The below is excerpted (citations omitted) from an article posted by Shearman & Sterling on December 20, 2021. The full article with citations is available here.
The scope of the mandatory choice-of-law rule set forth in Uniform Commercial Code (UCC) section 8-110(a)(1), which provides that “[t]he local law of the issuer’s jurisdiction . . . governs . . . the validity of a security,” is one of the important issues in the ongoing dispute between Venezuela’s state-owned oil company Petróleos de Venezuela, S.A. (PDVSA) and holders of its now defaulted notes that were scheduled to come due in 2020 (the “2020 Notes”).
The 2020 Notes were issued under an indenture governed by New York law. PDVSA argued that UCC section 8-110(a)(1) should override the choice-of-law clause in the indenture, that the question of the validity of the Notes should be determined on the basis of Venezuelan law, and that the failure to obtain National Assembly approval in accordance with section 150 of the Venezuelan constitution, a provision that requires National Assembly approval of all contracts of “national public interest,” renders the notes invalid under UCC 8-110(a)(1). The noteholders, on the other hand, responded that UCC section 8-110(a)(1) should not override the New York choice-of-law clause in the indenture because constitutional provisions of the type pointed to by PDVSA are outside the scope of UCC section 8-110(a)(1).
The United States District Court for the Southern District of New York decided in favor of the noteholders. On the choice-of-law question, the district court held that the validity of the 2020 Notes is governed by New York law and agreed with the noteholders that whether the 2020 Notes violated the Venezuelan constitution is outside the scope of “validity” in the context of UCC section 8-110(a)(1). That decision is currently under appeal to the United States Court of Appeals for the Second Circuit.
Professor Carl Bjerre, in his article Investment Securities, argues that the court misinterpreted the UCC and that the 2020 Notes’ alleged violation of the Venezuelan constitution renders them invalid. We disagree with Professor Bjerre’s interpretation. We note, but do not discuss further in this article, that the “issuer’s jurisdiction” is a term of art defined in UCC section 8-110(d) as “the jurisdiction under which the issuer of the security is organized or, if permitted by the law of that jurisdiction, the law of another jurisdiction specified by the issuer.” As such, if permitted by the domestic laws of the issuer’s jurisdiction of organization, New York will be deemed to be the issuer’s jurisdiction by virtue of the choice-of-law provision in the indenture. In this article, we instead focus on the scope of “validity” as used in UCC section 8-110(a)(1) and offer an interpretation that is consistent with the UCC’s drafting history and policy goals. In doing so, we explain why the constitutional issue raised by PDVSA is outside the scope of “validity” as used in UCC section 8-110(a)(1).