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A recent amendment to Brazil’s judicial reorganisation and bankruptcy law looks set to improve the prospects of foreign commodities financiers and insurers at a time when Covid-19 is driving up insolvencies around the world.

Federal law number 14,112, which came into force on January 23, substantially overhauls Brazil’s insolvency legislation, giving foreign lenders greater certainty over how credits and collateral will be treated in the event of a principal or interest default by local borrowers, or in the event that a local borrower files for judicial reorganisation protection – a process largely analogous to a US Chapter 11 filing.

To understand what this will mean in practice for commodities finance in Brazil, GTR speaks to Lúcio Feijó Lopes, managing partner and head of the trade finance team at law firm Feijó Lopes Advogados.

GTR: What are the main points of note within the new legislation?

Feijó Lopes: Brazilian soft and hard commodities producers and traders rely heavily on foreign structured trade finance lines to fund their exports.

The availability of such hard currency funding lines depends greatly on the Brazilian overall risk, which includes not only the economic outlook of the country but also how credits and collateral held by foreign lenders are treated by Brazilian law and courts.

In this new amendment, there are eight key areas that will affect foreign lenders:

  1. Term of standstill: the law allows the term of initial standstill period of 180 days to be extendable for an equal period, once only, provided that the debtor has not given cause to miss the original term;
  1. Creditors’ judicial recovery plan: if, until the end of the standstill period, no decision on the judicial recovery plan proposed by the debtor is reached, creditors will be entitled to submit an alternative judicial recovery plan;
  1. Credit assignment: a form of transaction widely carried out by foreign creditors in Brazilian judicial reorganisations; the assignment or the promise of assigning a credit must be immediately communicated to the judicial reorganisation court;
  1. Farmers: a possibility not allowed prior to the new amendments, individual farmers can now apply for judicial reorganisation protection;
  1. Labour debts: the new law allows for the payment of labour credits for up to two years, if certain requirements are met;
  1. Fraud to creditors: prior to the amendments, there were no restrictions on companies under judicial reorganisation when it came to paying out dividends to shareholders. Now, the distribution of profits or dividends to shareholders before the recovery plan is approved constitutes fraud to creditors, and is subject to penalties;
  1. New funding during judicial reorganisation: the new amendments facilitate new funding for companies under judicial reorganisation, who can now enter into financing agreements, guaranteed by lien over assets and rights of the debtor or third parties to finance activities and expenses for restructuring or preserving the value of assets;
  1. Transnational insolvency: the new law creates a section on transnational insolvency aiming to regulate co-operation between judges and authorities of Brazil and foreign jurisdictions, improve legal security for investment, protect and maximise asset values of a debtor, and promote the reorganisation of companies in financial distress.

GTR: What does this mean for financiers?

Feijó Lopes: Overall, most of these amendments have improved the status quo for Brazilian and foreign creditors, investors and lenders, although the expectation of the market was that such improvements should have gone even deeper.

Generally, a foreign lender or insurer looks into the structure of the transaction, they look into the collateral package, and they look at the best and worst case scenarios, such as, what happens if the company I am financing files for judicial reorganisation protection. Up until now, around 50% of lenders that have been involved in these proceedings have had a good experience, while 50% have had a bad experience, because the original law had some serious flaws. The main flaw was that while a company was under judicial recovery, you could still pay out dividends to your shareholders when you hadn’t paid creditors. This has now been changed.

Another major change is that once a company files for judicial protection, a lender that is interested in that specific sector or company would likely stay away, since there was no specific provision to protect new lenders to a company. This also meant that companies under judicial reorganisation protection were more likely not to survive, as they were unable to access new funding to continue to do business. The new amendment includes a section that specifically states that if a lender wants to extend a new line of credit to the company, they will be treated as a so-called super creditor and will be paid ahead of everybody else. 

GTR: To what extent are there sufficient numbers of commodity producers currently under judicial reorganisation that this amendment will make a tangible difference to the market?

Feijó Lopes: There are several big companies under judicial reorganisation in Brazil, both in agribusiness, such as sugar, soybeans and cotton, as well as in the hard commodities sector, notably oil. For the companies under judicial reorganisation, this amendment is very good news. It is also good news for foreign lenders, because in conjunction with the liberalisation in Brazil’s agribusiness laws that happened last year, lenders now have new legal structures and new collateral available for commodity financing, as well as reduced credit risk since, in the case of an insolvency, there is a better chance of companies coming out the other side of the judicial reorganisation protection.

GTR: Does this impact insurers, too?

Feijó Lopes: This amendment improves the risk profile of Brazil for these kinds of transactions. When an insurer insures a particular credit facility, it steps into the lender’s shoes to submit its credit in a judicial reorganisation, which would mean that there would be an assignment of credit. Foreign insurers often question whether or not the assignment is valid under Brazilian law, and sometimes this has been disputed in court.

The amendment to this law creates a specific section recognising the possibility of credit assignment, and it states that if there is an assignment it should be immediately communicated to the court. Therefore, insurers that acquire these positions now have greater comfort under Brazilian law.

GTR: What advice are you giving to your clients about the new amendment?

Feijó Lopes: Since this law was signed at the end of December, we have spoken to many clients that will benefit directly from this. The first are foreign lenders and banks that finance commodity trade and are constantly assessing the risk of having their clients file for judicial protection. For them, if there is an insolvency, they will now have a better credit position and greater rights.

The second are foreign lenders or insurers that are already involved in insolvency procedures in Brazil. For these clients, this change improves their rights, and if they choose to extend an additional line of credit to the company in order to help the company survive, or have access to certain strategic assets of the company that can be now used to secure this new financing, this window of opportunity has now opened to them.