Creditors' Rights in Brazil after PEC 12The consequences to individuals, investors and Brazil's reputation of a Constitutional Amendment to allow the Default of Public Precatórios Debt in Brazil

May 14th, 2009

Precatórios and the PEC 12 2May 2009

Practicing attorney in São Paulo

President of the Special Precatório Commission at the Brazilian Bar Association (São Paulo Chapter) – OAB/SP

Vice-President of the Precatório Commission at the National Brazilian Bar Association

Flavio José de Souza Brando

Keynote Speakers

Partner at the law firm of Machado Meyer Sendacz e Opice Advogados

Focused on corporate, banking, infra-structure and public law

Extensive experience in transactions involving the analysis, purchase and securitization of precatórios, representing local and foreign investors and holders of precatórios

José Virgílio Lopes Enei

Dr. Flavio BrandoPresident of the Special Precatório Commission at the Brazilian Bar Association (São Paulo Chapter) – OAB/SP

Precatórios and the PEC 12 4May 2009

Precatórios: special judicial payment orders originated from civil claims against federal, state or municipal public government agencies with final judgment no longer subject to any appeal by the public entities

Default history:

1st default and restructuring (1988):

Payment plan: 8 annual installments

Government was allowed to issue bonds to pay the precatório debt

Outcomes: most proceeds were used for other purposes / precatório inventory grew substantially

2nd default and restructuring (2000):

10-year extension

Continuity of default: no real pressure from the Courts or any relevant political stress

Poor language resulted in high flow of appeals to Higher Courts

Misleading accounting: no adjustments to avoid tainting public accounts

Lack of attention by the market due to Brazilian macro-economic conditions (hyperinflation, etc.)

A History of Defaults

PEC 12: 3rd Official Default of Special Judicial Payment Orders

Precatórios and the PEC 12 5May 2009

“Real” plan provided better conditions: interest from professional investors as a way to diversify their portfolios

Estimated inventory of unpaid debt: US$50 billion

Federal Government is the only reliable debtor – all other states or municipalities are not

São Paulo State has not paid alimony precatórios since 1998 (11 years!!): US$6 bn and more than 600 thousand creditors

Potential precatório cases against the Federal Government: US$75 billion

Federal Government has US$500bn in past due taxes, São Paulo State has US$35bn and Municipality of São Paulo US$18bn: less than 1% is collected yearly

A 20% collection or a securitization of those credits would resolve the precatórios problem

Growing activism by lawyers and creditors to resolve the situation

Outcome was worst than expected (the potential 3rd default in precatório debt): the 2006 PEC 12

Recent History and the Seed for the PEC 12

PEC 12: 3rd Official Default of Special Judicial Payment Orders

Precatórios and the PEC 12 6May 2009

Cap or limitation calculated over annual revenues for payment of State and Municipal precatórios

0.6% to 2.0% of net revenues

No deadline for final payment

Limits are too low: Estimates indicate that city of São Paulo would take 26 years, State of Goias would take 90 years and Espirito Santo 100 years to pay down its debt

Lack of judicial stability for new investments in Government securities, infrastructure and etc.

Reduction of interest rates to savings account interest for all precatórios

Losses for creditors and investors – Federal precatórios are current and would not require such a “haircut” unless to benefit the Government (current rate is not above market – IPCA-E + 6% p.y.)

New PEC does not allow for the precatórios to be used as currency (taxes compensation, mortgage payments, retirement funds, etc.)

Only possibility: participate in reverse auctions where the debtor is the sole buyer

Strong influence by São Paulo’s Governor, José Serra

Unfavorable environment for new investments in infrastructure in Brazil

The PEC 12 is Born

PEC 12: 3rd Official Default of Special Judicial Payment Orders

Precatórios and the PEC 12 7May 2009

Approved in the Senate by unanimous vote

Currently in the House of Representatives (rapporteur: Mr. Eduardo Cunha, from PMDB party)

Large public demonstration in Brasilia last week: 2,000 lawyers, creditors and human rights activists

Legal opinion delivered to the President of the House and the rapporteur

Agreement to hold public hearings in 2 to 3 weeks

Mr. Cunha publicly stated that it is unconstitutional to (i) change any terms and provisions related to changes in interest rates of court decisions; and (ii) change the chronological order

Still, we remain cautious about those statements

Discuss alternative practical solutions to the problem, other than the default

Need allies, including Mayors and Governors (despite the difficult situation generated by the Global Crisis)

What’s next?

PEC 12: 3rd Official Default of Special Judicial Payment Orders

Precatórios and the PEC 12 8May 2009

Issuance of municipal and state securities guaranteed by the Federal Government to be swapped by the Precatório

Different terms and maturities

Could be used for alternative payments (such as overdue taxes, pension contributions, mortgage, etc.)

Contribution to investment funds on infrastructure or purchase of stock in Government owned companies

States and Municipalities are restless to renegotiate their overall debt with the Federal Government

A NEW PUBLIC JUDICIAL DEFAULT IS A CLEAR AND PRESENT DANGER

UNNAPEALABLE COURT ORDERS OF ANY NATURE MUST BE FOLLOWED BY EVERYBODY

PEC 12 REPRESENTS THE MOST SERIOUS THREAT DO THE BRAZILIAN DEMOCRACY AND ECONOMY AFTER THE MILITARY REGIME

Potential Alternatives

PEC 12: 3rd Official Default of Special Judicial Payment Orders