Chapter 15's First Major Case

Background

The tale of the Yukos controversy has been widely reported, so there is no need for an extensive elaboration of the facts of the dispute here. Nor does the author seek to take any position with respect to the dispute. Suffice to say, Yukos had been one of the leading success stories of the Russian economy's conversion to a market-based system, eventually growing to an estimated market capitalization of approximately USD $40 billion. After a remarkable period of growth, an enormous financial and political scandal erupted when the Russian government alleged that the company had evaded paying USD $27.5 billion of taxes and arrested and imprisoned Yukos' CEO, Mikhail Khodorkovsky, who had become a well-known public figure rumored to be interested in challenging the incumbent Russian president in future elections. In response to these developments, members of Yukos' senior management, particularly U.S. citizens, such as Bruce K. Misamore who served as its CFO, elected to manage the company's affairs from outside of Russia.

The Russian government sought to satisfy its purported tax claims through a foreclosure auction regarding Yukos' largest asset, its interests in Yugan-skneftegas ('YNG'). Yukos was not subject to any Russian insolvency proceeding at the time, and instead its management caused the strategic filing of a voluntary Chapter 11 petition in the United States Bankruptcy Court for the Southern District of Texas on Dec. 14, 2004. In re Yukos, 396 B.R. at 399. Through the bankruptcy filing, Yukos sought to invoke U.S. bankruptcy law's automatic stay to enjoin the auction. In addition, Yukos obtained a temporary restraining order ('TRO') from the bankruptcy court which enjoined numerous third parties who were subject to the bankruptcy court's jurisdiction from assisting or participating in the auction and foreclosure sale. Through these actions, Yukos was able to temporarily stymie the Russian foreclosure process because of the unwillingness of the banks involved in the financing of the acquisition of YNG to follow through on the financing in violation of the TRO and automatic stay. Ultimately, however, some of the banks convinced the bankruptcy court to dismiss Yukos' Chapter 11 case and the Russian government sold YNG to Rosneft, a Russian oil company.

The Yukos Chapter 15 Case

After dismissal of the Chapter 11 case, an involuntary bankruptcy proceeding was commenced against Yukos in the Arbitrazh Court of the City of Moscow, Russia, in which the court appointed Eduard K. Rebgun as the interim Receiver of the company under Russian law. Shortly thereafter a new dispute erupted between the Receiver and Yukos' management regarding management's efforts to sell the company's interest in Lithuanian AB Mazeikiu Nafta ('Nafta'), one of Yukos' most valuable remaining investments. According to the Receiv-er, Russian law prohibited Yukos and its management from selling Nafta without the Receiver's consent. Moreover, the Receiver alleged that management had strategically transferred Yukos' interests in Nafta to a Dutch entity outside of Russia and that management intended to use the sale proceeds to discriminatorily and preferentially satisfy the claims of Yukos creditors other than the Russian government and evade the Russian bankruptcy proceeding.

On April 13, 2006, the Receiver commenced a Chapter 15 case in the Southern District of New York seeking a temporary and permanent injunction to, among other things, prohibit Yukos and its management and affiliates from consummating any sale of the Nafta interests without the Receiver's consent. See In re Yukos Oil Co., S.D.N.Y. Case No. 06-B-10775 (RDD). Like the YNG sale, the Nafta involved the sale of a non-U.S. business between non-U.S. parties that was to occur outside of the United States. However, because key members of Yukos' management were subject to the U.S. bankruptcy court's jurisdiction, the injunction strategically sought to block the transaction by preventing such management from facilitating the transaction.

The bankruptcy court granted a temporary injunction prohibiting the sale, which was quickly opposed by Yukos' management, which claimed that the injunction was facilitating an illegal expropriation and dismemberment of Yukos by the Russian government through its agents (which included, according to Yukos' management, the Russian Receiver). Battle had been joined once again, though in a different U.S. bankruptcy court.

The Chapter 15 case created a forum that forced the Receiver and Yukos' management to negotiate. While the Receiver was not ultimately opposed to a sale of Nafta at an adequate price, the Receiver alleged that it could not determine whether an adequate price and a fair sales process had occurred because Yukos' management refused to share information regarding the sale. In addition, the Receiver was concerned that any sale proceeds not be used to pay creditors in a discriminatory manner. The Chapter 15 case permitted the Receiver to pressure Yukos' management to provide such information to him. In addition, the Receiver obtained an opportunity to analyze this information regarding the transaction because the Chapter 15 injunction blocked Yukos' management from consummating a sale without U.S. bankruptcy court permission. Based upon the information that he received through the Chapter 15 case, the Receiver ultimately concluded that the sale price and process was fair and the bankruptcy court permitted the interim injunction to expire.

However, that was not the end of the Chapter 15 case. In addition to discussing the adequacy of the sale process, the Chapter 15 case also provided a forum to address the Receiver's concern regarding the distribution of the proceeds from the Nafta sale. The Receiver sought to ensure that such proceeds would not be applied preferentially and would be, at least in part, available to satisfy the claims of Yukos' creditors in the Russian insolvency proceeding. Ultimately, the parties agreed upon a consensual order that was entered by the bankruptcy court to resolve these issues on May 26, 2006 (the 'Consensual Order'). See Docket No. 83 (Case No. 06-B-10775 (RDD)). The Consensual Order established a process through which the proceeds would escrowed and distributed according to a Dutch court-supervised process for resolution of claims against the proceeds. Among other things, the Consensual Order directed Yukos' management to take the followingcorporate actions: 1) have the proceeds deposited with the bailiff of the Dutch court or in a segregated interest bearing account; 2) seek the release of all encumbrances against the Nafta sale proceeds; 3) request the Dutch court to establish a claims reconciliation process to provide a reasonable opportunity for parties with claims against the proceeds to assert their claims, and 4) request the Dutch court to grant the Receiver standing before the Dutch court to assert the claims of creditors that were subject to the Russian insolvency proceeding.

In addition, the Consensual Order imposed significant reporting and disclosure duties upon Yukos management to provide the Receiver with prior notice and adequate information regarding any future non-ordinary course asset sales of any Yukos entity. The Consensual Order also required the Receiver to: 1) include a copy of Yukos management's proposed plan of reorganization for Yukos in the Receiver's report to creditors in the Russian insolvency proceeding; and 2) take reasonable steps to facilitate Yukos management's attendance at the meeting of creditors to be held in connection with the Russian insolvency proceeding.

At bottom, the Receiver successfully used Chapter 15 as a litigation strategy to block a change-of-control transaction until he had gained sufficient information to become comfortable with the economic and procedural fairness of the Nafta transaction. In addition, the Receiver was able to gain significant informational rights going forward through the continuing notice and disclosure duties that the Consensual Order imposed upon Yukos' management outside of Russia. Furthermore, the Consensual Order and the continuing pendency of the Chapter 15 case also provide a readily accessible judicial forum for the Receiver to litigate any dispute that it may have regarding future asset sales or other issues. Indeed, the bankruptcy court exhibited its willingness to entertain such claims by the Receiver by entering the initial injunction that blocked the Nafta transaction for six weeks based upon the Receiver's assertion that the sale might be improper. So understood, the Chapter 15 case stands in sharp contrast to Yukos' failed attempt to invoke Chapter 11 powers to halt the YNG transaction which resulted in prompt dismissal of that proceeding.

Notably, all of the relief in the Yukos Chapter 15 case was granted without the court ever actually granting 'recognition' to the Russian insolvency proceeding under ' 1517 of the U.S. Bankruptcy Code. Instead, the interim relief and the Consensual Order were entered based upon the court's power to grant interim/temporary relief under ' 1519. See 11 U.S.C. ' 1519. The use of ' 1519 to, in effect, provide comprehensive expedited relief in the Yukos case demonstrates the breadth and flexibility of the relief available under new Chapter 15.

Both Yukos cases sought to harness the power of U.S. bankruptcy jurisdiction to halt otherwise non-U.S. transactions between non-U.S. parties by targeting peripheral parties to the transactions who were subject to U.S. bankruptcy jurisdiction and therefore could be deterred from facilitating the transactions. This innovative use of the new expansive powers under Chapter 15 may likely serve as a model for other contested distressed transactions in the future.

Kurt A. Mayr is a member of the Financial Restructuring Group of Bingham McCutchen LLP. He has represented official committees, creditors, acquirors, debtors and other parties in a variety of complex reorganizations. Further information regarding author be found at www.bingham.com and he can be contacted at [email protected]. The author thanks and acknowledges his colleague Evan Flaschen for his consultation and support regarding this article. Excerpts reprinted from the ABI Journal, Vol. XXV, No. 6, July/August 2006 with permission from the American Bankruptcy Institute (www.abiworld.org).

The continuing drama relating to the demise of the Yukos Oil Company, Russia's leading oil company, has generated two U.S. bankruptcy proceedings that have raised some of the most interesting cross-border insolvency issues in the last year. Both proceedings emanate from the pitched battle between Yukos' management and equity investors, on the one hand ' who assert that the Russian government is expropriating the company for its own benefit in violation of Russian and international law ' and the Russian government and an interim insolvency receiver appointed by a Russian court (the 'Receiver'), on the other hand ' who assert that Yukos' management caused the company to commit a tax fraud of approximately USD $27.5 billion that can only be resolved in a Russian court.

Both sides have extended their litigation campaigns to the U.S. bankruptcy courts in an effort to gain strategic leverage. The first U.S. case involved the voluntary Chapter 11 petition filed by Yukos' management to prevent the Russian government's foreclosure sale of material Russian assets. That case was dismissed by the United States Bankruptcy Court for the Southern District of Texas in a decision that found Russia to be the appropriate forum for resolution of the parties' dispute. See In re Yukos Oil Co., 321 B.R. 396 (Bankr. S.D. Tex. 2005). Shortly thereafter, Yukos was placed into Russian bankruptcy proceedings by its banks, and in a classic 'turnabout is fair play' tactic, the Russian bankruptcy Receiver filed a Chapter 15 case to prevent Yukos' management from consummating their own material asset sales of the company's interests in a Lithuanian oil refinery company.

Like the Yukos Chapter 11 case, the Chapter 15 case represents an innovative effort to use U.S. bankruptcy law as a sword to enjoin the sale of non-U.S. assets by non-U.S. entities to non-U.S. acquirors. Indeed, the only readily apparent U.S. role was the fact that third parties with material roles in the targeted transaction were subject to the jurisdiction of U.S. bankruptcy courts and therefore refrained from taking (or facilitating) actions that would violate a U.S. injunction. This article discusses this creative use of U.S. bankruptcy law as an anti-takeover litigation strategy in the cross-border context.

Background

The tale of the Yukos controversy has been widely reported, so there is no need for an extensive elaboration of the facts of the dispute here. Nor does the author seek to take any position with respect to the dispute. Suffice to say, Yukos had been one of the leading success stories of the Russian economy's conversion to a market-based system, eventually growing to an estimated market capitalization of approximately USD $40 billion. After a remarkable period of growth, an enormous financial and political scandal erupted when the Russian government alleged that the company had evaded paying USD $27.5 billion of taxes and arrested and imprisoned Yukos' CEO, Mikhail Khodorkovsky, who had become a well-known public figure rumored to be interested in challenging the incumbent Russian president in future elections. In response to these developments, members of Yukos' senior management, particularly U.S. citizens, such as Bruce K. Misamore who served as its CFO, elected to manage the company's affairs from outside of Russia.

The Russian government sought to satisfy its purported tax claims through a foreclosure auction regarding Yukos' largest asset, its interests in Yugan-skneftegas ('YNG'). Yukos was not subject to any Russian insolvency proceeding at the time, and instead its management caused the strategic filing of a voluntary Chapter 11 petition in the United States Bankruptcy Court for the Southern District of Texas on Dec. 14, 2004. In re Yukos, 396 B.R. at 399. Through the bankruptcy filing, Yukos sought to invoke U.S. bankruptcy law's automatic stay to enjoin the auction. In addition, Yukos obtained a temporary restraining order ('TRO') from the bankruptcy court which enjoined numerous third parties who were subject to the bankruptcy court's jurisdiction from assisting or participating in the auction and foreclosure sale. Through these actions, Yukos was able to temporarily stymie the Russian foreclosure process because of the unwillingness of the banks involved in the financing of the acquisition of YNG to follow through on the financing in violation of the TRO and automatic stay. Ultimately, however, some of the banks convinced the bankruptcy court to dismiss Yukos' Chapter 11 case and the Russian government sold YNG to Rosneft, a Russian oil company.

The Yukos Chapter 15 Case

After dismissal of the Chapter 11 case, an involuntary bankruptcy proceeding was commenced against Yukos in the Arbitrazh Court of the City of Moscow, Russia, in which the court appointed Eduard K. Rebgun as the interim Receiver of the company under Russian law. Shortly thereafter a new dispute erupted between the Receiver and Yukos' management regarding management's efforts to sell the company's interest in Lithuanian AB Mazeikiu Nafta ('Nafta'), one of Yukos' most valuable remaining investments. According to the Receiv-er, Russian law prohibited Yukos and its management from selling Nafta without the Receiver's consent. Moreover, the Receiver alleged that management had strategically transferred Yukos' interests in Nafta to a Dutch entity outside of Russia and that management intended to use the sale proceeds to discriminatorily and preferentially satisfy the claims of Yukos creditors other than the Russian government and evade the Russian bankruptcy proceeding.

On April 13, 2006, the Receiver commenced a Chapter 15 case in the Southern District of New York seeking a temporary and permanent injunction to, among other things, prohibit Yukos and its management and affiliates from consummating any sale of the Nafta interests without the Receiver's consent. See In re Yukos Oil Co., S.D.N.Y. Case No. 06-B-10775 (RDD). Like the YNG sale, the Nafta involved the sale of a non-U.S. business between non-U.S. parties that was to occur outside of the United States. However, because key members of Yukos' management were subject to the U.S. bankruptcy court's jurisdiction, the injunction strategically sought to block the transaction by preventing such management from facilitating the transaction.

The bankruptcy court granted a temporary injunction prohibiting the sale, which was quickly opposed by Yukos' management, which claimed that the injunction was facilitating an illegal expropriation and dismemberment of Yukos by the Russian government through its agents (which included, according to Yukos' management, the Russian Receiver). Battle had been joined once again, though in a different U.S. bankruptcy court.

The Chapter 15 case created a forum that forced the Receiver and Yukos' management to negotiate. While the Receiver was not ultimately opposed to a sale of Nafta at an adequate price, the Receiver alleged that it could not determine whether an adequate price and a fair sales process had occurred because Yukos' management refused to share information regarding the sale. In addition, the Receiver was concerned that any sale proceeds not be used to pay creditors in a discriminatory manner. The Chapter 15 case permitted the Receiver to pressure Yukos' management to provide such information to him. In addition, the Receiver obtained an opportunity to analyze this information regarding the transaction because the Chapter 15 injunction blocked Yukos' management from consummating a sale without U.S. bankruptcy court permission. Based upon the information that he received through the Chapter 15 case, the Receiver ultimately concluded that the sale price and process was fair and the bankruptcy court permitted the interim injunction to expire.

However, that was not the end of the Chapter 15 case. In addition to discussing the adequacy of the sale process, the Chapter 15 case also provided a forum to address the Receiver's concern regarding the distribution of the proceeds from the Nafta sale. The Receiver sought to ensure that such proceeds would not be applied preferentially and would be, at least in part, available to satisfy the claims of Yukos' creditors in the Russian insolvency proceeding. Ultimately, the parties agreed upon a consensual order that was entered by the bankruptcy court to resolve these issues on May 26, 2006 (the 'Consensual Order'). See Docket No. 83 (Case No. 06-B-10775 (RDD)). The Consensual Order established a process through which the proceeds would escrowed and distributed according to a Dutch court-supervised process for resolution of claims against the proceeds. Among other things, the Consensual Order directed Yukos' management to take the followingcorporate actions: 1) have the proceeds deposited with the bailiff of the Dutch court or in a segregated interest bearing account; 2) seek the release of all encumbrances against the Nafta sale proceeds; 3) request the Dutch court to establish a claims reconciliation process to provide a reasonable opportunity for parties with claims against the proceeds to assert their claims, and 4) request the Dutch court to grant the Receiver standing before the Dutch court to assert the claims of creditors that were subject to the Russian insolvency proceeding.

In addition, the Consensual Order imposed significant reporting and disclosure duties upon Yukos management to provide the Receiver with prior notice and adequate information regarding any future non-ordinary course asset sales of any Yukos entity. The Consensual Order also required the Receiver to: 1) include a copy of Yukos management's proposed plan of reorganization for Yukos in the Receiver's report to creditors in the Russian insolvency proceeding; and 2) take reasonable steps to facilitate Yukos management's attendance at the meeting of creditors to be held in connection with the Russian insolvency proceeding.

At bottom, the Receiver successfully used Chapter 15 as a litigation strategy to block a change-of-control transaction until he had gained sufficient information to become comfortable with the economic and procedural fairness of the Nafta transaction. In addition, the Receiver was able to gain significant informational rights going forward through the continuing notice and disclosure duties that the Consensual Order imposed upon Yukos' management outside of Russia. Furthermore, the Consensual Order and the continuing pendency of the Chapter 15 case also provide a readily accessible judicial forum for the Receiver to litigate any dispute that it may have regarding future asset sales or other issues. Indeed, the bankruptcy court exhibited its willingness to entertain such claims by the Receiver by entering the initial injunction that blocked the Nafta transaction for six weeks based upon the Receiver's assertion that the sale might be improper. So understood, the Chapter 15 case stands in sharp contrast to Yukos' failed attempt to invoke Chapter 11 powers to halt the YNG transaction which resulted in prompt dismissal of that proceeding.

Notably, all of the relief in the Yukos Chapter 15 case was granted without the court ever actually granting 'recognition' to the Russian insolvency proceeding under ' 1517 of the U.S. Bankruptcy Code. Instead, the interim relief and the Consensual Order were entered based upon the court's power to grant interim/temporary relief under ' 1519. See 11 U.S.C. ' 1519. The use of ' 1519 to, in effect, provide comprehensive expedited relief in the Yukos case demonstrates the breadth and flexibility of the relief available under new Chapter 15.

Both Yukos cases sought to harness the power of U.S. bankruptcy jurisdiction to halt otherwise non-U.S. transactions between non-U.S. parties by targeting peripheral parties to the transactions who were subject to U.S. bankruptcy jurisdiction and therefore could be deterred from facilitating the transactions. This innovative use of the new expansive powers under Chapter 15 may likely serve as a model for other contested distressed transactions in the future.

Kurt A. Mayr is a member of the Financial Restructuring Group of Bingham McCutchen LLP. He has represented official committees, creditors, acquirors, debtors and other parties in a variety of complex reorganizations. Further information regarding author be found at www.bingham.com and he can be contacted at [email protected]. The author thanks and acknowledges his colleague Evan Flaschen for his consultation and support regarding this article. Excerpts reprinted from the ABI Journal, Vol. XXV, No. 6, July/August 2006 with permission from the American Bankruptcy Institute (www.abiworld.org).