorganization of the Brazilian and Austrian companies in Brazil was necessary, given the circumstances of the case, to ensure the turnaround of the companies. The circumstances of the case are very fact-specific, and the impact of the OGX insolvency on the Brazilian economy has been and will be significant, so some might wonder whether the size of the case had some influence on the outcome of the decision.[8] However, the case is itself significant and poses questions, such as whether or not the decision is enforceable outside of Brazil. The Austrian companies apparently have no assets, but what would happen if they had assets in other countries? Would other courts accept the arguments and assumptions that the Brazilian Appeals Court adopted to hold that the Austrian companies had their main place of business in Brazil, even though they do not have any operations or place of incorporation in Brazil? The Brazilian bankruptcy law states:
Article 3. The courts of the venue of the main establishment of the debtor or the branch of a company headquartered outside Brazil are competent to ratify extrajudicial recovery plans, grant judicial recovery or decree bankruptcy.
Would the OGX court’s reasoning be convincing to a U.S. or European court, especially in light of Article 3?
These questions make OGX the beginning of the analysis and not the end, and it will be interesting to see how far the reasoning of the opinion can be stretched if facts are slightly different in the future.
[1] Augustino Fontevecchia, “Death of the Brazilian Dream: Ex-Billionaire Eike Batista's OGX Files for Bankruptcy,” Forbes, Oct. 30, 2013. The OGX case can be followed at www4.tjrj.jus.br/consultaProcessoWebV2/consultaProc.do?v=2&FLAGNOME=&back=1&tipoConsulta=publica&numProcesso=2013.001.333343-2.
[2] OGX Participações later on changed its name to Óleo e Gás Participações S.A. – OGPAR. OGX was a publicly held Brazilian company, with its shares listed at BM&F BOVESPA.
[3] See Fontevecchia.
[4] See http://moneymorning.com/2011/07/28/ogx-petroleo-e-gas-participacoes-sa-….
[5] See www.dw.de/brazil-oil-giant-ogx-bust-in-biggest-latin-america-bankruptcy….
[6] Id.
[7] Federal Law No. 10,406/2002.
[8] Brazil's Oleo e Gas Participacoes SA reported that Brazilian buyout firm Cambuhy Investimentos bought shares worth 199.9 million reais ($87 million) that it held in Parnaíba Gás Natural, formerly known as OGX Maranhão. See www.reuters.com/article/2014/08/08/brazil-batista-parnaiba-idUSL2N0QE05S20140808