Selloff in Eike Batista’s OSX Bonds Is Just the Beginning

Eike Batista’s OSX Brasil SA is falling like never before in the bond market, and the prospect of a legal dispute over $800 million of collateral is a signal to Citigroup Inc. and Galloway Capital Management LLC that the worst is yet to come.

OSX’s $500 million of 9.25 percent notes due 2015 have slumped 7 cents to an unprecedented 79 cents on the dollar this month on speculation OGX Petroleo & Gas Participacoes SA, the oil producer controlled by Batista, won’t have the money to charter the tanker that secures the shipping unit’s notes. An OGX default would likely prompt OSX creditors to begin the process of seizing the ship to recoup their money.

While the ex-billionaire is selling assets and negotiating with OGX bondholders to buy the oil producer more time, OSX creditors face deeper losses because their ability to quickly take control of the vessel may be hampered by Brazil’s court system, Citigroup and Galloway said. Brazil ranks 143 out of 185 economies when it comes to settling insolvencies, according to the World Bank. The process takes about four years, more than twice as long as in the U.S., while recovery rates average 15.9 cents on the dollar versus 81.5 cents.

“What lies ahead is the potential for a deterioration of the credit amid a lack of expediency and urgency within the Brazilian legal system,” Ulisses de Oliveira, a money manager at Sao Paulo-based Galloway, which oversees $400 million of assets, said in an e-mail. OSX “bondholders could very well get bogged down in Brazilian legal battles with equity holders, quasi-sovereign creditors and local general creditors trying to get a hold of real assets to satisfy their own claims.”

OGX Plunge

OSX declined to comment on the prospect of the ship’s seizure and the performance of their bonds. OGX declined to comment in an e-mailed response to questions. EBX Group Co., the parent to both companies, didn’t respond to an e-mailed request for comment.

OGX’s $2.56 billion of bonds due in 2018 have plunged 69 cents this year to 20.3 cents on the dollar on speculation the company will run out of cash after failing to deliver the oil output that Batista promised. That would pave the way for what would be the biggest-ever corporate default in Latin America, data compiled by Bloomberg show.

Batista created OSX to supply, charter and run vessels for OGX, which last week fired Chief Financial Officer Roberto Monteiro. The company is negotiating with bondholders to secure additional capital.

OGX said today that it appointed Paulo Narcelio Simoes Amaral, a former telecommunications executive, to replace Monteiro as CFO.

Lawyers Hired

If OGX can’t raise more money, or if the oil field the ship is going to proves unproductive, OSX bondholders will probably try to seize the vessel. The ship is anchored off the coast of Rio de Janeiro, Bloomberg ship-tracking data show.

OSX bondholders have already hired law firm Bingham McCutchen LLP to help them navigate the process of taking control of their collateral, according to two people briefed on the arrangements who asked not to be identified because they’re not authorized to speak publicly.

Timothy Desieno, a partner at Bingham, declined to comment on the law firm’s business with OSX.

OSX’s bonds will probably fall further, Bevan Rosenbloom, an analyst at New York-based Citigroup, said in report to clients dated Sept. 16.

‘Seizure Process’

“We believe the process of collateral seizure is uncertain and could take time which would mean bonds not receiving coupon payments up to 12-18 months,” Rosenbloom wrote. “Such action would not occur in a vacuum and will likely involve many other parties, including both other creditors and other OSX and EBX entities as debtors, thereby adding to risk that any seizure process could be long and protracted.”

Rosenbloom declined to comment beyond the report.

Miami-based World Fuel Services Corp. sued OSX and EBX last week for 19 million reais ($8.6 million) in unpaid obligations tied to fuel provided to transport the ship from Singapore to Brazil, according to court filings. The company is requesting that a Rio de Janeiro-based judge block the ship, known as OSX-3, from leaving Brazilian territorial waters.

OSX has asked state-development bank BNDES and federally controlled Caixa Economica Federal, Brazil’s fourth-largest bank by assets, to extend maturities on debt due next month for at least a year, newspaper Folha de S. Paulo reported last week without saying how it got the information. OSX is also in negotiations with Banco Votorantim SA and Banco Santander Brasil SA, which provided guarantees for the loans, and oil and gas industry supplier Techint Group, which it owes at least $100 million, according to Folha.

‘Unfair Treatment’

BNDES President Luciano Coutinho said in an interview at Bloomberg’s headquarters in New York on Sept. 18 that the country has the institutions and the market mechanisms in place to handle a large-scale restructuring in an orderly fashion and in a way that respects all stakeholders.

“So far, I have no indication of unequal or unfair treatment between creditors,” Cuoutinho said. “The behavior of Mr. Batista has been so far fair and correct. This is a good example of how trouble in a big group is being resolved through market mechanisms.”

The extra yield investors demand to own Brazilian government dollar bonds instead of U.S. Treasuries climbed one basis point, or 0.01 percentage point, to 221 basis points at 3:36 p.m. in New York, according to JPMorgan Chase & Co.

Default Swaps

The cost of protecting Brazilian bonds against default for five years climbed five basis points to 162 basis points. Credit-default swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent if a borrower fails to adhere to its debt agreements.

The real strengthened 0.5 percent to 2.2 per U.S. dollar. Yields on interest-rate futures contracts due in January were unchanged at 9.24 percent.

Brazil ranks below countries including Egypt, Argentina and Pakistan when it comes to weaknesses in existing insolvency law and procedural and administrative bottlenecks that slow bankruptcy processes, according to the World Bank’s Doing Business project.

OSX’s notes have declined from a record high 105.7 cents on the dollar earlier this year after the company failed to issue a second bond in March and OGX canceled leases for other vessels.

“Thus far OSX’s bonds have fallen purely from a combination of a failure of the company to place new financing, the return of OSX-2 in particular, and the increase in the credit risk perception of OGX,” Galloway’s Oliviera said. “The market hasn’t started pricing any Brazilian legal risk at all.”

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