Georgetown University Law Center

Abstract

Network externalities may lead contracting parties to stay with a “standardized” term despite preferences for another term. Using a dataset of sovereign bond offerings from 1995 to early 2004, we test the importance of standardization for the modification provisions relating to payment terms. We provide evidence that (a) standardization may lead parties to adopt provisions not necessarily out of preference and (b) standards, nonetheless, may change. The process of change, however, is not necessarily quick or straightforward. In the sovereign bond context, change came by way of an “interpretive shock”. Contracts with modification provisions requiring the unanimous consent of bondholders (UACs) suddenly became vulnerable to change with less than unanimous approval through the unexpected use of exit consents. After the shock, sovereigns and investors did not initially react with a significant shift in contract terms. However, we provide evidence that after this initial lull (once investors and sovereign gained experience on the value of allowing modification of payment terms with less than unanimous consent), large shifts in contract terms followed, moving sovereign bond contracts even further away from UACs toward collective action clauses (CACs). We also report evidence that issuer’s attorneys dealing with a high volume of sovereign offerings were the driving factor behind this delayed large shift in contract terms. * Roger J. Traynor Professor of Law, University of California at Berkeley (Boalt Hall). ** Professor of Law, Georgetown Law Center. We thank Ed Bartholomew, Anna Gelpern, Ashoka Mody, Un Kyung Park, Anthony Richards, Anne Salladin, and Ashoka Mody for their advice and comments at multiple stages of the project. Lee Buchheit, Bill Bratton, and Bill Klein are owed special thanks for being willing to answer even our most outlandish and arcane questions regarding the world of bond contracts. Responsibility for errors, however, is ours. We are also grateful to Robert Ahdieh, Albert Choi, Jody Kraus, Kim Krawiec, Herwig Shlunk, Dan Tarullo, Randall Thomas, Robert Thompson, George Triantis, J.B.Ruhl, and participants at presentations at the Vanderbilt Law Shool, the Goergetown Sovereign Debt Conference, and the 2004 American Law and Economics Annual Meeting for comments on the draft. Jack DiMonte, Kevin Hands, Edeanna Johnson, Amita Singh, Mary Thompson, and Emily Zalesky were all generous in their assistance and advice on how best to track down sovereign debt contracts. Our respective law schools (Georgetown and Boalt) provided the financial support that enabled us to put together this project. Finally, our thanks to Jason Medinger, Chris Nace, Ann Kustoff, Chris McLean, Kirsten O’Connell, and the other editors of the Emory Law Journal and the Georgetown Journal of International Law for putting together the Georgetown Sovereign Debt Conference. Note on the Interviews that Served as Background for this paper: The research for this paper required us to conduct numerous interviews with both market participants and policy makers familiar with what went on in the sovereign markets during the 1995-2004 period. Most of these individuals, however, requested that we not directly attribute what was said to them. To the extent possible, therefore, we cite to publicly available documents to make the points in the paper. However, there are some instances where we are unable to provide adequate citations. For most lawyers, the task of reading and revising a boilerplate contract holds less attraction than a visit to the dentist’s office. That is why one of the perks of seniority at a law firm is being able to delegate the “update this old contract for our client” task to the most junior associate. After spending at least one frustrating and sleepless night unsuccessfully trying to decipher what the contract language means, the associate slowly begins to grasp the beauty of boilerplate. And that beauty lies in the realization that there is no need to understand the specifics of what the contract provisions say. After all, it is boilerplate....