Opportunistic bondholders' claim dismissed, with documentation interpreted objectively

The interpretation of bond documentation has received the necessary attention over recent years. Large European companies such as Annington, Just Eat Takeaway and TenneT have faced opportunistic bondholder behaviour in the context of event of default clauses. To determine if these types of provisions in bond documentation have been triggered, it is crucial to understand how they must be interpreted. 

In the Netherlands, the Amsterdam Court of Appeal recently confirmed that bond documentation governed by Dutch law must be interpreted in accordance with objective criteria. In principle, the wording of the provision is of decisive importance, making the intentions of the parties who prepared the documentation less relevant. 

In this article, we summarise the facts leading to the ruling and explain the most relevant parts of the court's reasoning and what this means for the market. But first a few notes on the key interpretation standards under Dutch law.

Legal framework for interpreting bond documentation

Bond documentation governed by Dutch law must be interpreted in accordance with Dutch law. Based on longstanding Supreme Court case law, the general Haviltex standard is, in principle, applied when interpreting an agreement, with the intentions of the parties and their reasonable expectations being decisive. 

However, for contracts that by nature affect third parties who did not negotiate the contract's wording and cannot discern its intended meaning, the stricter CAO norm applies instead. This means the contract is interpreted more objectively: the provision's wording, read in light of the entire contract and its nature and purpose is generally decisive. We will come back to this later on. 

Underlying facts of the case

An issuer of perpetual bonds with floating rate interest sought to amend how the interest was calculated in the bond documentation through a consent solicitation since the reference rate used to calculate the floating interest rate was discontinued. However, as the required quorum of bondholders was not met, the issuer terminated the consent solicitation. Instead, and to avoid a situation in which no interest rate could be established at all, the trustee under the bonds unilaterally determined the interest rate based on a fallback provision that was included in the bond documentation. 

A group of bondholders challenged this approach, arguing that the trustee had effectively amended the bond documentation without the required bondholder consent. The bondholders started proceedings against both the issuer and the trustee, seeking, in essence, (a) a declaratory ruling that the unilateral change of the interest calculation violated the bond documentation, and (b) compensation for damage suffered.

Key parts of the ruling

No Action Clause prevents bondholders from starting proceedings against the issuer

The issuer invoked the "No Action Clause" in the bond documentation, stipulating that bondholders cannot bring proceedings against the issuer directly, and that this falls within the trustee's exclusive domain instead. In turn, the bondholders argued that in this case, the trustee had an inherent conflict of interest in bringing proceedings against the issuer. Relying on the No Action Clause would therefore be unacceptable according to standards of reasonableness and fairness, according to the bondholders.

The court upheld the issuer's defence and declared the bondholders' claims against the issuer inadmissible. The No Action Clause provides bondholders with a contractual mechanism to order the trustee to initiate proceedings against the issuer. Furthermore, the No Action Clause intends to prevent unequal treatment between bondholders. For those reasons, the court upheld the issuer's admissibility defence, setting a high threshold for bondholders to circumvent the No Action Clause.

Bond documentation interpreted according to the CAO norm

Given that the proceedings against the issuer failed in the admissibility phase, the merits of the case were only brought against the trustee. Here, the court turned to the question whether the trustee had violated the bond documentation. From the outset, the court confirmed that bond documentation must be interpreted according to objective criteria, with the wording of the provision generally being decisive. The intentions of the parties who prepared the documentation are irrelevant, unless they are evident from the documentation. The likelihood of legal consequences materialising under the different interpretations of the provision may also be taken into account. This interpretation standard is known as the "CAO Norm".

The court applied this standard by analysing the fallback provision and assessing the literal meaning of the text. The provision stipulates, amongst other things, that if the calculation agent does not determine the interest rate, "the Trustee (…) shall do so and such determination or calculation shall be deemed to have been made by the calculation agent." Furthermore, the fallback provision warrants that where the trustee determines the interest rate, it "shall do so in such manner as it shall deem fair and reasonable in all the circumstances." Based on a textual interpretation of the fallback provision, the court ruled that the parties intended for the trustee to determine the interest rate in certain circumstances. 

Not at odds with other provisions

The bondholders further argued that if the trustee was entitled to determine the interest rate, this would be contrary to the amendment provisions in the bond documentation. The court swiftly rejected this reasoning: by determining the interest rate based on the fallback provision, the trustee does not amend the bond documentation but rather applies it. 

Indeed, the court continued, if the bondholders' interpretation was correct, this counterfactual would mean that no interest rate could be established and therefore no interest would be paid. Such a legal consequence would be implausible and would not benefit the bondholders.

Prior consent solicitation and market practice: limited relevance

The bondholders finally raised two additional arguments. First, they argued that the issuer's earlier consent solicitation implied that the issuer itself believed the trustee could not determine the interest rate. Second, the bondholders pointed to market practice, under which it would be uncommon for a fallback provision to exist. 

The court dismissed both arguments. Under the consent solicitation, the issuer merely indicated its preference for a negotiated amendment without ruling out the trustee's fallback authority (which the consent solicitation memorandum itself expressly referred to). As for the alleged market practice, the court held that this was insufficiently substantiated, as the bondholders submitted only five prospectuses. These even included a comprehensive provision for determining the applicable interest (unlike the bond documentation assessed in this case).

More fundamentally, the court questioned whether either argument carried any weight under the CAO Norm in the first place. Under that standard, the literal wording of the documentation prevails. Therefore, even if the bondholders had further substantiated their claims, it is doubtful whether these factors (that is, communications from the issuer and market practice) could have played a role under the CAO Norm.

What the ruling means for the market

This ruling illustrates the legal framework governing disputes between bondholders, trustees and issuers. Crucially, (a) the No Action Clause sets a high standard under which bondholders are, in principle, prevented from initiating proceedings against the issuer directly, and (b) the judgment confirms that bond documentation must be interpreted according to the CAO Norm, meaning the literal wording of the documentation is decisive instead of the intentions of the parties. 

This confirms the prevailing view and leaves no room for bondholders to give an opportunistic interpretation to the bond documentation beyond its literal wording.