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In finance, a holdout problem occurs when a bond issuer is in default or nears default, and launches an exchange offer in an attempt to restructure debt held by existing bond holders. Such exchange offers typically require the consent of holders of some minimum portion of the total outstanding debt, often in excess of 90%, because, unless the terms of the bond provide otherwise, non-consenting bondholders will retain their legal right to demand repayment of their bonds at par (the full face amount). Bondholders who withhold their consent and retain their right to seek the full repayment of original bonds, may disrupt the restructuring process, creating a situation known as the holdout problem.
The contractual terms for obligating all bondholders to accept a restructuring approved by some supermajority is typically spelled out in what are known as Collective Action Clauses, or CACs. In some jurisdictions, CACs or their equivalents are required under local law, but this is not a universal practice. CACs can represent additional borrowing costs for lenders while conversely, borrowers may seek lower debt costs without CAC protection but this exposes them to holdout conditions and potential damaging and expensive litigation which in the case of post-2001 Argentina essentially locked that country out of access to conventional international financing.
The "holdouts" gamble that the restructuring will take place despite the lack of their consent, potentially leading to full repayment of their bonds, while other bondholders receive reduced payments according to the terms of the restructuring. If the restructuring does not take place, they gain nothing, but holdouts may initiate damaging litigation that results in extremely high costs in direct and indirect economic injury to the debtor.
The claims of the holdouts may be insignificant enough, and bothersome enough, that the issuer may satisfy them in whole simply not to be bothered.
Where bondholders are widely dispersed, as is often the case, it can be difficult to contact many holders. Further, many holders of small amounts of bonds have little incentive to invest the time and energy in evaluating the terms of the exchange offer. These factors represent substantial difficulties in obtaining the minimum consent levels.
Sovereign debt restructuring could be tantamount to an admission of emerging market status.
An August 2013 appeals court ruling in Argentina v. NML Capital, 12-1494, determined that holdouts should be repaid the full face value, but without the losses taken by those who had accepted the 2005 and 2010 swaps at a 70%-75% discount. In October 2013 the Supreme Court affirmed the decision without comment. A second decision of the 2nd Circuit which prohibits payments to creditors who did accept the swap if holdouts are not paid was on appeal to the full panel as of October 2013. This case may also be appealed to the Supreme Court. Enforcement of the decisions is stayed pending a final Supreme Court decision. Courts in Belgium, France, and Germany have backed Argentina on the basis of the Pari passu clause, however. The lack of legal certainty is U.S. courts prompted Argentine officials to propose placing the restructured bonds in question under Argentine law, while concurrently announcing a renewed bond swap offer. However, court decisions outside the US had no bearing on Argentina's debt obligations, since Argentina had sold their debt under US law.
The possibility that holdout creditors can attach future payments on restructured debt and receive better treatment than cooperating creditors distorts incentives and can derail efforts for a cooperative restructuring. It is likely to be of particular importance in cases in which the creditors are being asked to accept substantial debt and debt service reduction. However, it is unclear given the special circumstances of the Elliot case whether it will be broadly applicable to holdouts in other restructurings. The new Argentine government elected in late 2015 gave indications of its willingness to negotiate with the set of thousands of holdout creditors. The Argentine situation has increased awareness of the utility of Collective Action Clauses in preventing or reducing holdout complications in debt restructuring.
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