Mutual funds seeking to reclaim assets from overseas companies which default on bonds may enjoy a moral victory but little financial satisfaction from an anticipated U.S. Supreme Court decision.
If the Supreme Court upholds lower courts' decisions barring non-U.S. companies from using assets until U.S. creditors are paid, it will still probably be very hard to enforce the ruling, industry observers say. But, the suit could be the first of many to come and could eventually have an impact on how mutual funds cope with the risk of overseas investments.
Alliance Funds is lead plaintiff in the case in which the court will decide whether a federal judge in New York exceeded his authority when ordering a consortium of Mexican companies not to transfer or assign their right to receive over $300 million in government notes from Mexico.
In August, 1997, a group of U.S. funds sued GMD after it defaulted on an interest payment on notes it sold to institutional investors. The U.S. funds had purchased about $75 million of the notes, according to court documents. The plaintiffs in the suit were three Alliance Funds, six Varde Funds, Elliot Associates L.P. and Avalon Total Return Fund.
The consortium, Grupo Mexicano de Desarrollo (GMD), argued that since GMD had no U.S. assets, the judge lacked the authority to freeze assets outside his jurisdiction.
But, in December, 1997, U.S. District Court Judge John Martin Jr. issued a preliminary injunction that prohibited GMD from transferring or assigning its right to receive $309 million in notes from the Mexican government. The funds' lawyers told the judge that much of the money from the government notes had already been assigned to GMD's Mexican creditors.
In May of this year, the 2nd U.S. Circuit Court of Appeals upheld the judge's injunction and in August, GMD appealed the decision to the Supreme Court. The Supreme Court agreed to review the case at the end of last month. A spokesperson at Alliance declined to comment on the case.
Guy Moszkowski, a research analyst at Solomon Smith Barney who follows brokerage and asset management companies, including Alliance, said that even if the court rules that the injunction was legal, the decision will be difficult to enforce. But the case could still be a harbinger of things to come.
"I think this type of lawsuit is a manifestation of the globalization of the capital markets," he said. "I think we're likely to see more of this in the future as companies are increasing their investments internationally."
Moszkowski added that funds that invest in foreign bonds often expect to be paid more interest because of the "cross-border legal risks" involved. Now, he said, "Some funds might say, Wait a minute, we're going to try to enforce claims the same way as we would in the U.S."