PE firms and bondholders spar over proposed change to debt law

A battle between private equity investors and minority bondholders has spilled onto the marbled floor of the U.S. Capitol.

On one side are sponsors such as Apollo Global Management, Kohlberg Kravis Roberts & Co and TPG Capital. On the other side are creditors that include Marblegate Asset Management and Oaktree Capital Management.

The fight started over the bankruptcy of a unit of Caesars Entertainment Corp (backed by Apollo and TPG) and a debt restructuring of Education Management Corp (backed by KKR). The row escalated after Apollo and others reportedly lobbied Congress to change the 1939 Trust Indenture Act, which protects the rights of bondholders in out-of-court deals.

If Congress changes the act as proposed, majority bondholders would be in a better position to win concessions from minority bondholders and possibly avoid bankruptcy proceedings. For example, in the case of Education Management Corp, KKR might find it easier to win concessions from Marblegate.

Citing the Trust Indenture Act, creditors involved in $18 billion in unpaid debt for Caesars have complained that the casino company didn’t guarantee the debt of its unit before filing for Chapter 11 bankruptcy of the business earlier this year. Caesars’ creditors include affiliates of Centerbridge Partners, Oaktree and hedge fund Appaloosa Management, Reuters reported.

A change to the act could also impact creditors of Education Management Corp, which reached an agreement to restructure about $1.5 billion in debt in 2014 with its largest creditors, without filing a formal bankruptcy petition. Marblegate held $14 million in debt prior to the restructuring, but did not take part in the deal. Instead, it filed suit against Education Management Corp. That suit remains under appeal after a ruling that favored Marblegate.

A post-Depression law, the Trust Indenture Act is aimed at protecting minority investors from unfavorable deal terms imposed by majority investor groups in bankruptcies or distressed situations.

Lawmakers on Capitol Hill tacked an amendment to the Trust Indenture Act onto the omnibus appropriations rider. Still in play as of December 11, the measure could make it more difficult for some bondholders to fight out-of-court debt restructurings.

Andrew Milgram, managing partner of Marblegate, blamed “backroom lobbying efforts of one or two special interest groups whose sole aim is to overturn several federal district court decisions that were not in their favor,” he said in a prepared statement.

Spokespeople for KKR, Apollo and Education Management Corp declined to comment.

Bradford Cornell, a visiting professor of financial economics at the California Institute of Technology, said in a December 9 memo to Congress that changing the Trust Indenture Act shows a willingness from Congress to “interfere with the reasonable expectations of investors without at least first engaging in an open, rigorous debate.” Cornell also said such a change would set a precedent that “may have a profound negative impact on capital markets.”

Adam Levitin, professor of law at the Georgetown University Law Center, penned a December 8 letter to Congress that was co-signed by 18 other academics. While members of the group differ in opinion on how to amend the act, they agree that “any amendment of the Trust Indenture Act should take place only after legislative hearings and opportunity for public comment.”

Several members of Congress have been lobbied to “narrowly define impairment of the right to payment and the right to institute suit for non-payment,” Levitin said.

Separately, a December 10 letter signed by 20 Republicans in the House Financial Services Committee opposed changing the law without a formal process. As currently proposed, the new measure “would retroactively narrow the rights of bondholders … under the guise of providing flexibility for corporate restructures,” the letter said.

Action Item: See June 15 opinion and order on Marblegate vs. Education Management Corp in U.S. District Court: http://bit.ly/1OmriXw

Action Item: See the letter to Congress from scholars about the Trust Indenture Act proposal: http://bit.ly/1QfZ0no

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