Sri Lanka is currently experiencing an economic crisis which has also led to a humanitarian crisis. Among various incidents where Sri Lanka is facing a threat to its reputation in the international arena, the recent decision of the district court in the Southern District of New York in the United States on the case of Hamilton reserve bank Limited v The Democratic Socialist Republic of Sri Lanka has once again drew the attention of the international economy.
As per the complaint and its reliable documentation, in 2012 Sri Lanka entered into an indenture with the US’s HSBC bank. The covered indenture was one billion US Dollars in the aggregate principal amounts of bonds where the indenture and the bonds are governed by the law of New York. While Hamilton Reserve Bank which loaned more than US$250 million in principal amount made to Sri Lanka, where no payment had been made after April 12, 2022 following the announcement of a moratorium on foreign debt repayments. As per the allegation of Hamilton Reserve Bank, the aforesaid loan was defaulted by Sri Lanka, whereas the island nation owed US$250m and 190, 000 in principal and thus, US$7million 349,331.25 have been accumulated as accrued interest.
Even though the CEDE & COMPANY is the registered bondholder, Hamilton Reserve Bank claims to be the beneficial owner rather than the bondholder. Through a letter dated September 23, 2022, CEDE authorized Hamilton Reserve Bank to exercise any right that the CEDE & Co holds as the holder of records. The suit raises a number of questions. First, is section 5.7 of the indenture containing a no-action clause, which provides that a holder cannot bring in a suit unless certain enumerated conditions are satisfied including that holder of at least 25% of aggregate outstanding principal have made a written request to the trustee to the institute’s proceedings in its name and have granted reasonable indemnity.
Furthermore, another legal issue was regarding the violation of Pari passu clause contained in section 3.1 of the indenture.
As per the provisions of the indenture, section 1.21 states the restrictions on the power granted by the indenture. Section 3.8 states that Sri Lanka may treat CEDE as the owner of the bonds, owner for all purposes and shouldn’t be affected by the notice for the contrary. Further section 5.8 stipulates the rights of the holder to bring an action to obtain the payment. Hamilton Reserve Bank filed an action on June 21, 2022 and Sri Lanka filed the motion to dismiss the complaint on September 21. The court allowed the plaintiff to amend its complaint on September 22. On September 23, the plaintiff received the authorization of the CEDE & Co. On October 13, the amended complaint filed by CEDE alleged that Sri Lanka breached the contract on the non-payment of the bond at maturity. Sri Lanka renewed its motion to dismiss in October and the motion was fully submitted on December 16, 2022.
Another important legal matter concerned is that, fundamentally, if a motion needs to be dismissed for failure to state a claim, “the complaint should plead sufficient facts to state a claim to relief that is plausible on its face” by referring the cases of Green vs Department of education of New York and some other decided cases. Further, the court stressed that “a claim has facial plausibility when the plaintiff pleads factual content that allows the court to draw the reasonable inference that the defendant is liable for alleged misconduct” by referring to Bell Atl. Corp. v Twombly. Further, the court cited the principle from the Melendez v City of New York and accepted “all factual allegations as true’ and “drawing all reasonable inferences in favour of the plaintiffs.
One of the important legal issues presented in the case is, “whether the authorization of CEDE confers upon Hamilton Reserve Bank standing to sue, given the absence of a contractual provision expressly allowing such authorization and the presence of the Negating clause. None of the courts dealt with the case addressed this question. However, the Circuit’s decision in Applestien Vs province of Buenos Aires establishes Hamilton Reserve Bank’s standing to sue where the defendant contended that the indenture at issue reserved the right to sue to the registered holder only and that the plaintiff, who was a beneficial owner, but not the registered holder who did not have the standing to sue and obtained ineffective permission to sue from the registered holder because it was obtained after the action was initiated.
In the view of the court as per the laws of New York’s law that contracts are freely assignable absent language which expressly prohibits assignment and the court followed its tradition of extending the principle set out by the Appelstein vs province of Buenos Aires to contracts that do not include an authorization provision and to contracts that include a negating clause. Further, the court admitted that the plaintiff had to stand in circumstances just difficult as those present in this case.
Further, the court denied Sri Lanka’s argument that the authorization of CEDE is defective on its face. And the argument of Sri Lanka failed and the plaintiff is entitled to take any action that can be taken by the CEDE as well and Sri Lanka’s motion on October 4, 2022 was denied.
Now as the court denied accepting the motion of Sri Lanka, the case is continuing. As per the press release of the finance ministry, ‘Sri Lanka is looking forward to discuss the case with the court on that date and stated that Sri Lanka cannot make any further comment on this until the status conference on April 20, 2023. In the history of Sri Lanka, it is the First sovereign debt default by the country since it gained independence in 1948.
In the view of the plaintiff, the default is being orchestrated by officials at the highest level of the government who accused Sri Lanka of excluding bonds held by domestic banks and other parties who have an interest in an announced debt restructuring. As per President Ranil Wickremesinghe’s recent speech in parliament, ‘the financial health of banks in Sri Lanka was one of the biggest issues the nation has faced’.
The verdict of this case makes a crucial impact on the existing debt crisis of the country; simply the outcome of this case can cause damage to country’s reputation. As a result of this, Sri Lanka’s stake holders stand to be paid principal and interest in full. The enforcement of the award may affect the confidence of the investors and make harder for it to receive debt or barrow money it needs in the international market. Also, this could harm the economy and the jeopardize the confidence over the Sri Lankan currency. Also, this could demotivate the foreign investors and refrain them from making new investments within the country. But Sri Lanka, as a developing state, it should rely on the foreign investment for its economic development. Even though the concerned officials are refusing the fact that country is currently in a default and contending to restructure the debt, generally whenever a government is unable to meet some or all of their debt repayment to the creditors, it is called default which is already referred as “pre-emptive default” by the governor of South Asian nation’s central bank. On this basis the country is heading towards a rather critical situation.
Now, as Sri Lanka have hired Lazard Limited and Clifford Chance LLP to serve as financial and legal advisors on debt restructuring as the country seeks a bailout from the IMF, could expose a silver lining on some improvement to the crisis that the nation is faced with.
Diloginy Moses
(The author has obtained an LLB (Hons.) from the Department of Laws, University of Jaffna, Sri Lanka and currently she is reading for LLM at South Asian University in New Delhi, India)
