Should Africa Israel be liquidated?

Africa Israel Investments is the largest business group so far to ask bondholders to agree to let it reschedule repayments. Naturally, the maneuvers involved are extremely complex and require an intense presence of legal talent. TheMarker asked some legal experts to explain the issues at stake in the week following Lev Leviev's dramatic announcement that the company he controls probably can't repay bondholders on time after 2010.

The legal disputes between parties with differing interests already have begun to bubble. Global Finance, which has NIS 150 million worth of Africa Israel series B9 bonds, was the first to notify Leviev's board that it wants its money, and will not hesitate to take legal steps to collect the debt.

If a debt rearrangement is accepted, what steps should bondholders take just now? How is the status of the short-term bondholders different than that of the other bondholders, and can Leviev be forced to dig into his own pockets to pay creditors?

"There have been huge debt rescheduling arrangements before, such as that of Koor Industries in the 1980s," says Yehiel Bahat, a lecturer at Shaarei Mishpat College. "The bigger a group is, the greater the tendency to encourage a debt arrangement. In the current situation, there is particular sensitivity toward weaker groups, such as pensioners, for example, as any concession institutional investors make is essentially at the pensioners' expense."

Yossi Segev, an expert in handling companies in economic straits, says a company that seeks a debt rearrangement must be treated like a company at risk of insolvency, or as one that is already insolvent.

"If a company is insolvent, creditors can demand its liquidation," says Segev.

Is it better to wait for a debt rearrangement to be drafted, or to push for immediate liquidation?

"This is the first time the company is publishing a financial statement with a notice of uncertainty regarding its ability to pay bondholders, so there is no rush to demand liquidation," says Segev. "Liquidation is the only way to make sure all creditors receive an equal share. In the company's current situation, the creditors who are first in line will receive additional collateral, and the general public - those who bought shares, or others, such as the suppliers and employees - like always, will get the short end of the stick."

Then why has no one petitioned the court for a liquidation order yet?

"Because no bank is going to opt for liquidation when the debtor is providing more securities," explains Segev, "and I think this is simply wrong. The only right way to stop this muscling in is for a creditor to demand the company's liquidation and appoint someone who will make sure there is no discrimination between creditors. All the bartering and negotiations will halt if there is a petition for liquidation, because three months retroactive from the date of the filing of the petition, any transactions that result in discrimination are cancelled."

Bahat does not like the idea of liquidation.

"Even though there are many creditors who could petition for liquidation, the court will stymie such petitions as long as there is a chance for a debt rearrangement," he says, adding that most creditors will ask that liquidation be delayed while a debt rearrangement is being drafted.

Liquidation could be an efficient solution: The liquidation of a holding company like Africa Israel does not prevent the continued operation of the profitable subsidiaries. The liquidation could include the sale of assets, and creditors would receive their money faster than via a complicated economic recovery plan.

The problem is that Africa Israel's properties are not easy to sell at reasonable prices. Leviev has tried selling some properties in recent months, apparently with little success. Liquidation could also cause panic in the capital market and jeopardize bondholders and banks, which would have to make provisions for doubtful debt.

"The best thing to do is what Leviev is aiming for with a debt rearrangement - delaying payments, and in the meantime keeping the group operating until the global situation perks up and property values improve," says Bahat, who believes this is what the bondholders and banks should demand, since "Leviev can no longer be trusted."

Africa Israel has many bond series, each with a different redemption date. Leviev has announced that he has cash to pay bondholders whose bonds come due by 2011, but he has included these bonds in the debt rearrangement, too. The series B9 bondholders want out of the debt rearrangement and are threatening to sue, as their bonds come due this year.

Is it not reasonable for the series B9 bonds to be excluded from the debt arrangement?

"Legally, all creditors must be treated equally. Thus if a company is at risk of insolvency, all the creditors must be included in the debt arrangement."

"The real dispute," says Bahat, "is not between the company and its creditors, but between the various creditors - the bondholders, banks and others. The question should be how the Africa Israel pie can be increased, so that each creditor gets a larger piece."

What if Africa Israel acquiesces to Global Finance's demand?

"It would be improper for Africa Israel to favor one group [of bondholders] over another," says Bahat. "This would make all the other bond series and bank loans eligible for immediate redemption, which would result in many petitions being filed for liquidation or receivership. That would be the worst-case scenario."

What will happen if the B9 bonds come due during negotiations for the debt arrangement?

The experts concur that Leviev would have to ask the court's approval for such a payment, or for the payment to be delayed.

There are conflicts of interest between the short-term and long-term bondholders, as the timely payment of the bonds due in the near future will make it more difficult for Africa Israel to pay the long-term bondholders.

There are also conflicts of interest among the institutional investors, many of which own both shares and bonds in Africa Israel.

"The institutionals will have to vote, for example both at bondholder meetings for competing bonds and at shareholder meetings, whose stakes might be diluted by the debt arrangement," says Bahat. "An investment house might favor its interest as an Africa Israel shareholder, and be willing to make concessions in the bondholders arrangement."

Could that prevent the arrangement?

"Theoretically, yes," says Bahat. "The law requires a 75% majority vote in each group. One group could object and force the liquidation of the company, even though every group would receive less.

How can the court help in such a situation?

"By promoting a debt arrangement without a liquidation and by suspending creditors' proceedings against the company."

"Leviev needs the debt rearrangement," explains Bahat, "because theoretically every creditor could petition for he company's liquidation. The claim that the company has enough money until 2011 does not protect it from liquidation. In order to prevent the court from issuing a liquidation order, Africa Israel has to convince the court that the company is capable of repaying all its debts within a reasonable time frame in the event that they were all due now - even the ones whose redemption dates are a long way off. Since Africa Israel cannot convince the court of this possibility, or that there are banks lining up to extend loans, a liquidation order is not unlikely."

Why would long-term bondholders demand repayment now?

"Even if Leviev claims he has enough money to repay bondholders until 2011, this has no bearing beyond that date," continues Bahat. "Thus long-term creditors will not sit idly by, watching other bondholders getting paid and assets being sold to pay them, while the chances of the long-term creditors being paid grow steadily slimmer."

The long-term creditors need to protect themselves, and will therefore appeal to the courts. When each group petitions the court separately, and conducts its own hearings, the company's situation gets worse. For this reason there are special proceedings aimed at reaching an arrangement and halting individual debt collection proceedings. If there is no other option, the company will be managed by a liquidator - to stop each creditor from grabbing as much as he can, to the detriment of the others.

What about Leviev's private assets? Will he be required to sell them in a debt arrangement?

David Hahn, an insolvency expert at Bar-Ilan University, believes Leviev will have to open his own wallet.

"When the company has insufficient assets for paying all its debts, the company effectively belongs to the creditors," says Hahn. "Thus if Leviev or any other shareholder does not pay [creditors] from his own pocket, it is as if a new investor wants to join the company and Leviev will no longer have any rights to the company."

"There are two situations in which Leviev will have to sell private assets," says Segev, "if the debt rearrangement demands this, and Leviev agrees, or if it turns out that Leviev has personal responsibility for the company's state today."

"There could be individual suits against him for the exaggerated statements he made about the company's condition," says Bahat. "Furthermore, the big institutional investors have declared repeatedly that they will not agree to a debt rearrangement that harms bondholders, without concessions from the controlling shareholders. For example, the institutional bondholders could demand stock options in exchange for delayed payments.

Thus Leviev will probably not lose his entire fortune, as the creditors will still want him to be involved, both in running the company and in contributing his personal wealth.

Africa Israel declined to comment.