Equitable subordination one step forward

The story of Spanish restructurings is one where the law has followed the creative activity of players in the market pushing the borders to achieve a flexible restructuring environment that is now commonly regarded as a very useful tool. In this context there have been some names that "keep on giving", which is clearly the case of Marme. A recent court ruling by the Provincial Court of Madrid provides some clear guidance (unless there is an appeal to the Supreme Court) on equitable subordination of lenders linked to the exercise (or the possibility of exercising) voting rights in the borrower and some lessons learned for future restructurings (and structuring new money transactions).

As is widely known, Marme Inversiones 2007, S.L. (a company wholly owned by a double Dutchco structure made up of Delma Projectontwikeling, B.V. and Ramblas Investments, B.V.) entered into a sale and lease-back transaction with Banco Santander in respect of the latter's headquarters in Madrid. For the purposes of financing the acquisition a series of lenders granted a secured senior facility to Marme and executed with it certain interest rate hedging instruments, and the credit institution then named The Royal Bank of Scotland plc ("RBS") granted a junior loan to Ramblas, secured by a pledge shares representing the aggregate capital of Ramblas. The most relevant element for the purposes of the case is that the pledge foresaw that the voting rights in respect of the shares in Ramblas would be vested on the pledgee upon an event of default provided always the pledgee notified the shareholders its intention to make use of such voting rights. The notice was filed on 6 January 2011. The Insolvency Court considered RBS' claims as equitably subordinated on the basis of the following:

• RBS could be deemed to hold direct or indirect control over Marme at the time RBS' claims were incepted and hence could be deemed a group entity, on the basis that such control didn't have to be actual but could be potential as requested by the Spanish legal definition of "control" for the purposes of civil law.

• The rationale for that would be that the pledge was executed the same day as the senior facility, the junior facility and the interest rate swaps, and it was foreseen that RBS could exercise voting rights upon an event of default and notice from RBS to the pledgors. The Insolvency Court understood that the fact that such ability was already built into the pledge amounted to "potential control" of the company, hance considering RBS' claims to be equitably subordinated.

• Whilst when dealing with equitable subordination on the basis of shareholdership there is a clear reference to it affecting those claims incepted in the preceding two years, such time limitation is not applicable where the equitable subordination stems from control.

The Court of Appeal has however taken a different stance: according to the ruling, the fact that a pledgee is entitled to exercise voting rights in the company the shares of which are pledged in the event the secured obligations by the pledge have been breached and the pledgee notifies the pledgor of its intention to be vested with the voting rights does not amount to potential (nor of course actual) control: the right to be vested with the voting rights would only arise once the relevant conditions have been fulfilled (in the case at hand, an event of default and notice by the pledgee to the pledgor). The court of appeal further indicates some useful guidelines:

(i) the obtained control needs to be effective;

(ii) such effective control exists where the ability of the pledgee to exercise such control in only dependant on its will: therefore, if such exercise is dependant on a condition precedent out of its control (such as occurrence of an event of default) such potential control would not exist;

(iii) likewise, if the control is only dependant on the pledgee serving a notice it would be deemed to be potential control; and

(iv) even if the case in (iii) above where applicable, such control would be irrelevant if it only arose after the inception of the claim.

Therefore, the rulings casts some light on the requirements for equitable subordination due to the vesting of voting rights and provides substantial aid to structure future deals.