Merrill Lynch Receives Unanimous Reversal of Summary Judgment Decision

October 25, 2012

Cleary Gottlieb client Merrill Lynch on October 25, 2012 won a unanimous reversal from the First Department of the New York Supreme Court, Appellate Division of a summary judgment decision against Merrill Lynch.

In connection with four, multi-billion CDO transactions (involving the "Taberna" issuers), Merrill served as the counterparty pursuant to a hedge agreement for each transaction with the Taberna entities to hedge against interest rate exposure. The hedge agreements, documented under the 1992 International Swaps and Derivatives Association ("ISDA") master agreement, permitted Merrill to declare an event of default and terminate early for an uncured payment default by the Taberna entity. After a series of payment defaults, Merrill exercised that right with respect to all four transactions, and demanded that the indenture trustee pay it approximately $250 million in termination payments. Several noteholders challenged the validity of the terminations, asserting that the language of the Taberna indentures expressly prohibited early termination of the hedge agreements for a payment default.

Faced with competing directions, the indenture trustee brought an interpleader action in December 2010 in the New York Supreme Court, and, in March 2011, Merrill and the noteholders simultaneously filed motions for summary judgment. Cleary Gottlieb argued that for three of the four transactions, a provision in the hedge agreements provided for the hedge agreements to prevail in the event of conflict with the indentures and that, with regard to the fourth that did not have such provision, discovery was necessary to resolve any inconsistency between the agreements. The noteholders, in turn, sought to reconcile the hedge agreements with the indentures, focusing on what they argued was clearer language in the indentures in their favor. In November 2011, Justice Eileen Bransten of the Commercial Division rejected Merrill's arguments and awarded summary judgment in favor of the noteholders with respect to all four transactions and found Merrill's early termination to be invalid.

Cleary Gottlieb immediately moved for and obtained a stay from the First Department barring the indenture trustee from distributing the escrowed funds to the noteholders, then briefed and argued the merits of the appeal this past spring. In a 5-0 decision on October 25, 2012, the First Department agreed with all of Cleary Gottlieb's arguments, reversed Justice Bransten's decision and ordered that summary judgment be granted in favor of Merrill Lynch on three of the four transactions because Merrill Lynch had properly terminated the hedge agreements and thus had a right to early termination payments, and reversed and remanded the fourth transaction for discovery and further proceedings.